Within the law to use the STR loophole on a non-permitted structure
Member since 2021 · 87 posts · 41 votes
Within the law to use the STR loophole on a non-permitted structure
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Investor · VA · Member since 2015 · 21k+ posts · 19k+ votes
1yQuote from @William C.:
Unique situation. I can provide more info as needed. Proposed strategy is to purchase a property that has both permitted and non-permitted, but livable, structures. Use one of the non-permitted structures as a STR (it's currently successfully being used this way by the owners). Do a cost seg on that non-permitted structure and use the STR loophole to utilize those losses for tax off-setting purposes. Any opinions on tax legality of this?
Big Red Flag: For a cost segregation study, the asset must be depreciable under the IRS rules, and that typically means it must be a legal, capitalizable structure.
Typically, Non-permitted = Non-depreciable: If a structure wasn’t legally built or doesn’t meet code, it’s questionable whether it qualifies as an asset with a determinable useful life under IRS guidelines.Also If the unit is illegal to rent (because it's unpermitted), you’re again treading into risky territory. Even if it’s "currently being rented successfully," that doesn’t make it compliant or safe from penalties if caught.
We will not even get into the liability and insurance component, but this is one way to get sued and be sued personally in a way insurance would not cover you.
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- Investor · VA · Member since 2015 · 21k+ posts · 19k+ votes1y
Quote from @William C.:
Unique situation. I can provide more info as needed. Proposed strategy is to purchase a property that has both permitted and non-permitted, but livable, structures. Use one of the non-permitted structures as a STR (it's currently successfully being used this way by the owners). Do a cost seg on that non-permitted structure and use the STR loophole to utilize those losses for tax off-setting purposes. Any opinions on tax legality of this?
Big Red Flag: For a cost segregation study, the asset must be depreciable under the IRS rules, and that typically means it must be a legal, capitalizable structure.
Typically, Non-permitted = Non-depreciable: If a structure wasn’t legally built or doesn’t meet code, it’s questionable whether it qualifies as an asset with a determinable useful life under IRS guidelines.
Also If the unit is illegal to rent (because it's unpermitted), you’re again treading into risky territory. Even if it’s "currently being rented successfully," that doesn’t make it compliant or safe from penalties if caught.
We will not even get into the liability and insurance component, but this is one way to get sued and be sued personally in a way insurance would not cover you.7e investments53 Reviews- Member since 2021 · 87 posts · 41 votes1yExcellent feedback. Thank you.
Quote from @Chris Seveney:
Quote from @William C.:
Unique situation. I can provide more info as needed. Proposed strategy is to purchase a property that has both permitted and non-permitted, but livable, structures. Use one of the non-permitted structures as a STR (it's currently successfully being used this way by the owners). Do a cost seg on that non-permitted structure and use the STR loophole to utilize those losses for tax off-setting purposes. Any opinions on tax legality of this?
Big Red Flag: For a cost segregation study, the asset must be depreciable under the IRS rules, and that typically means it must be a legal, capitalizable structure.
Typically, Non-permitted = Non-depreciable: If a structure wasn’t legally built or doesn’t meet code, it’s questionable whether it qualifies as an asset with a determinable useful life under IRS guidelines.
Also If the unit is illegal to rent (because it's unpermitted), you’re again treading into risky territory. Even if it’s "currently being rented successfully," that doesn’t make it compliant or safe from penalties if caught.
We will not even get into the liability and insurance component, but this is one way to get sued and be sued personally in a way insurance would not cover you.
- 1yMichael PlaksPro MemberTax Accountant / Enrolled Agent · Houston, TX · Member since 2014 · 5k+ posts · 6k+ votes
I personally would not be concerned about this structure's permit status for tax purposes. Our tax code tries to be blind to legal compliance outside of taxation. To give you an example, you're supposed to report your business income for tax purposes even if the source of income is illegal.
The most serous concern for me would be the one raised by @Chris Seveney: insurance. And with STRs, the risk of an insurance claim is higher.
- Member since 2021 · 87 posts · 41 votes1y
Quote from @Michael Plaks:
I personally would not be concerned about this structure's permit status for tax purposes. Our tax code tries to be blind to legal compliance outside of taxation. To give you an example, you're supposed to report your business income for tax purposes even if the source of income is illegal.
