J.K. Lasser's Your Income Tax 2013: For Preparing Your 2012 Tax Return

9.6 Renting a Residence to a Relative

The tax law distinguishes between a rental of a unit used by a close relative as a principal residence and a rental of a unit that is not the relative’s principal residence, such as a second home or vacation home. It is easier to deduct a rental loss on the principal residence rental.

On a fair market rental of a unit used by the close relative as a principal residence, your relative’s use is not considered personal use by you that could bar a loss under the personal-use test (9.7). A relative’s use of the unit as a second or vacation home is attributed to you in applying the personal-use test (9.7), even if you receive a fair market value rent.

Close relatives who come within these rules are: brothers and sisters, half-brothers and half-sisters, spouses, parents, grandparents, children, and grandchildren.

Fair market rental is the amount a person who is not related to you would be willing to pay. The most direct way to determine fair market rental is to ask a real estate agent in your neighborhood for comparative rentals.

EXAMPLE

Barranti inherited a residence from her grandmother. The house was in a state of disrepair. A real estate agent estimated the fair market rental rate for the house to be between $700 and $750 per month. Barranti rented the house to her brother for $500 a month while he repaired the structure. After a year, he moved out and Barranti sold the house and claimed a rental loss and a loss on the sale. The Tax Court ...