Closing Costs: Miscellaneous Expense or Cost Basis?

Question

Hi everyone,

I recently closed on my first rental property and I'm curious about how to track closing costs correctly. Do they apply as "miscellaneous" expense (which I can deduct when I file the taxes of the current year) or add them to the cost basis (which will reduce your taxable capital gain when you sell the house).

Here is a concrete example with some made up numbers from closing day:

- Purchase Price: $300,000

- County taxes from 11/01/2023 to 01/01/2024: $850

- HOA Prorations: $30

- Appraisal Fee: $400

- Prepaid Interest from 11/03/23 to 12/01/23: $1,100

- 3 months of homeowners insurance (for escrow account): $150

- 4 months of property taxes (for escrow account): $2000

- Underwriting Fee: $600

- Wire Fee: $15

- TITLE & ESCROW CHARGES: ...

- Government Charges: ...

- 1 year of Homeowners insurance:..

- Home warranty: ..

How to track all of these? Except for everything that goes to the escrow account (and will be used later to pay taxes/insurance), does the rest go into cost basis? Or some of these count as expenses for the year 2023?

Thanks in advance!

Michael Plaks · Answer

Loan fees are loan fees whether or not they were rolled into the loan, and their tax treatment is the same.

In general, financing does not change anything for taxes, except for interest and loan fees. Paid in cash or rolled into a loan - tax treatment is identical.

Bill B. · Answer

@Juan Alcorta

If you read his post it says has a tenant or is ready for one. It sounds like your property was ready for a tenant but the tenant wasn’t ready. You should be fine. You can ask your tax guy, if you say you don’t have one, you should get one. You’re going to be depreciating the property minus land value as well. Thsi is child’s play compared to that, so be prepared.

The loan fees are costs of getting the loan so they’re amortized over the length of the loan even if you paid cash. This is because they are providing you a benefit over the length of the loan. So you’ll be diving them by 15 or 30 and writing them off.

Don’t forget, none of these things is a one for one tax savings. You’re only reducing your taxes by 20 or 30% of these total. When you worry about the Hoa you could be talking about a $15 tax savings.

Michael Plaks · Answer

@Juan Alcorta

There's no easy way to answer, as it is complicated.

County taxes and HOA - deductible, assuming that the property is already placed in service, i.e. either has a tenant or is ready for one.

Anything in escrow - not deductible until paid out of escrow.

Appraisal and underwriting fee - "loan fees" which is amortized (evenly deducted, month-by-month) over the life of the loan

Title fees and government fees - added to basis for slow depreciation.

No, I do not have a complete list.

Juan Alcorta · Answer

Thank you @Michael Plaks and @Bill Brandt! Your answers plus this article helped to add a lot of clarity.

Juan Alcorta · Answer

Hi @Michael, thanks for your response!

A few follow up questions:

County taxes and HOA - deductible, assuming that the property is already placed in service, i.e. either has a tenant or is ready for one.

In this case, the home was closed early November and a lease will start on Dec 1st. What would be the difference if there is no lease yet. Could that be deducted and be carried forward as a loss?

Appraisal and underwriting fee - "loan fees" which is amortized (evenly deducted, month-by-month) over the life of the loan

This is in the case that they were added to the principal correct? In my case I paid for them with extra money at closing, which I believe that would be added to the basis of the property?

Thanks again!

Juan

Closing Costs: Miscellaneous Expense or Cost Basis?

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