Residential rental real estate is depreciated over 27.5 years under IRS Publication 527, which means a $350,000 Austin rental with a $280,000 building basis (excluding land) throws off roughly $10,182 in annual depreciation deduction without you spending a dollar of cash. Combined with mortgage interest, property tax, insurance, repairs, and PM fees, that depreciation is usually what turns a cash-flow-positive Austin rental into a paper loss for tax purposes. Which is exactly the point.
Sounds great right. It is. Until you sell, the IRS recaptures the depreciation at 25%, and the operating losses run into the passive activity rules, the at-risk rules, the QBI safe harbor, and the real estate professional time test. So lets walk through what is deductible, the repairs-vs-improvements line that everyone gets wrong, the depreciation math, and the Texas-specific stuff (no state income tax, but property tax that is among the highest in the country).
This is not tax advice. I am a real estate broker, not a CPA. Run anything you read here past a tax professional who actually knows rental real estate before you put it on a return. The IRS treats rental property differently than active business income and the rules are nuanced.
I run Kendall Creek Properties in Austin and the year-end accounting package we deliver to owners is built around what their CPA actually needs. So this is the practical version.
Austin Metro Context
Austin MLS data via Kendall Creek Properties, May 2026:
- 3,378 active residential lease listings inside the City of Austin, $2,351 average asking rent
- Travis County 2025 average effective property tax rate: roughly 1.8% to 2.2% of appraised value depending on jurisdiction. See Travis CAD for parcel-specific data
- Texas state income tax: 0%. Federal only.
The property tax deduction is the big Texas-specific line. A $400,000 Austin rental with a 2.0% effective rate generates $8,000 a year in deductible property tax alone.
Texas Has No State Income Tax (But Property Tax Is Real)
Texas does not levy a state income tax. Your rental income is only subject to federal income tax. That is a meaningful advantage over states like California or New York where rental income is taxed at the federal and state level.
The trade-off is property tax. Texas funds most of its government through property taxes, and rates in the Austin metro typically run 1.8% to 2.5% of appraised value depending on the jurisdiction (city, county, school district, MUD, special districts). The good news for landlords: property taxes on rental properties are fully deductible on your federal return without the $10,000 SALT cap that applies to personal residences. The SALT cap only applies to itemized deductions on Schedule A. Rental property taxes flow through Schedule E as a business expense.
If you own through an LLC, Texas does impose a franchise tax at 0.375% to 0.75% on revenue above the no-tax-due threshold (currently $2.47 million per Texas Comptroller). Most single-property LLCs fall under the threshold and owe nothing, but the no-tax-due report still has to be filed.
The Major Deductions (Schedule E Categories)
1. Mortgage Interest
The interest portion of your mortgage payment is fully deductible. In the early years of an amortizing mortgage when the payment is mostly interest, this is often the largest single deduction. Only interest is deductible, not the principal. Your lender provides Form 1098 each January showing total interest paid.
2. Property Taxes
Texas property taxes are deductible as a rental expense on Schedule E with no SALT cap. Whether your annual tax bill is $5,000 or $15,000, the full amount is deductible against rental income. Pull your statement from Travis County Tax Office or whichever county your property sits in.
3. Depreciation (The Big One)
Depreciation is the most powerful tax benefit of rental property ownership. The IRS allows you to deduct the cost of the building (not the land) over 27.5 years for residential rental property under IRS Publication 527.
The math: If you bought a property for $350,000 and the building basis is $280,000 (after subtracting land value from the appraisal district), your annual depreciation is $280,000 / 27.5 = $10,182 per year.
This is a paper loss that reduces taxable income without any cash outlay. Many rental owners show a net tax loss after depreciation while running positive cash flow. The catch: when you sell, the IRS recaptures depreciation at a 25% rate (unrecaptured Section 1250 gain). So depreciation defers tax rather than eliminating it.
Cost segregation studies can accelerate depreciation by identifying components that qualify for shorter depreciation periods of 5, 7, or 15 years (appliances, flooring, landscaping, certain electrical and plumbing). For properties valued above $500,000, a cost seg study is often worth the $3,000 to $5,000 cost. For a $250,000 starter rental, usually not. Talk to your CPA.
4. Repairs vs Improvements (The Line Everyone Gets Wrong)
This is the deduction that creates the most audits. The rule:
- Repair: fixing something to maintain its current condition. Deductible in the year paid.
