Renovating my guest house for rental income

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Renovating my guest house for rental income

Catherine McHale
Real Estate Investor · Los Angeles, CA · Member since 2013 · 9 posts · 1 vote

Hello,

I recently purchased a single family home with a separate stand alone building, complete with chimney and fireplace, that will make a great studio rental (appx. 400 SF). I would like to renovate the building (there is currently no plumbing), install a bathroom/kitchenette, and prepare the space for rental; I estimate that I will spend about $15K but should receive about $1,000-$1,200/month in rent.

2 Questions:

1: The guest house structure was built in the 30's, as was the home, but the gues thouse was not permitted. From my preliminary research, I believe the construction type (slab on grade with concrete block walls) should be permittable, and the set-backs also seem to comply. Would it be possible to permit the structure after the fact, so any work I do could be permitted?

2: If I decide to rent out both the main house and this guest house within the calendar year that I perform this work, effectively converting the property to a rental property, can I deduct all this work as rental property upgrades? There is landscaping and other exterior work that I want to perform as well.

Thanks for any information that anyone can offer!

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  • Jon Holdman
    Rental Property Investor · Mercer Island, WA · Member since 2008 · 22k+ posts · 14k+ votes
    12y

    1. Call the city and ask. You will likely need permits to do the work needed to convert this building into a habitable structure. Zoning issues, such as parking, may come into play, too.

    2. Very complex structure. If you buy a property, do some work to get it rent ready then start renting it, the work you spend getting it ready can't be deducted at all. Instead, the cost of the work is added to the basis. That increases the basis, which increases the depreciation you can take going forward.

    After a property is rent ready, work you do to it is either repairs or capital. Repairs are deducted in the year you spend the money. Capital expenditures have to be depreciated over multiple years. For your residence, repairs are not deductible at all. Capital items get added to your basis, but you don't take depreciation for a residence.

    When you convert a residence into a rental, your basis is the lower of the basis or the fair market value when the conversion is done. So, the work done to make the stand alone building into a habitable unit would increase your basis. Things considered repairs, e.g., painting, would not change the basis. I assume it would also increase the fair market value of the property. So, you wouldn't be able to deduct the costs, but you would be able to take more depreciation.

    You really want to have a discussion with an accountant who's knowledgeable about real estate.

    Publication 527 (2013), Residential Rental Property

    See in particular chapter 4.

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  • Franklin Romine
    Visalia-Fresno, CA · Member since 2009 · 1k+ posts · 863 votes
    12y

    If you can install a seperate electric meter on the rental.

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  • Catherine McHale
    OP
    Real Estate Investor · Los Angeles, CA · Member since 2013 · 9 posts · 1 vote
    12y

    Thank you Jon and Frank!

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  • Jeff Bridges
    Investor · Hyattsville, MD · Member since 2012 · 822 posts · 441 votes
    12y

    I'd get bids to run plumbing to the guest house, and cost for adding the kitchen and bathroom along with permit costs to see if your 15K figure matches up. It might help you confirm up front costs needed to get the unit rented out and help evaluate your situation before you want to proceed with this project...

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