If you’re a landlord or rental property owner, it’s important to understand your business’s financials – and that includes your profit and loss (P&L) statement.
A P&L statement is a key financial document that summarizes your rental property income and expenses for the IRS (and yourself) for a given period of time, usually one month.
In this post, we’ll give you a step-by-step guide for reading and understanding your P&L statement.
1. Know what information to expect in a P&L statement
A typical P&L statement will include the following information:
- Rental income
- Operating expenses (i.e., the costs of running your rental property, such as repairs, cleaning, etc.)
- Depreciation expense
- Net income (or loss)
If you have more than one rental property, you’ll want to prepare a separate P&L statement for each one.
2. Understand how to calculate rental income
Your rental income is calculated by adding up all the rent payments you received from tenants during the month, minus any rent refunds or allowances. For example, if you collected $5,000 in rent during the month but had to give a tenant a $200 rent refund due to repair issues, your total rental income would be $4,800.
When it comes to taxes, the IRS has a very specific definition of what counts as rental income.
Generally speaking, any money that you receive from renting out property – such as an apartment, house, or room – is considered to be taxable income. This includes both regular rental payments as well as any one-time payments, such as a non-refundable security deposit or pet fee.
In addition, any money that you earn from providing services related to your rental property – such as cleaning or laundry services – is also considered to be taxable income.
3. Determine your operating expenses
Operating expenses are the costs associated with running and maintaining your rental property on a day-to-day basis. These expenses can include items like:
- Repair and maintenance costs
- Cleaning and janitorial services
- Landscaping and lawn care services
- Advertising and marketing costs
4. Calculate your depreciation expense
Depreciation is an important but often misunderstood occupancy expense.
Essentially, depreciation is an annual allowance for the wear and tear of your rental property – even if no actual repairs or replacements are made during the year. For tax purposes, landlords can deduct their depreciation expense on their federal income tax return – which can result in hundreds or even thousands of dollars in savings come tax time.
For example, let’s say you own a rental home that you purchased for $200,000. The land is worth $50,000, so the depreciable basis of the property is $150,000. Assuming a useful life of 27.5 years and a straight-line depreciation method, your annual depreciation deduction would be $5,454.17 ($150,000 ÷ 27.5).
For commercial properties, the depreciation period is 39 years. This means that you can deduct 1/39 of the purchase price of the property each year on your taxes.
It’s always a good idea to consult with your accountant or tax advisor to learn more about how depreciation works and how it may benefit you.
5. Calculate your net income (or loss)
The final step is to calculate your net income (or loss). To do this, simply take your total rental income for the month and subtract your total operating expenses – including depreciation – from that number. If the resulting number is positive, you have a net income; if it’s negative, you have a net loss.
For example, let’s say your monthly rental income was $5,000 and your total operating expenses were $4,500 – your net income would be $500 for the month ($5,000 – $4,500 = $500). On the other hand, if your monthly rental income was $4,000 but your operating expenses totaled $5,000 – you would have a net loss of $1,000 for the month ($4,000 – $5,000 = -$1,000).
6. Use your P&L statement to make better business decisions
Now that you know how to read and understand your P&L statement, it’s time put that knowledge to good use!
Reviewing your P&L statements on a regular basis can help you identify areas where you’re overspending or underperforming – so you can make necessary adjustments in order to improve your bottom line.
Additionally, if you’re ever thinking about selling your rental property (or properties), having up-to-date and accurate P&L statements on hand can help ensure you get top dollar for your investment when it comes time to list it on the market.
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