Rental income is taxed on the net, not the gross. The IRS does not care that your duplex collected $30,000 in rent this year; it cares what was left after mortgage interest, property taxes, insurance, repairs, and depreciation, and for plenty of small landlords that figure lands near zero or below it while the bank account quietly grows. Hold onto that one idea and the subject gets less frightening: you pay ordinary income rates on a net number, and the net number is built out of records you control.
This guide carries one hypothetical building through the whole year. Say you own a duplex bought a few years ago for $310,000, both units rented at $1,250 a month, with a mortgage on it. The backbone for everything below is IRS Publication 527, the publication that governs residential rental income and expenses, and the form where it all lands is Schedule E (Form 1040). Each section moves the same duplex one step closer to a finished return.
What counts as rental income
Two units at $1,250 for twelve months is $30,000, and that is the number on line 3, rents received. Rent is not the only thing that belongs there: late fees, pet rent, and any bill a tenant pays on your behalf count as income too. Security deposits are the common trip wire. A deposit you hold with an obligation to return is not income on the day it arrives; it becomes income in the year you keep any of it, a timing rule worked through in when a kept deposit hits your Schedule E.
Most small landlords are cash-basis taxpayers, so income counts when received: the December rent check that clears January 3 belongs to next year. And for a typical long-term rental, the income is passive and reported on Schedule E, which means it escapes the 15.3 percent self-employment tax that side businesses pay on Schedule C. Line 3 is the vanity number. Line 26, total income or loss, is the one that follows you onto the 1040.
The deductions, in Schedule E order
Everything ordinary and necessary that keeps the duplex running comes off the $30,000, and Schedule E, line by line unpacks every box on the form. Here is the duplex's year:
- Mortgage interest, line 12: $11,200. The figure comes off Form 1098 from the lender, and only the interest counts; principal paydown is never a deduction, a split worth getting right per tracking interest, principal, and escrow.
- Property taxes, line 16: $4,100. The county bill on the rental, deductible in full here; the personal $10,000 SALT cap applies to Schedule A, not to a rental on Schedule E.
- Insurance, line 9: $1,680. The landlord policy premium for the year, deductible in the year paid.
- Repairs, line 14: $2,350. A faucet, a water heater element, two drywall patches. Repairs deduct now; improvements depreciate over years, and the boundary is the most contested judgment call on the form. Repairs vs improvements classifies 20 common expenses, and the de minimis safe harbor lets you expense most items at $2,500 or less per invoice.
- Utilities, line 17: $1,440. Owner-paid water and sewer. Utilities the tenants pay never touch your return.
- Auto, line 6: $435. That is 600 documented miles at the 2026 IRS rate of 72.5 cents. The log matters more than the math, and the landlord mileage deduction covers which trips count and which are commuting.
Total deductions so far: $21,205. The duplex's net is $8,795, which is also roughly what the bank account saw. Then depreciation rewrites the story.
Depreciation: the deduction you take whether you claim it or not
The IRS treats a residential building as wearing out over 27.5 years, so each year you deduct about 3.6 percent of the building's cost even while its market price climbs. Land does not wear out, so the first step is splitting it off. The county assessor puts the duplex's land at $62,000:
($310,000 purchase − $62,000 land) ÷ 27.5 years = $9,018 per year
That deduction repeats every full year for nearly three decades. The complete math, including the mid-month convention that prorates the first year and the ways to document the land split, is worked out in the 27.5-year depreciation guide, or you can run your own building in the depreciation calculator.
Two things surprise people here. First, depreciation is effectively mandatory: recapture at sale is computed on depreciation “allowed or allowable,” so the IRS taxes you as if you claimed it whether you did or not, and the Form 3115 fix exists to catch up every skipped year at once. Second, the building itself never qualifies for bonus depreciation; only 5- and 15-year property does, which is exactly what a cost segregation study goes hunting for. For the duplex, $8,795 of net income minus $9,018 of depreciation is a $223 loss on paper, in a year the property put real cash in your pocket. That is the normal condition of a mortgaged rental, not a trick.
