As far as taxes go, repairs to a rental property are always better than improvements. Why? The entire cost of a repair is deductible in a single year, while the cost of an improvement to the rental property may have to be depreciated over as much as 27.5 years.
Here’s the basic rule from the IRS: An expense is for an improvement if it:
In contrast, expenses you incur that don't result in a betterment, restoration, or adaptation are currently deductible repairs.
Here are some tips to help you ensure that an expense will constitute a repair, not an improvement.
There is no law that says that if something in your rental property is broken it has to be replaced. A replacement is almost always an improvement—not a repair—for tax deduction purposes. You’ll obtain the best tax results if you patch, mend, or fix things that are broken, instead of replacing them. For example:
You’ll be able to deduct the entire cost of repairs in a single year, rather than depreciating them over as many as 27.5 years. Moreover, repairs are usually much cheaper than replacements.
Of course, sometimes an item is so old or worn out, it makes more economic sense to replace it. Also, tenants like shiny new things and sometimes it pays to keep your tenants happy. You should factor these things into the repair or replace equation, plus the fact that you may be able to charge more rent for a unit with new appliances, carpets, or other amenities than one with old mended appliances or other things.
(Learn more about the many tax deductions for landlords.)
When you fix something that is broken you should use the same quality materials and parts it contained originally. Your goal is to restore the item to the condition it was in before it stopped working, not to make it better. Upgrades are usually improvements, not repairs. In one case, a landlord who replaced wooden roof shingles with better composition shingles was found to have made an improvement.
Good documentation is the key to winning any argument with the IRS. Here are some tips for properly documenting your repairs.
Repairs to rental property usually happen after a tenant complains. Document the complaint by writing a note—this can be on your calendar, appointment book, or on an invoice a repairperson gives you. This will help show that something was broken and you had it fixed—which is what a repair is. (For a sample written request for repair form, see Every Landlord’s Legal Guide, by Marcia Stewart, Ralph Warner, and Janet Portman (Nolo).)
Get an invoice for every repair. Make sure it describes the work in a way that is consistent with a repair, not an improvement. Good words to use include repair, fix, patch, mend, redo, recondition, and restore. An invoice should not include any words that indicate an improvement—for example: improvement, replacement, remodel, renovation, addition, construction, rehab, upgrade, or new. Of course, your invoice will not, by itself, establish whether something is a repair or an improvement—the facts must be consistent with what the invoice says.
Make sure your repairs are classified as such in all your books and accounting records. This problem can easily crop up if you have a bookkeeper or accountant do your books—they may list a repair as a capital improvement. If an IRS auditor sees this, it will be curtains for your repair deduction.
If you’re doing an extensive repair, take before and after photographs to show the extent of the work and that the property has not been made substantially more valuable. Using a digital camera is a good idea because the photos will be automatically dated.
Maintenance means taking steps to prevent your property from breaking down or deteriorating. Preventive maintenance costs are always currently deductible operating expenses. A great way to avoid the repair versus improvement hassle—and to keep your tenants happy—is to keep your rental property well maintained. This will prevent it from breaking or wearing out quickly, thereby avoiding the need for replacements. Examples of preventive maintenance include periodically changing the filters on your heating and air conditioning system, and installing zinc control strips on a wood shake or shingle roof to keep fungus and algae away.