🇺🇸 Made in America·100% U.S.-Based Team · 24+ Years in Cost Segregation
A furnished mid-term rental, with stays of a month or more, is a rental activity under the passive loss rules, so its losses are passive by default no matter how hard you work on it. Cost segregation still works on the depreciation side: a fully engineered and accounted study moves 20 to 35 percent of the building basis into 5-, 7- and 15-year classes, and with 100 percent bonus depreciation for property acquired and placed in service after January 19, 2025, that share is deducted in year one. Whether you can use the loss this year depends on four things: real estate professional status in the household, the $25,000 active participation allowance, passive income from elsewhere, or an operation that in fact meets the seven-day test. Settle that question before you order the study.
Beth is a labor and delivery nurse in Pensacola, Florida, who bought a four-bedroom house near the hospital district in February 2025. Weekend guests never see it. She rents it fully furnished to traveling nurses on 13-week contracts, and her calendar has been full since the day she listed it. At tax time her CPA asked a question that surprised her: “What is your average length of stay?” Her answer, roughly 85 days, changed everything about how the property is taxed. Beth is illustrative; the rules and the arithmetic below are real.
There is no IRS category called “mid-term rental.” The term is an industry label for furnished rentals with stays between a vacation rental and a 12-month lease, usually 30 days to six months, rented to travel nurses, relocating employees, insurance-displaced families and remote workers. The IRS cares about two facts on your rental records: your average period of customer use and the services you provide. Those two facts decide whether the property is a rental activity under the passive activity rules, and that single classification decides whether your cost segregation losses can offset wages, business income or other nonpassive income. Investors who read about the “short-term rental loophole” and assumed it covered a furnished house learn this the way Beth did.
Section 469 limits the deduction of passive activity losses. Under Section 469(c)(2), any rental activity is passive regardless of how much time you spend on it, unless an exception applies. The most important exception for individuals is the real estate professional rule in Section 469(c)(7), covered below.
The regulations under Section 469 list several situations in which an activity involving tangible property is treated as something other than a rental activity. Two matter for furnished housing.
Everything else is a rental activity. If your average stay is longer than seven days and you do not provide significant personal services, the losses are passive.
| Average stay | Typical services | Generally treated as | Loss treatment if you do not qualify as a real estate professional |
|---|---|---|---|
| 7 days or less | Typical vacation rental | Not a rental activity under the regulations | Nonpassive if you materially participate; passive if you do not |
| 8 to 30 days | Cleaning and maintenance only | Rental activity | Passive |
| 8 to 30 days | Significant personal services provided | May not be a rental activity | Depends on facts and material participation |
| 31 days or more | Furnished, standard services | Rental activity | Passive |
The table is a starting point for a conversation with your CPA. The burden of proof is on the taxpayer.
The average period of customer use is the total days of customer use during the year divided by the number of separate rentals. Where an activity holds more than one class of property, the classes are weighted by gross rental income under Regulation Section 1.469-1T(e)(3)(iii), never by rental days. Take a furnished two-bedroom condo that hosted twelve guests last year: four traveling nurses at 90 days each (360 days), two corporate relocations at 45 days (90 days), three insurance-displacement families at 30 days (90 days) and three weekend guests at 3 days (9 days). Total days of use are 549, divided by 12 rentals, for an average of about 45.75 days. A handful of weekend bookings cannot turn a long-stay property into a short-term rental for tax purposes. An owner who shifts to mostly short stays changes the average, but the change has to reflect how the property is used, supported by booking records.
Cost segregation is a fully engineered and accounted analysis that identifies the parts of a building that qualify for shorter depreciation lives than the building itself. A residential rental building is depreciated over 27.5 years. One caution: a building is residential rental property only if 80 percent or more of its gross rental income comes from dwelling units, and units used on a transient basis do not count, so a furnished rental whose average stay runs under 30 days is nonresidential real property on 39 years. Most mid-term rentals, with stays of a month or more, stay on 27.5. A study separates out removable carpet, specialty lighting, dedicated electrical and plumbing for equipment, appliances, window treatments, and exterior items like landscaping, fencing, sidewalks and driveways, examined as 5-, 7- or 15-year property where the engineering supports it. Kitchen cabinets in a residential building stay with the structure.
