Tax planning for vacation home owners.

• Author: Ellentuck, Albert B.

All vacation homes are not treated the same. Instead, the amount of personal and rental usage dictates how the property is treated for tax purposes. While an owner's use of the property will normally be driven by nontax considerations, the tax implications cannot be ignored.

Practitioners should discuss the various tax treatments (i.e., residence, vacation home or rental property) with clients to ensure they are receiving the tax treatment or tax benefits they expect. In some cases, it may simply be a matter of advising a client to either slightly increase or decrease personal usage so that the desired tax treatment is achieved. Also, it is important to make clients aware of the types of usage that qualify as personal usage, so they do not mistakenly believe that only their direct personal usage is counted.

The following points are some of the considerations practitioners may want to pass on to clients. Because each client's tax situation is different, determining the most beneficial use from a tax perspective requires an overall analysis.

Understanding the 14-Day/10% Rule

Because a client has more control over the personal use of his or her vacation home than just about any other factor, understanding how this rule works is a key point in maximizing vacation home write-offs. If, for example, a client wants to write off an anticipated loss, his or her personal use cannot exceed the 14-day or 10%-of-rental-days threshold.

Passive Loss Restrictions

If a property qualifies as a rental with personal use less than the greater of 14 days or 10% of rental days, the passive loss rules normally apply. If the property is thus treated as a rental activity and the taxpayer is eligible to claim the special $25,000 rental real estate loss allowance, it may be beneficial for the taxpayer to monitor personal usage closely to ensure such use does not exceed the 14-day/10%-of-rental-days test. Alternatively, many vacation home rentals fall victim to the less-than-seven-day rental-period exception to the passive loss rental activity rules. These rentals are not eligible for the special $25,000 rental real estate loss allowance and, instead, the owner's material participation becomes a factor.

Loss of Mortgage Interest Deductions

Whenever a vacation property qualities as a rental with personal usage (because personal use was not greater than 14 days or 10%), the portion of the mortgage interest allocable to the owner's usage is no longer deductible; the...