Only part of your rental property mortgage is a deductible expense. The interest you pay each month is a fully deductible rental expense; the principal portion is not, because paying down a loan balance is not a business cost. So when people ask whether a mortgage is an expense for a rental property, the honest answer is that the payment splits into pieces the IRS treats very differently, and only some of them reduce your taxable rental income.
How the Monthly Payment Splits for Tax Purposes
A typical mortgage payment bundles four things: principal, interest, property taxes, and insurance. Your lender withdraws one number, but the IRS looks at each piece on its own.
The principal portion pays down your loan balance. That money builds your equity in the property, but no expense has been incurred. You borrowed cash and you’re giving it back.
The interest portion is the cost of borrowing the money that funds the rental, and the tax code allows a deduction for interest paid on indebtedness during the year.1Office of the Law Revision Counsel. 26 US Code 163 – Interest You claim it on Line 12 of Schedule E (Form 1040).2Internal Revenue Service. Schedule E (Form 1040) – Supplemental Income and Loss Each January your lender sends Form 1098 showing the total interest you paid the prior year; lenders are required to report if they collected at least $600 in interest from you.3Internal Revenue Service. Instructions for Form 1098 – Mortgage Interest Statement That number is the interest figure you use, and it separates the deductible portion of the year’s payments from the non-deductible principal.
The property taxes and hazard insurance folded into your escrow are each fully deductible on Schedule E, whether you pay them through the lender or directly.2Internal Revenue Service. Schedule E (Form 1040) – Supplemental Income and Loss Property taxes are deductible in the year the taxing authority receives payment, and insurance premiums are deductible over the coverage period. One point that saves rental owners real money: the $10,000 SALT cap does not apply here. That cap limits property taxes claimed as a personal itemized deduction on Schedule A. Rental property taxes are a business expense on Schedule E and remain deductible in full.
If your loan carries private mortgage insurance, those premiums are also deductible in the year paid, reported on Line 9 (Insurance) of Schedule E.4Internal Revenue Service. Rental Expenses Prepaid PMI covering more than a year has to be spread across the coverage period.
Points and Loan Costs Work Differently on a Rental
Points paid to obtain or refinance the mortgage on a rental property cannot be deducted all at once in the year you paid them. Unlike points on a primary residence, rental points must be amortized over the life of the loan.5Internal Revenue Service. Home Mortgage Points $3,000 in points on a 30-year loan produces $100 of deduction per year, not a $3,000 write-off up front.
Other charges that appear on the closing statement split into two buckets. Prepaid interest and prepaid property taxes at closing are deductible in the year paid. Title insurance, transfer taxes, recording fees, legal fees, survey costs, abstract fees, and utility installation charges get added to your cost basis in the property and are recovered through depreciation over 27.5 years.6Internal Revenue Service. Rental Expenses
Depreciation Fills the Gap the Principal Doesn’t
The principal portion of your payment isn’t deductible, but depreciation often ends up doing the work landlords assumed the mortgage would. It is the largest non-cash deduction available on rental property, and it is not optional. The IRS requires you to depreciate the building whether or not the property is losing market value.
Only the building depreciates, not the land. Your cost basis starts with what you paid, and if the purchase contract doesn’t allocate between building and land, the IRS allows an allocation based on the ratio of fair market values, commonly using property tax assessment ratios.7Internal Revenue Service. Publication 527 – Residential Rental Property Capitalized closing costs increase that depreciable basis.
Residential rental property placed in service after 1986 is depreciated over 27.5 years using straight-line depreciation and a mid-month convention.7Internal Revenue Service. Publication 527 – Residential Rental Property A $275,000 depreciable basis produces a $10,000 annual deduction, taken on Line 18 of Schedule E.2Internal Revenue Service. Schedule E (Form 1040) – Supplemental Income and Loss
There is a catch when you sell. Each year’s depreciation reduces your adjusted basis, and on a later sale at a gain the IRS recaptures the depreciation you claimed and taxes it at a maximum rate of 25%.8Office of the Law Revision Counsel. 26 USC 1 – Tax Imposed Gain beyond the recaptured amount is taxed at long-term capital gains rates.
What This Looks Like on an Actual Property
The interest-versus-principal split matters more than most first-time landlords realize. Say you collect $24,000 in annual rent and pay $18,000 in mortgage payments. If $7,200 of that goes to interest and $10,800 to principal, only $7,200 of the $18,000 enters your deduction calculation. Add $3,600 in property taxes, $1,200 in insurance, and $8,000 in depreciation, and total deductions reach $20,000. Taxable rental income is $4,000, not the $6,000 you’d get by treating the whole mortgage payment as an expense.
Notice what happened. The principal you paid ($10,800) never became a deduction, but depreciation ($8,000) did, even though you didn’t write a check for it. On many rentals those two numbers roughly offset, which is why cash-positive properties can still show a small profit, break even, or throw off a paper loss for tax purposes.
When a Rental Loss Actually Offsets Your Other Income
If your Schedule E ends up in the red, the mortgage interest and other deductions did their job on paper, but that loss may not reduce the tax on your wages. The IRS treats rental real estate as a passive activity for most taxpayers, so rental losses generally offset only other passive income.
The main exception is the $25,000 active participation allowance. If you make the management decisions on your rental (tenant selection, repairs, lease terms), you can deduct up to $25,000 in rental losses against ordinary income each year. That allowance phases out once adjusted gross income passes $100,000, dropping $1 for every $2 of AGI above the threshold and disappearing entirely at $150,000.9Office of the Law Revision Counsel. 26 USC 469 – Passive Activity Losses and Credits Limited
Losses you can’t use in the current year are not lost. They carry forward and can offset passive income in future years, or the gain when you sell the property in a fully taxable disposition.
Two boundaries worth keeping in mind. If the property is a personal residence you rent out only occasionally, different rules apply and the analysis above is not the right one. And a mortgage on property held for personal use, even if you sometimes rent it, is not automatically a rental expense; the interest deduction on Schedule E belongs to the portion of use that qualifies as a rental activity.