Under the One Big Beautiful Bill Act, qualifying property with a recovery period of 20 years or less, acquired and placed in service after January 19, 2025, is eligible for 100 percent bonus depreciation under Section 168(k), so the reclassified portion is deducted in the first year. A study does not change the total depreciation you are allowed over the life of the property; it moves more of it to the front. That is worth real money, and it is also why the study should be justified by usable losses rather than by the size of the deduction on paper.
Mid-term rentals have an extra pool of 5-year property because they are furnished: beds, sofas, dining sets, televisions and small appliances. IRS Publication 527 lists furnishings, appliances and carpet in a residential rental as 5-year property. Owners deduct them through bonus depreciation or through the de minimis safe harbor election under Regulation Section 1.263(a)-1(f), $2,500 or less per invoice or item for taxpayers without an applicable financial statement, elected annually. Furniture purchases need no cost segregation study; the study covers the building and site components.
The following example is hypothetical, uses round numbers, and is not a guarantee of any result. Maria buys a duplex in Hendersonville, North Carolina, in March 2025 for $600,000 and rents both units furnished to traveling healthcare workers on stays of 60 to 90 days. Land is allocated at 20 percent, or $120,000, which leaves a depreciable building basis of $480,000. She buys $22,000 of furniture and equipment. The property is furnished and available for rent in March, so it is placed in service in the third month of the year.
Assume the study identifies $120,000, or 25 percent of the building basis, as 5-, 7-, and 15-year property. Actual results vary with the property, the build quality and the land improvements.
The incremental first-year deduction from the study is about $116,545. At a 37 percent federal marginal rate, that is roughly $43,122 of federal tax reduction in year one, if and only if the loss can be used. That brings us to the question that matters more than the study itself.
Maria’s husband Daniel runs a property management company and spends more than 1,500 hours a year in real estate. Under Section 469(c)(7), a taxpayer qualifies as a real estate professional if more than half of the personal services they perform in trades or businesses are in real property trades or businesses in which they materially participate, and they perform more than 750 hours in those businesses. On a joint return, either spouse meeting the tests separately is enough. Daniel qualifies. Because the couple also materially participates in the duplex, the loss is nonpassive and offsets their other income, subject to the other loss limits. Material participation is tested separately for each rental unless the taxpayer elects under Regulation Section 1.469-9(g) to treat all rental real estate as a single activity; the election binds future years, so make it with your CPA. Our article on how one spouse frees the household’s rental losses covers Daniel’s situation.
Now suppose Maria is the only owner, works 45 hours per week as a nurse, and has no other passive income. The duplex is a rental activity and the loss is passive. Her $116,545 incremental deduction cannot offset her wages. It is suspended and carried forward under Section 469(b), offsets passive income in future years, and is released in full when she disposes of substantially all of the activity in a fully taxable transaction to an unrelated party under Section 469(g). The study still has value in that case, but the value is deferred. A good proposal models both cases and tells you which one you are in before you buy anything.
Dev earns $120,000 in modified adjusted gross income, owns a single mid-term rental in Spartanburg, South Carolina, and makes the management decisions. Section 469(i) allows up to $25,000 of passive rental losses against nonpassive income for individuals who actively participate, a lower bar than material participation that requires at least a 10 percent ownership interest and real involvement in approving tenants and setting terms. The allowance phases out by 50 cents for every dollar of modified adjusted gross income above $100,000 and is gone at $150,000. At $120,000, Dev’s allowance is $25,000 minus half of $20,000, or $15,000. The rest of the loss is suspended.
Qualify as a real estate professional. The most powerful route and the one with the highest documentation burden: more than 750 hours in real property trades or businesses, more than half of your working time, and employee hours count only if you own more than 5 percent of the employer. Keep a contemporaneous log; courts reject reconstructions.
Use the $25,000 allowance. Under $150,000 of modified adjusted gross income, it shelters some of the loss. It is rarely the whole answer.
Pair the losses with passive income. Income from other rentals, a limited partnership or the gain on the sale of a passive activity absorbs the mid-term rental loss without any election.
Check whether the operation meets the short-term rental rules. If your property runs with an average stay of seven days or less, the passive rental rules do not apply, and the material participation tests under Regulation Section 1.469-5T govern: more than 500 hours, or more than 100 hours and more than any other individual. Our guide to the short-term rental tax loophole covers it. This route is available only if your operation meets the facts; a mid-term business cannot be relabeled after the fact.
