Top Tax Deductions for Second-Home Owners

If you’re thinking about buying a second home for vacations, rental income, or an eventual retirement residence, it makes financial sense to take advantage of all the available tax breaks. After all, you can significantly reduce the cost of owning a second home by claiming tax deductions for mortgage interest, property taxes, and rental expenses.

The Tax Cuts and Jobs Act (TCJA) changed how tax breaks work, in ways such as reducing the mortgage interest deduction. Still, even with these changes, there are helpful tax breaks that can help make owning a second home more affordable. Here’s a quick rundown.

Key Takeaways

The Tax Cuts and Jobs Act changed the way many tax breaks work.
Different rules apply to the mortgage interest deduction depending on whether your second home is considered a personal residence or a rental property.
You can deduct interest on home equity loans, but only if you use the funds to buy, build, or substantially improve the home.
If the home is considered a rental property, you can deduct costs related to owning and operating the property.
You may also be able to pro-rate expenses and deduct costs related to a property based on the time spent as a rental property compared to a personal property.

Mortgage Interest Deduction

The mortgage interest deduction has long been praised as a way to make owning a home more affordable. However, the TCJA, signed into law in December 2017, changed how much you can save through mortgage interest deductions for both primary residences and second homes.

If the second home is considered a personal residence, you must file Form 1040 or 1040-SR and itemize deductions on Schedule A to claim the mortgage interest deduction. Additionally, the mortgage must be a secured debt on a qualified home in which you have an ownership interest.

In most cases, single filers and those married filing jointly can deduct all of their mortgage interest on up to $750,000 of mortgage debt. This rule applies to any personal residence, whether it's your first or second home. The previous limit was $1 million of mortgage debt, which still applies on home loans taken out before Dec. 16, 2017.

Different tax rules apply to the mortgage interest deduction depending on whether your second home is considered a personal residence or a rental property. With rentals, the number of days you rent the property—as opposed to living in it yourself—also comes into play.

Mortgage Interest Deduction—Personal Residence

If your second property is considered a personal residence, you can deduct mortgage interest in the same way you would on your primary home—up to $750,000 if you are single or married filing jointly. The limit is $375,000 if you’re married and filing separately.

To qualify for the deduction, the mortgage must be a secured debt on a qualified home you own, and you must itemize your deductions by filing Schedule A. According to the IRS, a home is "qualified" if it's your main home or a second home. The home can be a house, condominium, cooperative, mobile home, house trailer, boat, or similar property, as long as it has basic living accommodations (e.g., sleeping, cooking, and toilet facilities).

The $1 million mortgage interest limit will return in 2025 when the TCJA expires unless lawmakers act to keep the law in place.

Mortgage Interest Deduction—Rental Property

The rules are more complicated if you rent out the property for part or all of the year. What matters is the breakdown between personal and rental use. If the IRS views the home as an investment property, you can't claim the mortgage interest deduction—but you can deduct mortgage interest as a business expense to lower your rental income.

Your use of the property will fall into one of three categories:

Use Often, Rent Rarely

You don't have to report rental income to the Internal Revenue Service (IRS) if you rent your home for 14 days or fewer during the tax year.

The house is considered a personal residence, so you can't deduct rental-related expenses like advertising and utilities. However, you can deduct mortgage interest and property taxes as you would with any home.And, when you sell the property, it will be treated as a personal residence, not an investment property.

This rule applies even if you rent your home for $10,000 per night. Section 280A(g) of the Internal Revenue Code says the money doesn’t need to be included in your gross income, provided you rented the home for fewer than 15 days per year.

Use Rarely, Rent Often

Your home is considered a rental property—and not a personal residence—if:

You rent it out for more than 14 days per year
Your use of the home doesn't exceed the greater of 14 days or 10% of the days it's rented

Because the home is considered a business, you can deduct rental expenses, including mortgage interest, property taxes, insurance costs, property manager fees, utilities, and property depreciation. However, you must report any income from the property as rental income, and that income will be taxed as ordinary income according to your tax bracket.

