Real estate tax planning: keep more of what your properties earn
Rental real estate has some of the best tax rules for investors, and some of the most misunderstood. Here is how depreciation, passive loss limits, short-term rentals and sales work in 2026, in plain English.
Prepared by Prem Tax and Accounting Corp. Last checked against official sources on October 9, 2026.
The big levers
| Lever | What it does | Read more |
|---|---|---|
| Depreciation | Deduct the cost of the building (not the land) over 27.5 years, even while the property rises in value | Depreciation and cost segregation |
| Cost segregation and 100% bonus | Moves part of the cost into 5-, 7- and 15-year property that can be deducted right away when acquired after January 19, 2025 | Depreciation and cost segregation |
| Passive loss rules | Decide whether rental losses can offset your other income | Passive losses and real estate professionals |
| Real estate professional status | Unlocks rental losses against wages and business income if you meet the hours tests | Passive losses and real estate professionals |
| Short-term rental rules | Rentals with an average stay of 7 days or less follow different rules | Short-term rentals and vacation homes |
| Selling, 1031 and recapture | Understand the 25% rate on depreciation, and defer gain by exchanging into other property | Selling and 1031 exchanges |
| Repairs, safe harbors and structure | Deduct repairs now, capitalize improvements, and claim the 20% business income deduction when you qualify | Repairs, deductions and structure |
2026 numbers at a glance
What depreciation can mean in dollars
A rental bought for $400,000 plus $6,000 of closing costs in June, with 20% of the price allocated to land and a 24% federal bracket. Estimates only.
| First-year deduction | Each later full year | First-year tax effect | |
|---|---|---|---|
| Regular depreciation | $6,398 | $11,811 | $1,535 |
| With a cost segregation study (25% reclassified, 100% bonus) | $85,998 | $8,858 | $20,640 |
A cost segregation study moves deductions earlier. It does not create more deductions over time, passive loss limits can delay the benefit, and parts of it are recaptured at ordinary rates if you sell. Try your own numbers in the depreciation calculator.
Mistakes we see
- Not claiming depreciation, then paying tax on it anyway when the property is sold.
- Including land in the depreciable cost.
- Treating a major improvement as a repair, or the reverse.
- Assuming rental losses offset wages without checking the passive rules and the income limits.
- Calling a rental "short-term" without time logs to back up material participation.
- Selling without planning, and missing the 45-day and 180-day deadlines of a 1031 exchange.
- Mixing personal and rental use of a vacation home without tracking the days.
The guide, page by page
Depreciation and cost segregation
How depreciation works, 100% bonus, and when a study pays off.
Read →Passive losses and real estate professionals
When losses count, the $25,000 allowance and the 750-hour test.
Read →Short-term rentals and vacation homes
The 14-day rule, the 7-day rule and personal use.
Read →Selling and 1031 exchanges
Recapture, capital gains and deferring tax.
Read →Repairs, deductions and structure
Repairs vs improvements, safe harbors, the QBI deduction and LLCs.
Read →Depreciation calculator
Estimate your depreciation and a cost segregation scenario.
Read →Common questions
Can I deduct a rental loss against my salary?
Usually not, because rentals are passive activities. There are exceptions: up to $25,000 of loss if you actively participate and your income is $100,000 or less (it phases out completely at $150,000), real estate professionals who meet the hours tests, and short-term rentals where you materially participate. Losses you cannot use are carried forward, not lost.
Do I have to depreciate my rental property?
Yes. Depreciation is required, not optional. The IRS treats it as taken whether or not you claimed it ("allowed or allowable"), which lowers your basis and creates recapture when you sell. If you missed it, you can usually fix it with Form 3115 and take the missed amount in one year.
How is the gain on a rental taxed when I sell?
The part of the gain that comes from depreciation you took on the building is taxed at up to 25%. The rest is a long-term capital gain at 0%, 15% or 20%. Higher-income owners may also owe the 3.8% net investment income tax. A 1031 exchange can defer all of it.
Is rent from a home I rent for 14 days or fewer taxable?
No. If you rent a home you also use personally for fewer than 15 days in the year, the rent is not reported and you cannot deduct rental expenses.
Should I hold my rental in an LLC?
Many owners do, for liability protection. A single-owner LLC is usually ignored for income tax, so the return looks the same. Moving a property into an entity can trigger transfer taxes and a mortgage due-on-sale clause, so talk to your attorney and us first.
What about Illinois?
Illinois taxes rental income and gains at its flat income tax rate and requires an addback of federal bonus depreciation (Form IL-4562), which spreads the Illinois benefit over later years. Property taxes on rentals are deducted on Schedule E, not under the state and local tax cap.
Official sources
- IRS Publication 527: Residential rental property
- IRS Publication 925: Passive activity and at-risk rules
- IRS Publication 946: How to depreciate property
- IRS: 2026 inflation adjustments (Rev. Proc. 2025-32)
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