Matthew Durfee travels frequently for his work with a nonprofit. However, at age 25, he’s not looking to stay at expensive hotels. Instead, he scours Airbnb for low-cost rooms that fit his budget and provide a convenient place to land each night.
The Dimondale, Michigan resident recalls the great room he scored in Nashville for $63. Then, there was the shed that was converted into a small house in Portland, Oregon. Sometimes his room requires he share space with several people. Other times, there are fringe benefits. Durfee remembers one host who was gone during his visit. “She left me three mini quiches to eat,” he says.
[Read: 7 Things to Remember Before Renting Out a Room.]
While Durfee is finding deals, the people on the other side of the equation are making money by renting out their unused space. It seems like an attractive way to boost income without much effort, but tax and property experts say renting out your house or a room could cost you if you don’t pay attention to the following five things.
You need to adhere to local zoning, permitting and taxing rules. Don’t assume you can simply list your house for rent and start collecting money. Many cities have specific rules that must be followed, including where in the community rentals are allowed, what permits are required and whether an occupancy tax must be collected.
“The problem is these things are changing often,” says Stacy Brown, franchise operations manager for Real Property Management in Salt Lake City. Using a listing site like Airbnb may help since it provides some guidance on the laws in major markets. They may even collect necessary occupancy taxes on your behalf.
However, even with these services, property owners should double-check the regulations for themselves since noncompliance can result in hefty fines. Portland, for instance, issues fines of up to $5,000 to homeowners who don’t have the proper permit.
Your homeowners insurance may not be enough. Even if your city allows renting out your property, you may be leaving yourself open to significant losses if you don’t have the right insurance. A homeowners policy may not provide coverage if a renter is injured on the premises or steals something from the property.
“I would suggest [people] talk to someone in the property management space,” Brown says. They can provide insight into which policies and what level of coverage may be appropriate to properly insure a short-term rental property. Without it, a personal injury on the property could result in significant legal and medical bills that must be paid out-of-pocket.
You might have to pay income tax on the proceeds. Money earned through Airbnb and similar rental arrangements is usually taxable. “Oftentimes, clients are unaware there is a tax effect at all,” says Brian Michels, a certified public accountant and expert on the question and answer platform Just Answer. “It can completely change someone’s tax picture.”
Lizabeth McGrath, a director at the New York City-based accounting firm Friedman LLP, says you don’t have to worry about paying income taxes if you rent out your property less than 15 days of the year. But once you hit that number, the money you earn needs to be declared as income. That applies even if it’s only a single room in the house that’s being rented.
For property owners who need to pay income tax on their earnings, the silver lining is that expenses related to the rental can be deducted. Proper record-keeping is key to minimizing taxes. “Look into decent accounting software to run it like a business,” McGrath says. Alternately, consider hiring an accountant to track the details.
Set clear expectations, don’t rush into owning rental properties and other valuable lessons.
You could lose a valuable property tax exemption. Income taxes aren’t the only tax issue you need to consider before renting out your property. Many states allow for a homestead exemption or other reduction in property taxes for a person’s primary home.
“A home is considered to be a personal use,” McGrath says. Once you start making money off your home, a state or municipality may consider it a business instead. The grounds upon which someone might lose a homestead exemption can vary and don’t necessarily align with the days required for income tax payment. Check with the local or state taxing authority in advance of renting out your home. That way, you won’t inadvertently make the expensive mistake of losing your exemption.
[Read: The Homeowner’s Guide to Vacation Rentals.]
You may need to spend money to attract renters. The whole point of renting out your home is to make money, but that might be hard to do with dated furniture and shabby interiors. “One of the first things people do on these websites is look at pictures,” Michels says.
In order to compete with other listings, you may need to update your home, make repairs and replace dated features. While those improvements can increase the value of a property, it could be a gamble to assume you’ll recoup the costs in rental fees.
The advent of sites like Airbnb and VRBO make it relatively simple to list a home or room for rent. However, don’t let the promise of extra money cause you to ignore other factors that could cost you big time later.