It’s worth noting that days spent maintaining or fixing the property don't count as personal use days. So, it's possible to exceed the 14-day limit if you stay at your property to perform a repair. Plan to document your maintenance activities by retaining receipts to prove you weren’t just vacationing on those days.

If you use your second home for both personal and rental purposes, you generally must divide your total expenses between personal and rental use based on the number of days you used it for each purpose.

Use Some, Rent Some

Your second home is considered a personal residence—and not a rental property—if you:

Rent it for more than 14 days per year
Use it for more than the greater of 14 days or 10% of the total days the property was rented

This means you can deduct mortgage interest and property taxes as you would with any home. You can deduct rental expenses, but only up to the level of rental income (e.g., you can't claim rental losses).

Here's a recap of the different scenarios:

14-Day Rental Rules
	Personal Residence	Rental Property	Personal Residence
Rental status	Rental days ≤ 14	Rental days > 14, personal days ≤ 14	Personal days > 14 or 10% of rental days
Income tax on rental revenue?	No	Yes	Yes
Rental expense deductions?	No	Yes	Yes
Tax forms	Schedule A	Schedule E or C	Schedule A, E, or C

If a member of your family uses the property (including your spouse, siblings, parents, grandparents, children, and grandchildren), those days count as personal days unless you are collecting a fair rental price during those family stays.

Home Equity Loan Interest Deduction

In addition to the mortgage interest deduction, you may be able to write off interest on a home equity loan. However, the TCJA has changed these rules as well.

Previously, you could borrow against home equity and take a deduction on the interest regardless of whether you used the proceeds to pay off a credit card, take a vacation, or buy a second home. Now, you can deduct interest on home equity debt only if you use the funds “to buy, build, or substantially improve the taxpayer’s home that secures the loan.”

Under these provisions, if you want to deduct interest on a second home, you must have a mortgage on it. If you borrowed against the equity on your first home to finance the purchase of your second home, you can't deduct the interest. Like a mortgage, you can deduct interest on up to $750,000 in home equity debt if you are single or married filing jointly ($375,000 if married filing separately).

The mortgage interest deduction limit applies to all of your mortgage and home equity debt. If you already have $750,000 or more in mortgage debt, you can't claim an interest deduction on home equity loans exceeding that amount.

Property Tax Deduction

You can deduct property taxes on your second home and, for that matter, as many properties as you own. However, the TCJA has also brought changes that affect those deductions.

You can no longer deduct the entire amount of property taxes you paid on real estate you own. Now, the total of state and local tax (SALT) eligible for a deduction—including property and income tax—is limited to $10,000 per tax return, or $5,000 if you’re married and filing separately. Many people who buy a second home may already exceed that limit with their first home, so they may not see additional tax savings from their second home.

Selling Your Second Home

If you sell your primary residence, you can exclude up to $250,000 in capital gains from your income, or up to $500,000 if you're married and file jointly. However, this is for sales of primary residences only. When you sell your second home, you must pay a capital gains tax on your entire profit.

Making the second home your primary home could potentially lessen the capital gains hit. To do so, you would need to live in the second property for at least two years out of the five years before selling it. This would qualify the property as your primary residence. Also, to be eligible for the exclusion, you must not have taken the capital gains exclusion on the sale of another home during the previous two years.

1031 Exchanges

If you hold a second property for business or investment purposes, you might be able to defer capital gains taxes under a 1031 exchange. Known as a like-kind exchange, this involves selling the property and replacing it with a similar property (both properties must be located in the U.S.). When you sell the initial property, you must identify a replacement property within 45 days and acquire it within 180 days. Capital gains are then deferred until the replacement property is sold (although it is possible to continually defer taxes with further like-kind exchanges).

You must meet several conditions to qualify for a like-kind exchange:

You must own the property for at least two years before selling.
In each of the two 12-month periods before the sale, you must have rented the property for at least 14 days.
Your personal use of the property can't exceed the greater of 14 days or 10% of the days the home was rented.

