Vacation Home or Rental Property? Know the Tax Differences Before You File

Anthony Brister
Aug 5
5 min read

Owning a second property can mean steep differences in how you report taxes. Under current IRS rules (for 2024–2025), the tax treatment depends on whether a dwelling is primarily used as personal property (a vacation home or second home) or as a rental investment. If the unit is rented out, you generally report rental income on Schedule E of Form 1040, with allowable deductions for expenses and depreciation. If the home is used only occasionally for personal vacations, the tax rules treat it more like a residence, and deductions are limited. In all cases, clear recordkeeping of rental days versus personal use days is essential. This guide walks through the key rules – usage thresholds, reporting requirements, deductions (mortgage interest, SALT, depreciation), and loss limits – so you file correctly.

Personal Use vs. Rental Use

The IRS defines personal use days strictly, and this classification drives the tax outcome. In general:

Minimal rental (14-day rule): If you rent the home for fewer than 15 days in the year, you do not report the rental income at all, and you cannot deduct rental-related expenses. In effect, the IRS treats the property as a personal residence. You simply carry forward your usual homeowner deductions (mortgage interest, property taxes, etc.) on Schedule A, subject to normal limits.
Personal-use threshold: If you rent the home for 15 days or more at fair market value, it generally becomes a rental property for tax purposes. However, if personal use exceeds the greater of 14 days or 10% of the total days rented, the property is still treated as a personal residence. “Personal use” includes any days you or family occupy the home (unless a family member pays rent at market value), or days rented out for less than fair market rent. For example, using the home 20 days and renting 100 days means personal use is 20% of rental days, which exceeds 10%, so it’s treated as a residence.
Mixed use: If personal use is at or below that threshold, and rental days are 15 or more, the property is treated as a rental property with some personal use. In that case you must report all rental income and may deduct allowable expenses for the rental portion. You must prorate expenses (insurance, repairs, etc.) between personal vs. rental use by the ratio of rental days to total days of use.

In short: Rent the home 15+ days, and keep personal use under the 14-day/10% rule, and file as rental (Schedule E) with prorated expenses. Otherwise, it’s a personal second home: report no rental income, and claim interest/taxes on Schedule A.

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Reporting Rental Income and Expenses

When a property qualifies as a rental, all rental income must be reported on Schedule E. On that schedule, you subtract allowable rental expenses from gross rents.

Expense proration: You allocate each expense between rental and personal use based on days used for each purpose. For example, if the home was rented 180 days and used personally 30 days, 86% of expenses are rental (180/210) and 14% personal.
Deduction limits: Rental expenses can only be deducted up to the amount of gross rental income. You cannot claim a net rental loss beyond zero if the home is treated as a residence. Any excess rental expense is disallowed for that year.
Personal-use deductions: The personal-use portion of mortgage interest and property tax remains deductible on Schedule A if you itemize, subject to the standard limits.
Special 14-day exception: If the home is rented fewer than 15 days, none of the rent counts as income and no rental deductions are allowed.

Bottom line: Rent ≥15 days and keep personal use under the 14-day/10% rule, and file as rental. Otherwise, it’s a personal second home.

Mortgage Interest Deduction Limits

For a second home used personally, mortgage interest is deductible on Schedule A up to strict limits. Under current law, acquisition debt (used to buy, build or improve the home) is limited to $750,000 total for a married couple filing jointly ($375,000 each if married filing separately). This $750,000 cap is the combined limit on all acquisition mortgages on your primary and second home. Mortgages taken out before December 16, 2017 keep the old higher limits: up to $1 million total.

For a rental property, mortgage interest on the rental portion is a deductible expense on Schedule E (not subject to Schedule A limits). Home equity loan interest is generally not deductible unless the loan proceeds were used to substantially improve the home.

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State and Local Tax (SALT) Deduction Cap

State and local taxes that you itemize on Schedule A are now capped at $10,000 per year for 2025 ($5,000 if married filing separately). This limit applies to the total of all such taxes you pay – including property taxes on both your primary residence and any second home combined.

Depreciation of Rental Property

If your vacation home qualifies as a rental property, you can recover the cost of the building (not the land) via depreciation. For residential rental real estate, the IRS mandates a 27.5-year recovery period under MACRS, using straight-line depreciation. In practical terms, you divide the building’s depreciable basis by 27.5 and deduct an equal portion each year. Note that land is not depreciable. If you use the property partially for personal use, only the rental-percentage of basis is depreciable.

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Passive Loss Limitations

Rental real estate is generally considered a passive activity. This means that losses (expenses plus depreciation in excess of income) can usually only offset other passive income.

Active participation exception: If you actively participate in managing the rental, you may deduct up to $25,000 of net rental loss against ordinary income each year. This allowance phases out once your modified AGI exceeds $100,000 and is gone entirely at $150,000.

Taxpayers who qualify as Real Estate Professionals are not bound by passive rules for rental activities. To be a REP, you must spend more than half of your working time in real property trades or businesses and work over 750 hours in those real estate activities during the tax year.

For most taxpayers, rental real estate remains passive, and the $25,000 active-participation allowance is the main benefit.

Key Points to Remember

14-Day Rule: Rent <15 days → no rental income tax, no rental deductions.
Residence Test: Personal use > max(14 days, 10% of rental days) → home treated as a personal residence.
Prorated Expenses: Allocate costs by days used. Only rental portion of expenses is deductible on Schedule E.
Mortgage Interest: Deductible on up to $750,000 of combined mortgages on primary and second homes.
SALT Deduction: Capped at $10,000 total.
Depreciation: Rental residential buildings depreciate over 27.5 years.
Loss Limits: Passive unless you qualify as a Real Estate Professional. Active participation allows limited deduction up to $25,000, phased out over $100k AGI.