Where each replacement lands
Improvements get their own schedules, and the recovery period depends on what the thing is, not what it cost:
- Structural components run the full 27.5 years. A new roof, gutters and siding, windows and doors, a garage door, a deck or porch, rewiring, repiping, a water heater, a central HVAC system, and built-in cabinets and countertops are all treated as part of the building they attach to.
- Personal property inside the units runs 5 years. Appliances, carpet and most flooring, furniture in a furnished unit, and a washer and dryer recover their cost far faster than the structure does.
- Land improvements run 15 years. Fences, driveways and parking areas, and landscaping sit between the two.
- Solar has its own rules. Solar panels sit at the intersection of MACRS and energy credits, and the math deserves a read before the installer's pitch does it for you.
Passive losses and the $25,000 allowance
A loss raises the practical question of whether that $223 can reduce the tax on your paycheck. Rental losses are passive by default under the rules in IRS Publication 925, and passive losses normally offset only passive income. The carve-out for small landlords is the $25,000 allowance: if you actively participate in managing the property and your modified adjusted gross income is under $100,000, up to $25,000 of rental losses deduct against wages. The allowance shrinks by 50 cents per dollar of MAGI above $100,000 and is gone at $150,000; who gets it and how it phases out runs the brackets.
Losses you cannot use are not lost. They are suspended, carried forward year after year, and released in full when you sell, which is why tracking your carryforwards matters even in years they do nothing. The two ways around the passive wall entirely are real estate professional status, which demands 750 documented hours a year, and the short-term rental exception, which most long-term landlords should read once and then leave alone.
QBI and the 1099 chores
Two smaller items round out the operating years. The QBI deduction can shave up to 20 percent off qualified rental income for landlords whose activity rises to a trade or business, and the 250-hour safe harbor is the clean way to claim it; the QBI guide for landlords strips out the jargon. In a loss year like the duplex's there is nothing to deduct, and a qualified loss carries forward against future QBI.
The other chore has a deadline with teeth. Pay any unincorporated contractor $600 or more in a year and you likely owe them a Form 1099-NEC by January 31, which requires a W-9 you should have collected before the first check. The 1099-NEC guide has the decision tree, including the corporation and credit card exclusions.
The taxes waiting at the exit
Depreciation is a loan from the IRS, and the sale is when it gets called. Sell the duplex after ten years and you have taken roughly $90,000 of depreciation; that slice of the gain is taxed as unrecaptured section 1250 gain at up to 25 percent, call it $22,500 of the closing bill, on top of capital gains tax on the appreciation itself. Selling a rental, with worked numbers and the recapture guide run the full math, and the sale is reported on Form 4797.
The bill can change shape three ways. A 1031 exchange defers the whole thing by rolling into another property on a strict timeline. Gifting the property hands your heirs your old basis along with your recapture exposure. Dying with it, bluntly, is the best tax plan on this page: heirs receive a stepped-up basis and a fresh depreciation schedule, and the recapture evaporates.
The records that make April cheap
Every number above traces back to a document: the Form 1098, the assessor's land split, the closing statement, the repair invoices, the mileage log, last year's depreciation schedule. Keep income and expense records at least three years after filing, and keep anything that proves basis for as long as you own the property plus the limitations period. The December version of this gathering is the year-end tax prep checklist, and the way to make it painless is categorizing as you go with a chart of accounts mapped to Schedule E.
I self-manage my own small portfolio from two time zones away, and I built rents.ai after watching my spreadsheets drop exactly these numbers. It keeps the ledger in Schedule E categories, splits each mortgage payment into deductible interest and nondeductible principal, computes line 18 from the building basis and in-service date, and rolls each property into a printable Schedule E view; the read-only demo portfolio even includes a duplex, so you can see this article as a report. It will not file your return or your 1099s, and every tax figure it shows is an estimate for your CPA to check, not advice.
A rental's tax bill is settled in April but earned all year, one kept receipt at a time.
This guide organizes the year so your CPA can finish it; it is education and estimates, not tax advice. The duplex figures are hypothetical, thresholds like the $25,000 allowance and the $2,500 de minimis safe harbor carry conditions and elections behind them, and IRS Publication 527 plus your preparer make the final calls.