Tax differences between renting a home to a family member or to a third party

Let’s suppose that the reader has a second home that he does not usually use but that he does not rent either, that is, he has it at his disposal. At a family meeting, her brother proposes to rent the house. You don’t think about it because he is your brother, you have total trust in him and you know that he will take care of you, in addition to the fact that you can use some additional income.

As we well know, when renting a home, we must take into account several issues: on the one hand, the income, determined in the rental contract and, on the other hand, the expenses incurred that could be deductible, which are detailed in article 23 of the Spanish Personal Income Tax Law, namely:

• Mortgage interest and repair and maintenance costs. In no case may the sum of these amounts be greater than the rental income, so that taking into account only these expenses, the return can never be negative. If this is the case, the excess that occurs may be deducted in the following four years.
• Non-state taxes and surcharges, such as IBI and garbage fees.
• Doubtful balances under the conditions established by regulations.
• Third-party services, such as home insurance.
• The amortization of the property.

As a result of the above, it is not surprising that the net income from the rental (Income – Expenses) can be negative, although it is not usual. Is this a problem? In principle, no. This negative income can be offset with the rest of the positive income obtained, such as income from work or income from economic activities in the return for the same year.

However, when it comes to renting a home to a family member, the Personal Income Tax Law imposes limitations on us that it does not impose on a third party. Specifically, if we go to articles 24 and 85 of the aforementioned Law, it tells us that a minimum income must be declared, which results from the following calculation:

• 2% of the cadastral value if the cadastral value has not been revised in the last ten years.
• 1% of the cadastral value if said cadastral value has been revised in the last ten years.

Let’s give an example to make it easier to understand in the case of a house with a cadastral value of 150,000 euros reviewed more than ten years ago:

(*) We can clearly see, how in the case of a relative, despite the fact that the net income is 2,000.00 euros, they are obliged to declare 3,000 euros, an amount that results from applying 2% to the cadastral value not reviewed in the last ten years (150,000 x 2%).

However, it is important to note that when a home is transferred free of charge without a rental contract or, therefore, payments by the tenant, a minimum rent will have to be imputed that results from the same calculation mentioned above, that is, 2% or 1.1% of the cadastral value, depending on whether or not it has been revised in the last ten years. In this case, the application of the 60% reduction is not appropriate because it is not income from real estate capital, but the imputation of real estate income.

When we obtain returns on real estate capital, that is, when it is actually rented to a third party, it is when we can apply a 60% reduction in these returns, as long as they are housing leases (not applicable with premises or offices). It is important to take into account and in these terms the General Directorate of Taxes states in its binding consultation V1993-18, when it says that for the application of this reduction the purpose of the property must be to satisfy the permanent need for housing of the tenant, not being applicable if the lease is made for seasons, school years (in the case of students),  summer or any other. In the examples cited, we would be talking about covering a temporary need.

Now, how do we distinguish whether a permanent need for housing or a temporary need is covered? The criterion for distinguishing one from the other will not be the time for which the contract is agreed, but the purpose for which the property is intended. This has been pointed out on several occasions by the Directorate General of Taxes, indicating that the requirement of temporality or permanence is not related to the term of duration of the contract but to the purpose to which it is directed, this opinion is the one published in several consultations and that coincides with the Resolution of the TEAC,  5663/2017, of 8^th March 2018.