- Improvement: upgrade that adds value, extends useful life, or adapts the property to a new use. Must be capitalized and depreciated.
| Repair (deduct now) | Improvement (capitalize and depreciate) |
|---|---|
| Patch a hole in drywall | Add a new room |
| Fix a broken window | Replace all windows with energy-efficient units |
| Replace a broken faucet | Remodel the entire bathroom |
| Repair a leaking water heater | Replace water heater with tankless system |
| Touch up paint | Repaint the whole exterior |
| Replace a few damaged shingles | Re-roof the entire house |
The IRS has a Tangible Property Regulations framework that controls. The de minimis safe harbor lets small businesses expense items under $2,500 per invoice without capitalizing. The routine maintenance safe harbor allows recurring activities expected to keep property in efficient operating condition.
Practical Austin example: a $400 plumber visit to repair a leaking valve is a repair, deductible now. A $4,200 hot water heater replacement is technically a capital improvement that depreciates, though the de minimis safe harbor and small taxpayer safe harbor sometimes allow the deduction immediately. Ask your CPA.
5. Insurance Premiums
All rental-related insurance premiums are deductible:
- Landlord insurance (DP3 or similar policies on rentals)
- Flood insurance (relevant in parts of Austin near Onion Creek, Shoal Creek, Williamson Creek)
- Liability insurance
- Umbrella policies (portion allocated to rental)
- Loss of rents insurance
6. Property Management Fees
100% deductible. Monthly management fee, leasing fees, renewal fees, maintenance markups, and any other PM charges. See our breakdown of property management fees in Texas for the typical structure.
7. Travel Expenses
Travel to and from the rental for management purposes is deductible. Two methods:
- Actual vehicle expenses (gas, maintenance, insurance allocated to business use)
- Standard mileage rate (set annually by the IRS, $0.67/mile for 2024, check current year)
For out-of-state owners flying in to check on their Austin rental, airfare, hotel, and rental car are deductible for trips with bona fide management purpose. Keep a mileage log: date, destination, purpose, mileage. IRS scrutinizes vehicle deductions and a documented log is the defense.
8. Professional Services
- CPA fees for tax prep and advice
- Attorney fees for lease review, eviction, general legal counsel
- Real estate consultant fees
9. Advertising and Marketing
- MLS listing fees, syndication portal fees
- Signage
- Professional photography
- Print advertising
10. Utilities
If you pay utilities (during vacancy or because they are included in rent), deductible. Water, electric, gas, trash, internet.
11. HOA Fees
Monthly HOA dues and special assessments on rental properties are deductible as rental expenses.
12. Home Office Deduction
If you manage rentals from a dedicated home office, you may qualify for the home office deduction. The space must be used regularly and exclusively for the rental business. Proportional share of mortgage interest, property tax, utilities, insurance. The simplified method is $5 per square foot up to 300 square feet ($1,500 max). The actual-expense method takes more work but can produce a larger deduction.
The QBI Deduction (Section 199A)
Section 199A allows eligible rental property owners to deduct up to 20% of qualified business income from rental activities. This is significant: a $20,000 net rental profit can become a $16,000 taxable amount.
To qualify, the rental activity must rise to the level of a “trade or business.” The IRS Safe Harbor in Revenue Procedure 2019-38 provides that rental real estate qualifies if:
- Separate books and records are maintained for the rental activity
- At least 250 hours of rental services are performed per year (which can include PM hours)
- Contemporaneous records are kept documenting the hours
- A statement is attached to the return claiming the safe harbor
Property owners using a professional PM can often count the PM’s hours toward the 250-hour threshold. Talk to your CPA about whether your situation qualifies.
Passive Activity Loss Rules
Rental income is generally treated as passive income under IRC Section 469. If rental expenses (including depreciation) exceed rental income, the resulting loss may be limited.
Exception for active participants: If your AGI is below $100,000 and you actively participate in managing the property (approving tenants, setting rent, approving repairs), you can deduct up to $25,000 in passive losses against other income. The deduction phases out between $100,000 and $150,000 AGI and is zero above $150,000.
Real estate professional status: If you spend more than 750 hours per year in real estate activities AND it represents more than half your working time, you may qualify as a real estate professional under IRC Section 469(c)(7). This allows you to deduct rental losses without passive activity limitations. The bar is high (W-2 employees in unrelated jobs almost never qualify) but it is extremely valuable for those who do.
Record Keeping (The Defense in an Audit)
Maximizing deductions depends on documentation:
- Keep every receipt related to the rental
- Use accounting software (Buildium, AppFolio, QuickBooks, Stessa) or a dedicated spreadsheet to track income and expenses
- Maintain a mileage log for property-related travel
- Save bank and credit card statements showing rental transactions
- Keep records at least seven years (IRS can audit up to six years on substantial understatement)
Your PM company should provide monthly and annual financial statements organized by expense category. At Kendall Creek Properties we deliver an annual Schedule E-ready package with categorized income, expenses, vendor 1099s, and depreciation schedule prep. Your CPA still files the return, but the data is in the format they actually need.
