For a lot of investors that come to AZREIA before they start buying homes, they know that they need to have a good lease and basic procedures set up for handling their rentals. Therefore, the initial question we get is as follows: what’s a landlord issue that is often overlooked, and can get me in trouble, when starting my rental portfolio? It should be no surprise that the answer involves the government: rental tax owed and registering the property as a rental.

Landlords must pay tax on most revenue that they receive from a resident, that is not returned. For example, a landlord must pay rental tax on rent, notice fees and late fees, as those come in as profits. However, they are not required to pay tax on the security deposit, because the deposit is returned to the resident at the end of the lease.

Once an investor realizes they owe this money, the question becomes, how does the state know that the money is owed? Under Arizona law, for any property that is used as a rental, the owner of that property has to register the home as a rental with the county assessor. This ensures that the county tracks the home as a business, not just as a primary residence for the owner, and taxes it accordingly. It is generally difficult for the county to know whether a home is being used as a rental, so the law allows residents to terminate their lease if the property is not registered. A resident can serve a 10-day notice and terminate the lease, if the rental registration is not timely updated. This is not an issue that a resident would care about, but this is a clever way for the government to make residents an extra tool in getting landlords to register their property.

It is important to note that Arizona is one of the few states that charges tax on rental income. Thus, it has often been argued that this is a regressive tax – it taxes lower income earners. Remember, although the landlord has to pay the tax, they are allowed to pass-through tax to their residents. To do so, there must be a provision in the lease specifying that the resident is liable for the tax, and specifically state that a landlord can change the tax rate on a 30-days’ notice, if the taxing authority changes the tax rate. It has been proposed in the past that the tax should be removed for that reason, but cities and towns strongly objected and fought such proposals, because they rely on that extra income to support government services including police. Thus, it doesn’t appear that this extra tax will go away anytime soon.

 

by Mark B. Zinman, Attorney, Zona Law Group