Depreciation begins when property is ready and available for its assigned function. For a mid-term rental, that means furnished, set up, licensed where required, and available for rent, even if the first guest has not arrived. Your evidence is the listing date, furniture delivery receipts, utility start dates and inspection records. A property furnished and listed by December 31 claims depreciation for that year; one that closes in December but is ready in January waits for the next return. The study itself only has to be done in time to support the return, and the deadline is your filing date, extensions included.
If you bought years ago and have only claimed 27.5-year depreciation, a look-back study classifies the property as if the study had been done at acquisition, and Form 3115 claims the missed depreciation in the current year as a Section 481(a) adjustment, with no amended returns, at the bonus rate of the year the property was placed in service. Read our guide on the look-back study and Form 3115. If you converted a long-term rental or a personal residence to a furnished rental, the placed-in-service date and the depreciable basis are set at conversion; see our post on converting a home to a short-term rental.
Accelerated depreciation is a deferral. When you sell, gain attributable to depreciation on the 5- and 7-year property is Section 1245 recapture, taxed as ordinary income up to the depreciation claimed; gain attributable to building depreciation is unrecaptured Section 1250 gain at a maximum federal rate of 25 percent; the rest is long-term capital gain. A fully taxable sale to an unrelated party also releases suspended passive losses, and a Section 1031 exchange can defer the gain, with the 1245 recapture deferred only to the extent the replacement property carries 1245 property of its own. See our guide on depreciation recapture. A responsible proposal shows the exit cost alongside the year-one savings.
The IRS Cost Segregation Audit Techniques Guide (Publication 5653) describes six common approaches to a study and prescribes none. A fully engineered and accounted study works under the first two, Approach 1 from actual cost records and Approach 2 from documented estimates reconciled to the purchase price, and delivers a component schedule your CPA can import and the engineering support behind it, signed by credentialed professionals, which an examiner can trace line by line. The estimated study, a percentage applied from other people's buildings, sits in the guide's rule-of-thumb territory with nothing underneath it. Cost Seg America defends every study for as long as you own the building, no time limit, no hour cap, no additional fee, with written responses and participation in examiner calls alongside your CPA.
Your own records matter just as much. Keep a booking ledger with every guest, check-in, check-out and total nights, so the average period of customer use can be proven; a plain description of the services you provide; the closing statement and the land allocation; furniture invoices with dates; a time log if you rely on real estate professional status or material participation; and evidence of the date the property was ready for rent.
Skip the study when the depreciable basis after land is under $180,000, when you plan to sell within a couple of years so that recapture arrives before the time value has done much, or when the loss would be passive with no passive income, no real estate professional in the household and no sale in sight. In that last case the deduction waits, and a look-back study can bring it forward in the year the answer changes.
Yes. A mid-term rental is depreciable residential rental property, and a study identifies the components that qualify for shorter recovery periods. Whether the loss is usable this year depends on real estate professional status, the active participation allowance and passive income.
Generally not, unless the average period of customer use is seven days or less, or 30 days or less with significant personal services. Most mid-term rentals are rental activities.
It is suspended and carried forward indefinitely. It can offset future passive income and is generally released when you sell the property in a fully taxable transaction to an unrelated party.
On a joint return, the requirements are satisfied if either spouse separately meets them. The couple must still materially participate in the rental activity, and the hours of both spouses count toward that.
Generally yes. Furnishings in residential rental property are treated as 5-year property, and qualifying property acquired and placed in service after January 19, 2025 is eligible for 100 percent bonus depreciation. Smaller items may qualify for the de minimis safe harbor election.
Often yes. A look-back study combined with Form 3115 can allow you to claim missed depreciation in the current year without amending prior returns, subject to eligibility rules.
Beth's rental was passive. Her husband works full time for the county, so neither of them qualified as a real estate professional. They used a partial $25,000 allowance, carried the rest forward, and planned a second purchase with passive income in mind, with the study in hand.
If you own a mid-term rental, or you are about to buy one, send Jim Dougherty and his team the address, the purchase price and your average stay. You will have a free proposal in 24 hours showing what a study can do for your property and how the passive activity rules are likely to apply, and if a study does not fit, the proposal will say so. Call 1-888-365-5023 or email info@costsegamerica.com, and bring your CPA into the conversation.
This article is educational and general in nature and does not constitute tax, legal, or accounting advice. Names, percentages, and dollar amounts in the examples are hypothetical and guarantee nothing. Confirm your specific situation with your CPA or tax advisor before making any decision.
Use the calculator, see your number, and request your free, no-cost proposal - delivered in 24 hours, with your flat fee quoted upfront and no obligation.