How would I classify my property for tax purposes?

[Keepittoasty94]

I own a home in South Carolina but will be stationed in Italy for the next 3 years. I plan on renting rooms to a couple of friends but keeping 1 of the 3 rooms for myself. Is this classified as a rental property? What am I able to deduct at the end of the year?

Any assistance would be appreciated, thanks!

[DavidD66]

You will be turning your house into a rental property, with the caveat that you will be keeping one of three bedrooms for personal use.  Since you will be renting to friends, it is important that you charge market rent, otherwise the entire house will considered personal use and you will only be able to deduct expenses up to the amount of rent you receive.  Lets say your house is 2,000 square feet, and the area you are keeping for yourself is 400 square feet.  Assuming the two tenants have access to the entire house, you will be renting 80% of your house. You will need to determine your cost basis in the property (typically purchase price, plus acquisition costs, plus improvements).  You will allocate that cost between land and building (you can use the same allocation % the tax assessor does).    You will then take 80% of your cost for the house/structure and set it up as rental property asset and the program will calculate your annual depreciation which is a deductible expense.  You will report your income and your expenses (e.g. 80% of property tax, mortgage interest, etc.)  TurboTax does a great job of walking you through the set up of your property as a rental.  

Please see the following TurboTax Article on rental property and taxes:  Rental Real Estate and Taxes

[Keepittoasty94]

I appreciate your response, thank you!

One last question; is fair market value a set dollar amount per sq footage? Or does it have to fall within a certain price-range of similar nearby properties? 

[Carl]

I'm curious, if you're going to be out of country for 3 years, why are you keeping any of the property for personal use, instead of classifying the entire property as residential rental real estate? I ask, because while you're gone, I'm not seeing any reason or purpose for claiming any portion of the property as personal use. You definitely won't be using it as your primary residence, and I don't see how you will be occupying it for any period of personal use while you're out of country.
Take note also, that remote management of rental property can easily turn into a nightmare, and quite frequently does. Even if you're paying a management agency to manage the property for you.

[Keepittoasty94]

I live in an area that is seeing lots of expansion and have seen upwards of $20k in equity a year for the past 6 years. I’d like to at least hold onto the property for another 1-2 years to see if the value keeps going up. I’ll be able to come home as often as I want, I’ll just have to use PTO.

You’re certain that I can’t claim the property as my primary residence? For years, before I bought this house, I claimed a home in Michigan as my primary residence because I was only in SC on military orders. I assumed that I could use the same situation to my benefit, since I’d only be in Italy on military orders.

[Carl]

I think you're looking at the capital gains exclusion rule for this, and either you've never actually read it, didn't understand it correctly if you did, or are not aware of the special circumstances for active duty military. PCS orders to another state or country doesn't mean you can retain the property in a "my primary residence" status. Being on military orders, you don't have to.
When you sell the property, if it was your primary residence for at least 2 years (730 days) of the last 5 years (1826 days) you owned it, counting back from the closing date of the sale, then the gain on the sale (up to $250K if single or $500K if married) are exempt from taxation. The days you lived in it at your primary residence do not have to be consecutive either, provided all those days are within the last 1826 days you owned the property, counting back from the closing date of the sale.
There is a special rule for active duty military, such as yourself.

If you are forced to vacate the property due to military orders, then the day count is suspended until any one of three things happen.

1) A maximum of 10 years pass since you vacated the property

2) You retire or separate from the military

3) You return to the area on Permanent Change of Station orders. (TDY orders and leave do not count for this)

If you had to vacate the property under government orders prior to meeting the 2 year (730 days) residency rule, then you will qualify for a partial exclusion of 1/24th of the full exclusion, for each month you did live in the property.
Now take special note here, that the day count for either the occupancy period or ownership period is not "extended". It's "suspended" while you are away.  So if you lived in the house for 23 months, were away for say, 7 years and while still away you decided to sell the property while it's still classified as a rental. Your ownership period is 7 years, plus the 1 year 11 months you lived in it.

Your residency period is 23 months of the 7 years you owned it, and since your "day count" for the 5 year look back on residency (not ownership) stopped on the day you departed the area, you would qualify for a 23/24's exclusion of any capital gain realized on the sale.
If you returned to the area after 7 years and moved back into the house as your primary residence, then after living there for 1 month you would qualify for the full exclusion amount.

So converting only part of the property to rental doesn't mean the unconverted percentage is your "primary residence". Note there is a difference between primary residence, personal u se property, 2nd home, and the such.
Now if you already met the 2-year primary residence requirement, there's still no need to only convert part of the property to a rental. Your "day count" for the residence look back stopped on the date you departed the area. Technically speaking, it stopped on the date the movers picked up all of your household goods, if you checked into a hotel that night and have paperwork to prove it. I'm sure you have the paperwork, as you had to turn in receipts at the new duty station to "settle up" with the military for your moving expenses.