What is the 7-Day Rule?
The 7-day rule is a general rule of thumb for vacation rental owners trying to keep the deductible losses to zero for their taxes. If a property is rented for an average of 7 days or less then owners will be eligible for tax-deductible losses.
For example, if you rented your home 90 days throughout the calendar year and the average booking length was 6.2 days per stay, you would be eligible for deducting losses from your taxes because your bookings stayed under the 7-day average.
Vacation rentals are typically considered passive activities because you earn a flow of income with minimal labor. Being categorized as passive activity grants you permission to file for passive losses which are any of the expenses, damages, or costs that can be deducted from your passive income. The losses from such activities are deductible only up to the amount of gains from other passive activities.
When you stay under 7 days you avoid all the issues that come with passive loss rules that an “active” or business-categorized vacation rental would face. The most troubling being a limitation on the deduction of net losses from passive activities.
Why is the 7-Day Rule Important for Vacation Rentals?
The 7-day rule could be the difference between you paying thousands of dollars for your vacation rental or only paying the necessary taxes. It’s more than important, it’s everything!
This rule lays the foundation for how you will categorize your vacation rental business. Anything exceeding the 7-day rule could put you in the territory of having to file your taxes as a business instead of real estate, which is fine if that is the clear average stay period for your guests. However, if your bookings tend to be on the cusp of the 7-day mark it’s better to be aware of this rule and take control of your bookings to avoid being excessively taxed.
Understanding the 7-day for your short-term rental is what’s going to guide you through taxation and the rules surrounding your business. If your vacation rental does exceed the 7-day average just be prepared for a potentially more complex tax filing.