Accounting for Your Rental Real Estate Property: Part 1

Uncovering how to grow your wealth and bring on an additional revenue stream can be a tricky task for many individuals. However, one industry with low barriers to entry, possible minimal maintenance, and the ability for passive income stands out.

Rental real estate is a growing industry with 20 million rental properties as of recent studies with this figure increasing with the housing market boom. Getting an accepted offer on a property is only the first step of running a successful rental with implementing adequate accounting controls being the next step on your to-do list.

What Income and Expense Items Should I Keep Track Of?

There are two items you need to keep track of in your rental real estate: income and expenses.

Income

Income is all the money you earn, which will primarily be rental income. Any income that is directly tied to your rental should be kept track of.

General forms of income could be:

• Rental Income

• Interest income on the business bank account

• Non-refundable security deposits

• Insurance proceeds from damaged property.

• Advance Rent

• Fees, such as termination fees

• Tenant paid expenses normally belong to the landlord (fixing the shower)

• Property services in lieu of rent such as landscaping services in exchange for rent

Expenses

The other category of transactions to keep track of is your expenses. Expenses are every cost related to your rental business.

Common expenses you can expect to see in your rental include:

• Mortgage payments

• Property insurance

• Property taxes

• Utilities

• Depreciation

• Cleaning

• Repairs

• Maintenance

• Professional fees (CPA’s and Legal)

• Snow removal

• Bank charges/HOA Fees

• Pest Control

• Advertising

• Property Management

• Material & Supplies

• Licenses & Permits

• Travel Mileage

• Home Office

• Meals

These income and expense items are general, meaning your rental might incur other items. Also, keep in mind that short-term rentals, such as those on AirBnb and Vrbo, can follow the same procedures and transaction tracking as a regular rental.

How Should I Keep Track of Items Related to My Rental?

Once you understand which items to keep track of, you can start implementing strong recordkeeping policies and procedures. There are a few different suggested ways to properly manage your income and expense items. The more controls you have in place, the easier it will be when lenders ask for financial statements or tax season rolls around.

Separate Business Bank Account

At a minimum, you should have a separate business bank account for your rental real estate property. All transactions related to the property should flow through this account. This not only makes it easy to determine qualifying transactions, but it can also help separate business and personal liability. When you are sued and you run all your expenses and income through a personal bank account, the courts may go after your rental property as payment for outstanding damages.

If you haven’t done so already, set up a separate LLC for your rental property. This step is essential if your rental property is jointly owned since you will need to file a business return. Then, apply for an Employer Identification Number. Your business name, address, and EIN will be used to open a business bank account.

Receipts

Receipt retention has greatly diminished in the past decade with the use of technology; however, physical receipts may be needed to substantiate your deductions if your rental property is selected for an audit. The IRS suggests you keep receipts for at least 3 years, which is the amount of time they have to go back and audit past tax returns. You should keep receipts if they pertain to any of the following categories:

• Income – deposit tickets, invoices, receipt books, Form 1099-MISC

• Purchases – canceled checks, credit card and bank statements, invoices

• Travel and transportation items

• Assets – purchase documents, qualifying improvements

• Employment taxes – wages associated with property managers you directly pay

Many business owners find that scanning in receipts is more beneficial compared to throwing them in a folder. This ensures an electronic copy is available in the event of an audit. Nevertheless, you can implement whatever receipt retention policy works best for you.

Accounting Software

One of the most common ways to keep track of transactions is through an accounting software. Not only are these systems affordable with low monthly costs, but they also save you an enormous amount of time. Most transactions automatically import from your bank and credit card accounts, leaving you to review and reconcile the books.

An accounting software can also save you the hassle of hiring a bookkeeper to reconcile accounts and manage transactions. Moreover, accounting software programs give you the ability to generate key reports, such as your income statement, which can help you plan for tax season.

What Bookkeeping Procedures Should I Implement?

Every business needs bookkeeping regardless of size or industry. Bookkeeping for your rental real estate property is relatively simple and should only take you a few hours each month, especially with an accounting software program working alongside you.

On a monthly basis, you should be reconciling all bank and credit card accounts. This entails comparing your records with bank statements to ensure all transactions are recorded and no mistakes exist. Then, you should review your financial reports, such as the income statement, balance sheet, and accounts receivable aging. These reports tell you where your rental business stands.

On a quarterly basis, you will need to review profit to determine if any estimated tax payments are needed on your individual return. Finally, on a yearly basis, you will pull the financial statements your accountant will use to prepare your tax returns. If you feel overwhelmed with your bookkeeping, contact a professional.

Summary

Understanding how to properly manage your rental real estate property is a high priority to ensure accuracy and completeness on your tax return. Finding the right policies to implement is critical to growing your rental property into a profitable business, especially if you are considering purchasing additional properties down the road.

Your rental real estate property accounting flows into the tax return you will file. Luckily, rental properties come with tax advantages that can help you reduce your taxable income! To uncover the taxes you might be subject to, go to the next part of this series here.