The most serous concern for me would be the one raised by @Chris Seveney: insurance. And with STRs, the risk of an insurance claim is higher.
This is good counter-point. Thanks for taking the time to respond. The insurance and risk piece is daunting. There is precedence in our area for being able to obtain insurance for an unpermitted STR. Each situation is unique and we would fully vet ours. For now, focused on if a cost seg, bonus depreciation, STR loophole approach would be viewed favorably or not. Thanks again.
- 1ySean GrahamBusiness MemberInvestor , CPA · Detroit, MI · Member since 2016 · 582 posts · 248 votes
Quote from @Michael Plaks:
I personally would not be concerned about this structure's permit status for tax purposes. Our tax code tries to be blind to legal compliance outside of taxation. To give you an example, you're supposed to report your business income for tax purposes even if the source of income is illegal.
The most serous concern for me would be the one raised by @Chris Seveney: insurance. And with STRs, the risk of an insurance claim is higher.
I agree with this. Whether or not it is permitted is separate from tax & depreciation.
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- 1yJulio GonzalezPro MemberSpecialist · West Palm Beach, FL · Member since 2008 · 4k+ posts · 1k+ votes
As @Chris Seveney has mentioned, the IRS typically requires that depreciable assets used in a cost segregation study be part of a legally recognized and depreciable structure. If a structure isn't permitted, there may be challenges in substantiating its basis and depreciation for tax purposes. Additionally, while the STR loophole can be a powerful tool, it's crucial that the property qualifies under the material participation and personal use tests.
- Accountant , CPA, MBA in Finance, MS in Taxation · Redmond, WA · Member since 2025 · 172 posts · 135 votes1y
Late to discussion but I agree with @Michael Plaks here. I think this might work.
To throw out some other examples where compliance doesn't matter: Just because you don't have valid business license? Or don't have a work visa? That doesn't mean tax law stops applying to you.
I do think with a less than totally compliant business, you run the risk of IRS or state revenue agent saying your STR was never actually a real, profit-motive-based business. Which matters a lot here. That would be particularly important if the first year of operation you show a giant loss on tax return due to cost segregation study.
Example: You operate an STR in a community where CCRs prohibit STRs. Can you really win argument that this venture is one you're planning operate with regularly, continuity, and in pursuit of long-term profitability? Possibly not if the CCR violations mean you'll only be able to operate until the HOA board catches you.)
(This is the Section 162 trade or business "standard".) - Member since 2021 · 87 posts · 41 votes1y
Just an update as this potential deal is quickly falling apart. Sharing details here so others may learn.
Sellers of the prop. had been operating multiple STR's in unpermitted structures. Part of their sell is this is a multi-STR business. At some point a property line was moved to create an additional buildable lot. During that process the county noticed one of the unpermitted structures. They went through the permitting process with the county for one of the structures. Given the zoning and county rules, they had to sign a perpetual affidavit saying the structure could never be used as a STR. My understanding is the same would be imposed on a new owner.
So STR loophole approach would be eliminated for someone like me who is not REPS. Also, have uncovered county-level issues with the new lot that was created. County is saying it is not a legal, buildable lot since the property line move was done incorrectly. These could all end up with favorable outcomes, but until they do the value of this opportunity is greatly diminished.
- 1yAshish AcharyaBusiness MemberCPA, CFP®, PFS · FL · Member since 2017 · 5k+ posts · 3k+ votes
@William C.Yes, using the STR loophole on a non-permitted but livable structure can be legal for tax purposes if:
- The unit is actively rented, generates income, and
- You materially participate, meeting one of the IRS tests.
The IRS focuses on economic substance, not local permits, so you can claim depreciation, cost segregation, and STR losses if the unit is placed in service and used as a business.
However, local zoning violations pose audit risk. If the city deems the structure illegal for rental, the IRS could disallow deductions retroactively.
To protect yourself:
- Document rental activity, participation hours, and income.
- Use Form 3115 for cost seg if needed.
- Consult local experts on legalization or risk exposure.
This post does not create a CPA-Client relationship. The information contained in this post is not to be relied upon. Readers should seek professional advice.
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