The replacement property must also meet these same conditions:

It must be held for at least two years after the like-kind exchange.
It must be rented for at least 14 days per year.
The period used for personal enjoyment cannot exceed the greater of 14 days or 10% of the days the home was rented.

Because tax laws are complicated and change periodically, it’s advisable to consult with a qualified real estate tax specialist who can explain relevant tax implications and laws and help you determine the most favorable ownership strategy for your situation.

Example of Second Home Tax Deductions

Imagine a married couple who recently purchased a second home as a vacation retreat. They are excited about their new property and want to explore the potential tax deductions available to them. The couple is considering renting out the property part-time, though they do plan on residing at the property for part of the year.

The couple understands there will be material operating costs and other expenses relating to the property, especially if they decide to rent. Because they aren't too sure what those expenses look like, they are amicable to selling the property in the short-term if it makes financial sense. For the bullets below, assume the couple will submit their tax return with a married filing joint status.

Consider the following tax deductions the couple may make:

Mortgage Interest Deduction: Say the couple bought their home after December 2017, and their mortgage does not exceed $750,000. If they file their tax return as a joint return, they may file Schedule A of their tax return and may be able to itemize this deduction.
Property Tax Deduction: Assume the property taxes on each property the couple owns is $4,000. The couple is may also permitted to deduct the property taxes they pay on their second house. Together with the property taxes for their primary house, these taxes may be itemized on Schedule A. Be mindful that 100% of the property taxes may be deducted, though the aggregate total deduction for state and local taxes is limited to only $10,000 each year.
Rental Income Deduction: The couple may be qualified for a number of deductions if they choose to rent out their second house for a portion of the year. They are able to write off charges like advertising, cleaning, property management, repairs, and upkeep that are directly connected to renting the property.

Pro-Rated Expense Deduction: In addition, the couple is planning on residing at the vacation place from time to time. Therefore, they can potentially write off a portion of their property taxes and mortgage interest depending on how often they rent out their house as opposed to living there themselves.
Capital Gains Exclusion: If the couple changes their mind and decides to sell their vacation property in the near future, they might struggle to be eligible for a capital gains exclusion. They would be able to deduct up to $500,000 as a joint couple in capital gains from their taxable income if they owned and utilized the property as their primary residence for at least two of the five years prior to selling.

Is Rental Income Taxed As Ordinary Income?

Maybe. If you rent out your home for more than 14 days during the year, you must report the revenue on your tax return, and the net income is taxable as ordinary income. If you rent out your home for 14 or fewer days, you do not have to report or pay taxes on the income.

What Happens If You Don't Report Rental Income?

If you rent out your home for more than 14 days, you must report the income on your taxes. If you're required to report the income—and you don't—you'll be committing tax fraud, which can lead to fines and even jail time. The IRS can discover unreported rental income through tax audits triggered by random selection, computer screening, records matching, and third-party reporting.

Are Second-Home Expenses Tax Deductible?

Yes, but it depends on how you use the home. If the home counts as a personal residence, you can generally deduct your mortgage interest on loans up to $750,000, as well as up to $10,000 in state and local taxes (SALT). If the home is considered an investment property (according to IRS rules), you can deduct expenses related to owning, maintaining, and operating the property.

Is Home Equity Loan Interest Tax Deductible?

Maybe. You can deduct the interest you pay on a home equity loan or home equity line of credit (HELOC) only if you use the money to "buy, build, or substantially improve your home." If you use the funds to pay for, say, a vacation or college, you can't deduct the interest.

The Bottom Line

If it’s financially feasible, owning a second home can be an excellent investment for vacation or rental purposes, and it could also provide a suitable primary home during retirement. Still, owning any home carries a significant financial burden, from mortgage and taxes to maintenance and repairs. It's in your best interest to learn the tax implications for second-home ownership before jumping in—and work with an experienced tax specialist if you need clarification or guidance.