IRS Rules for Reporting Car Rental Income and Deducting Expenses
Income earned by renting out cars and trucks is taxable
It's taxable income when you earn money from car rentals through peer-to-peer car-sharing services like JustShareIt, Getaround, or Turo. You can often deduct your related expenses, however, such as depreciation, commissions, and marketing costs.
How the income and expenses are reported depends on whether the IRS considers your activity to be a business.
Rules Regarding Income
Income from renting your car is referred to as "rents from personal property" in IRS terms. It's ordinary income subject to federal and state income tax, and possibly to self-employment tax as well.
This income is categorized as either business income or as nonbusiness income. Business income is reported on Schedule C and is subject to self-employment tax—the equivalent of Medicare and Social Security taxes that would normally be divided between an employer and employee. Self-employed individuals must pay both halves.
Your total from Schedule C is also entered on Schedule 1 if you're self-employed.
Rules for Deductions
Expenses can be deducted as business expenses if you're self-employed. They're netted directly against your business income on Schedule C. Your taxable business income would be $20,000 if your gross business income is $30,000 and you have $10,000 in deductible expenses.
Nonbusiness expenses are considered to be hobby expenses, which are only deductible under certain rules under the terms of the Tax Cuts and Jobs Act (TCJA). You can only claim an itemized deduction up to the income you report having brought in from the hobby. The balance is no longer deductible if it results in a loss that could be subtracted from your other income.
The TCJA sunsets or expires at the end of 2025 if Congress doesn't take steps to renew it, so it's possible that this rule could be eliminated in tax year 2026.
You can generally deduct:
- Actual expenses prorated for rental use or using the standard mileage rate
- Marketing expenses or commissions to the networks
- Car washes
Start With the Basics—3 Questions
First, determine whether your car rental activity is a business. Second, determine whether you "materially participate" in the business if it is. Finally, determine whether your car rental activity is conducted for profit if your rental activity is not a business.
If Your Operation Is a Trade or Business
Rental income is taxed just like other business income if you're renting out your personal vehicle as a trade or business. This translates to engaging in the activity with the primary goal of earning income or making a profit. You must engage in it on a regular basis.
Report your gross rental income on Schedule C, then deduct any expenses that are directly related to your car rental business, directly on that form. The net income arrived at after taking deductions is then transferred to your Form 1040 and is subject to federal income tax, self-employment tax, and any applicable state taxes.
The IRS spells out nine factors for testing whether an activity is carried on for profit:
- You carry on the activity in a businesslike manner.
- The time and effort you put into the activity indicate that you intend to make it profitable.
- You depend on the income for your livelihood.
- Your losses are due to circumstances beyond your control, or they are normal in the start-up phase of your type of business.
- You change your methods of operation in an attempt to improve profitability.
- You (or your advisors) have the knowledge necessary to carry on the activity as a successful business.
- You were successful in making a profit in similar activities in the past.
- The activity makes a profit in some years.
- You can expect to make a future profit from the appreciation of the assets used in the activity.
Did You Materially Participate?
Passive activity loss limitations control when and how much of your losses are allowed, and three rules apply here.
The IRS indicates that a rental activity is passive even if you materially participated in it, but two more rules offer exceptions: five exceptions for rental activities, and the material participation test, whch states that "you participated in the activity for more than 500 hours" during the tax year.
Five hundred hours might seem like a high target for people who are renting out their cars through a sharing-economy platform, but this is just one test.
Another test asks whether the taxpayer participated in an activity for more than 100 hours during the year and the taxpayer's level of participation was at least as much as that of any other person involved in the activity, including non-owners. This might be a more feasible target for people who are renting out their cars.
Yet another test asks whether whether the taxpayer's participation in the activity for the year was substantially all of the participation in the activity by all individuals, including any non-owners, for the year. In other words, this test asks whether the taxpayer did substantially all the work of renting out the car. If so, the taxpayer materially participated in the business.
Is Your Business a Passive Activity?
Your loss might be suspended under the passive activity loss limitation rules (PALL) if you don't materially participate in the car rental activity, and the business incurs a loss for the year.
You've already determined that your car rental activity is a business and it's conducted for profit. You're reporting the income and deducting expenses on Schedule C. After deducting all expenses related to the car rental activity, you have negative net income—a loss. At this point, you must ask yourself whether this loss is limited by the passive activity rules.
The full amount of the loss is carried to Form 1040 if it's not, and the loss offsets any other income you've reported. It is suspended if it is limited, which means that it can't be carried over to your Form 1040, but it can be carried over to next year's tax return, where it can offset any net positive income on next year's car rental Schedule C.
If It's Not a Business
Rental income is taxed as ordinary income if renting out a personal vehicle isn't a business. You should indicate that the income is from the rental of personal property so the IRS knows what type of income you're reporting.
Nonbusiness income is subject to federal income tax and any state taxes, but it isn't subject to the self-employment tax.
The rental income is still reported on Schedule 1 if your car rental activity isn't a business and isn't conducted for profit, but expenses related to the rental activity aren't deductible beyond the income the activity earned. The most you can do is offset that particular income.
Are You Profitable in Three out of Five Years?
The IRS will presume that an activity is carried out for profit if the activity produces profits in at least three out of the preceding five tax years, including the current year. The IRS might wonder whether your car rental activity is actually a not-for-profit activity if it were to fail this three-out-of-five-year test.
You can ask the IRS to hold off on making a determination about whether your car rental activity is conducted for profit, however. This is called making an "election," and you can do so by filing Form 5213 with your tax return. You can ask the IRS to wait until you have had five years of activity, and then you and the IRS can review the full five years to see whether your car rental activity has generated profits in at least three of them.
The Importance of Recordkeeping
It's important to keep track of the number of hours that every person—owner, staff, and contractors—dedicates to your business. Keep track of the number of days for each rental, and take the average to see whether it might be less than seven days at the end of the year. If so, any losses for the car rental business are not limited by the passive activity loss limitations.
The net loss from Schedule C would flow to Form 1040, where that loss can offset other types of income if your loss isn't limited.
You'll also want to keep a log of your rentals, measuring the number of days the car is rented out. Measure the number of miles driven under rent as of the end of the year versus the total miles the car was driven.