Why can't you deduct your full mortgage payment on Schedule E for rental properties?

Great question! The reason you can't deduct the full mortgage payment on Schedule E comes down to accounting principles rather than arbitrary tax rules. When you make a mortgage payment, it has two components: interest and principal. The interest portion is a true expense - it's the cost of borrowing money. That's why it's deductible. But the principal portion isn't actually an expense - it's an asset conversion. You're essentially converting cash into home equity. Think of it this way: you're not "losing" that principal money - you're moving it from one pocket (cash) to another pocket (property equity). The tax code allows you to deduct depreciation instead, which acknowledges the gradual "using up" of the property over time. This is the IRS's way of accounting for the property's declining value over its useful life (27.5 years for residential rental property). If you could deduct both the principal payments AND take depreciation, you'd essentially be double-dipping on deductions for the same asset.

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The mortgage principal payment is actually considered "loan repayment" not an expense. Think of it like this: when you initially borrowed the money to buy the property, you didn't have to pay income tax on the loan proceeds. So when you pay back the loan, that's not deductible. It's similar to how you wouldn't deduct payments toward your credit card principal as a business expense. You're just paying back money you borrowed.

This is why I only buy properties with cash now. Dealing with the mortgage interest vs principal stuff was giving me a headache come tax time. Plus when you own outright, your cash flow is way better and the tax situation is simpler.

The key thing to remember is that you're not actually "losing" that principal payment - you're converting it into equity. I went through the same confusion when I started with rental properties. What helped me understand it better was thinking about the complete financial picture: Yes, your cash flow is reduced by the full mortgage payment, but your net worth is only reduced by the interest portion. The principal portion just moves from your cash account to your property equity. Also consider that depreciation often more than makes up for this. I typically show a paper loss on my tax return even though I have positive cash flow, thanks to the depreciation deduction. This "phantom loss" actually reduces my overall tax burden on other income. The real benefit becomes clear over time - your tenant is essentially paying down your mortgage for you while you get tax benefits and (hopefully) appreciation. It's a long-term wealth building strategy, not just a cash flow play.

I think you're getting caught up in the cash flow vs. tax reporting distinction, which trips up a lot of new rental property owners. The IRS tax code is designed around economic principles, not cash flow convenience. Here's another way to think about it: If you bought a $200,000 rental property with cash, you'd have $200,000 less in your bank account but $200,000 more in real estate equity - your net worth stays the same. When you finance that same property and make principal payments, you're essentially doing the same thing over time - converting cash to equity. The mortgage interest is the true "cost" of using someone else's money to buy an asset. The principal payments are you gradually buying back that asset from the lender. That's why only the interest is deductible as an expense. Also remember that when you eventually sell the property, that built-up equity from all those principal payments becomes real cash in your pocket. The tax code treats it as what it actually is - a transfer of value, not an expense. If principal payments were deductible, you'd essentially get to deduct the same dollar twice (once as principal, once when you recognize the loss of that cash as a cost basis reduction upon sale). The depreciation deduction is actually quite generous and often results in showing tax losses even with positive cash flow, which can offset other income.