Airbnb hosting is a great way to meet new people and make extra money but watch out for IRS and the state taxing authorities because they want their “cut on the action”. We’ve compiled ten tax planning strategies you can implement now so that you can keep more of your hard earned money:
1. Know Your Starting Point.
The first thing you need to do before tax planning is to assess whether you’re expecting more or less taxable income next year to help determine whether you should accelerate or delay your income and tax deductions. The general rule of thumb is to delay income until next year and accelerate deductions this year to lower your taxable income. However, if you’re anticipating a huge pay increase from a work promotion or projecting to generate more income as a Super Host next year, it may be wise to do the opposite (i.e., accelerate income this year and delay your tax deductions until next year) so you don’t get pushed into a higher tax bracket next year.
2. Delay Your Income.
According to IRS Publications 538, a cash basis taxpayer should recognize income upon receipt of the funds rather than based upon when it was actually earned so one way to delay receiving payments from Airbnb is to set a high minimum payment amount. This feature is optional but if selected, Airbnb will hold your funds until you reach a payout amount over the minimum you’ve set. Make sure you time it so you get paid around January/February of next year. You can set your minimum payment amount by going to your Account > Payout Preferences > Options > Set Minimum Payment Amount.
3. Accelerate Your Deductions.
As cash-basis taxpayer, expense is recognized when you pay the bill and not when you incurred the expense, therefore, pay your bills (e.g., utility, cleaning, commercial insurance) in advance of the due dates. If you paid your business-related purchases with your credit card, you still get to deduct the expenses the year of purchase and not the year you paid off your credit card. Be careful, though. If you own your home, you can pay your mortgage and property tax in advance and get the deductions but if you’re renting and paying rent in advance, you can only deduct the amount that applies to your use of the rented property during the year and not the entire amount.
4. Determine Business vs. Rental.
If, on average, you rent out your space for 7 days or less (which is most Airbnb hosts) or 30 days or less if you’re providing significant personal services, then your income might be business related and not rental. Furthermore, the IRS Publication 527 says that your activity is business if you provide substantial services that are primarily for your tenant’s convenience (like services one receives from hotels and bed & breakfast establishments).
Why is the distinction important?
Businesses are subject to self-employment taxes while rentals are not (due to its passive nature like stock investments). One way to ensure you qualify to file under Schedule E is to avoid providing substantial services and list your space with a minimum of 30 days. If that option is not financially feasible for you, you should calculate and pay your quarterly estimated tax obligations to avoid any underpayment penalty and interest.
5. Split Your Income.
If you have a business partner, you should split the payment right away so that one person is not stuck with the tax bill. To do so, go to Account > Payout Preferences > Add a payout method > Add a payout routing rule. Both you and your partner will receive an IRS Form 1099 to report to your respective tax returns. Keep in mind that using this feature doesn’t apply retroactively. If it’s already too late for you, you should consult a tax advisor for guidance. One way to split income is through the tax form where one partner claims all the 1099 income and then deducts commission expense while the other partner reports their portion of the revenue.
6. Avoid Over-Withholding.
Submit your tax information by completing the IRS Form W-9 through the Airbnb Help Center. Otherwise, Airbnb is required to withhold 28% (as of 8/2015) from your payouts and remit the amount to the IRS. If your tax liability is less than your withholding, you’re entitled for a tax refund at the end of the year. Bottom line: don’t let the IRS hold on to your money interest free. As the old adage go: “a dollar today is worth more than a dollar tomorrow”.
7. Track Your Gross vs. Net Earnings.
Make sure you reconcile the amount you receive in the bank versus the amount reported to the IRS. The Form 1099-K that you are going to receive from Airbnb reports your total gross earnings therefore you have to make sure you deduct the 3% host fee in your tax return. If you go to Account > Transaction History, you can export your transactions in a csv file (excel sheet) and you can sum your host fees which is tax deductible. You should also track your referral bonus and refund because even if you don’t receive a 1099 form, it is still your obligation to report the amount.
8. Increase Your Space.
If you plan to rent out your entire space and use it exclusively for business, then you’ll be able to deduct 100% of your rent, mortgage, utilities, cleaning fees, and other expenses. But if you are only planning to rent out a portion of your space, you should start thinking about expanding your exclusive rental space.
For example, renting out 200 sq. ft. out of your 1200 sq. ft. loft, you’ll be able to deduct about 17% of your business expenses but if you expand to 400 sq. ft., then you’ll be able to deduct 33.3% of your rent, mortgage, utilities, and other expenses. If your average business spending is $50k/year, that’s an additional savings of roughly $8k! Be careful, though. IRC 280A is serious about exclusivity and limiting deductions for personal use of home.
There have been multiple court cases (e.g., CHARLES E. AND SANDRA A. ANDERSON, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent) where the common spaces like kitchen area are disallowed because it’s not exclusive only to guests. So make you’re calculating your percentages accurately or contact a tax advisor.
9. Capture All Your Deductions.
The most important of all tax strategies is remembering to claim all your business expenses and mileage on your tax returns; otherwise, all your efforts for the year are wasted unless you file an amended return (which costs money). It will be very easy to forget the business expenses you’ve incurred a few months ago unless you do an amazing job tracking, organizing, and documenting your deductions. There are many financial and mileage tracking apps in the marketplace today so make sure you automate some of your administrative burden.
10. Hire a Tax Professional Early.
A good accountant who knows how to handle taxes for Airbnb hosts is hard to find. Many tax preparers at retail establishments may not understand the nuances of Airbnb taxation. Doing your own taxes is time consuming and many of the self-preparation software in the marketplace are not equipped to handle complex situations. You should have a go-to accountant for general tax questions throughout the year.