Worked Example: $400,000 Austin Rental
Assumptions: $400,000 purchase price, $320,000 building basis (land $80,000), $300,000 mortgage at 6.5%, $2,800/mo rent, Travis County 2.0% effective property tax rate, KCP at 10% management fee.
| Income / Expense | Annual Amount |
|---|---|
| Gross rental income ($2,800 x 12) | $33,600 |
| Mortgage interest (year 1 estimate) | $19,300 |
| Property tax (2.0% of $400,000) | $8,000 |
| Insurance | $1,400 |
| PM fees (10% of $33,600 + leasing) | $4,200 |
| Maintenance and repairs | $1,800 |
| HOA dues | $600 |
| Subtotal expenses (cash) | $35,300 |
| Depreciation ($320,000 / 27.5) | $11,636 |
| Total deductions | $46,936 |
| Net rental income for tax | ($13,336) loss |
That paper loss of $13,336 may be deductible against other income depending on AGI and active participation status. Even if the loss is suspended under passive activity rules, it carries forward and offsets future rental income or gain on sale. Meanwhile the property generates real cash flow once the principal-only portion of the mortgage payment is removed from the calculation.
Frequently Asked Questions
Are property management fees tax deductible in Texas?
Yes. 100% deductible on Schedule E as an operating expense. Includes monthly management fees, leasing fees, renewal fees, and maintenance markups.
Can I deduct mortgage interest on my Austin rental?
Yes. The interest portion of mortgage payments is fully deductible on Schedule E. Principal is not deductible.
How does rental property depreciation work in Texas?
Same as anywhere in the US. Residential rental is depreciated over 27.5 years under the straight-line method. The deduction is based on the building basis (purchase price minus land value). Land is not depreciable.
Is the property tax deduction capped for rental properties?
No. The $10,000 SALT cap applies only to personal residence property taxes on Schedule A. Rental property taxes flow through Schedule E as an unlimited business expense.
What is the difference between a repair and an improvement?
A repair maintains current condition (patch, fix, replace a part). An improvement adds value, extends useful life, or adapts the property to a new use (remodel, addition, full system replacement). Repairs deduct now. Improvements capitalize and depreciate.
Can I take the QBI deduction on my rental?
Possibly. The IRS Revenue Procedure 2019-38 safe harbor requires separate books, 250 hours of rental services per year, contemporaneous records, and a statement on the return. PM hours can count toward the 250 hours. Your CPA can evaluate.
What if my rental shows a loss?
Passive activity loss rules generally apply. Active participants with AGI under $100K can deduct up to $25K of losses against other income. Above $150K AGI the special allowance phases out completely. Real estate professionals can deduct losses without the limitation.
Do I owe Texas franchise tax on my rental LLC?
Only if revenue exceeds the no-tax-due threshold (currently $2.47M). Most single-property LLCs owe nothing but still must file a no-tax-due report annually with the Texas Comptroller.
When do I recapture depreciation?
When you sell. Recapture is taxed at a maximum 25% rate (unrecaptured Section 1250 gain). 1031 exchanges defer recapture. Death and stepped-up basis can eliminate it.
Should I get a cost segregation study?
Usually worth it on properties above $500,000 because the front-loaded depreciation can produce significant first-year tax savings. Below $500,000 the $3,000 to $5,000 study cost often eats the benefit. Discuss with a CPA who has rental real estate experience.
How Kendall Creek Properties Helps at Tax Time
Our owners get a year-end financial package designed to make their CPA’s job easy: categorized income, expense breakdown by Schedule E line item, vendor 1099s, capital improvement vs repair flagging on every work order, depreciation prep, and a 12-month rent roll. The data is also accessible mid-year through the Buildium owner portal, so you can pull anything you need without waiting for January.
We are not your CPA and we do not give tax advice. But we organize the data so your CPA has what they need without a four-hour reconciliation project every spring.
Related Reading
For the management fee deduction context see property management fees in Texas. For the decision on whether to self-manage or hire out see when to hire a property manager for your Austin rental. For lease-up cost considerations see preparing your Austin rental property for new tenants.
If you want a PM to handle the operational side so you can focus on the bigger investment picture (and your CPA can focus on the deductions), here is what our service covers, or reach out through our contact page. You can also see current rentals to compare what well-priced units look like in the market.