Selling Rental Property at a Loss in Hawaii: Is It Good Tax-Wise?

Nobody dreams of selling their Hawaii rental property for less than they paid. You probably had visions of collecting rent checks while relaxing with a drink and watching your investment appreciate over time. But real estate doesn’t always cooperate with our dreams. What people don’t realize, though, is that selling at a loss can actually be smart. Oahu Home Buyers can help you stop writing checks to cover the shortfall between rent and expenses, potentially take advantage of tax breaks, and gain the mental relief that comes from finally moving on.

Can You Sell a Rental Property at a Loss in Hawaii?

Yes, you can totally sell a rental property at a loss in Hawaii. There’s no law saying you have to make money on every real estate transaction.

If you and a buyer agree on a price that’s below what you originally paid, that’s a completely legitimate sale. It happens all the time, especially when markets take a dive or when someone just needs to get out of a bad situation.

The bigger question is whether selling makes sense for your specific mess. Sometimes, taking the loss actually improves your financial situation because it stops that awful monthly drain on your bank account. Plus you get to claim tax deductions that can offset gains from other investments, which means Uncle Sam helps cushion the blow a little bit.

And of course, not stressing about broken water heaters and angry tenants is worth something even if the spreadsheet shows red numbers.

Why Hawaii Property Owners Sell Rental Property at a Loss

Most landlords don’t start out planning to lose money. But then the market tanks, expenses spiral out of control, or life just gets in the way of managing a property that’s an ocean away from where you actually live.

Negative Cash Flow and Financial Strain

Remember when you thought the rent would cover everything? Well, it doesn’t. Between the mortgage, insurance, HOA fees that keep creeping up, and Hawaii’s property taxes, you’re writing checks every month just to keep the lights on.

Then the AC dies in July or you get hit with a three-month vacancy. You’ll drain your savings to subsidize someone else’s housing.

Market Decline in Hawaii Real Estate

Real estate goes up and down and Hawaii isn’t immune to the down parts. For instance, if tourism drops, the economy hiccups. Your specific neighborhood loses its appeal and then your property is worth way less than what you paid for it.

Sure, you could wait ten years hoping for a rebound, but that’s a long time to keep losing money every month on a maybe.

Changing Investment Goals

You’re not the same investor you were five years ago. Maybe you’ve decided that mainland properties are easier to manage or you found investment opportunities that don’t require dealing with problematic tenants and surprise repair bills.

Sometimes you just wake up and realize that owning rental property in Hawaii sounded better in theory than it works in practice.

Personal Circumstances

Your new job is in Denver, your mom needs help in Florida, or your divorce settlement requires liquidating assets fast. The rental property you could barely manage from afar becomes impossible to justify keeping when life is difficult.

High Maintenance and Repair Costs

Paradise weather destroys buildings. The salt air eats through everything metal, and the humidity breeds mold like crazy. Don’t even get us started on termites.

Your “low maintenance” property needs a new roof, the plumbing is shot, and the inspector just found wood rot in places you didn’t know existed. When the repair estimates start looking like down payments on new cars, selling is better than sinking more money into a losing proposition.

Increasing Property Taxes in Hawaii

Your property tax bill keeps growing faster than your rent increases. Counties love reassessing property values and rental properties get taxed with higher rates than primary residences.

What cost you $3,000 a year when you bought the place is now $7,000. That difference comes straight out of your already-thin profit margins.

Difficulty Managing Out-of-State Rental Properties

Managing a Hawaii rental from Cincinnati or Boston or wherever you actually live is a special kind of torture. You can’t swing by to check on things. You’re dealing with the time difference when emergencies happen and you’re either paying a property manager 10% of your rent or trying to coordinate repairs with contractors you’ve never met and can’t supervise.

Every problem takes twice as long and costs twice as much when you’re managing it from 4,000 miles away.

Tax Deductions When Selling Rental Property at a Loss

You’re taking a financial hit on the sale, but at least the tax code throws you a bone. When you sell your rental property at a loss, you can use that loss to reduce your tax bill in several ways. Some of these benefits can stretch out over multiple years.

Capital Losses vs. Ordinary Losses

Your rental property loss gets classified as a capital loss, not an ordinary loss and there’s a difference.

Capital losses can offset capital gains from other investments. That means if you sold some stocks for a profit this year or made money on another property, your rental loss can cancel out those gains dollar for dollar.

If your losses exceed your gains, you can deduct up to $3,000 of the excess against your regular income each year. It’s not a massive deduction, but it’s something. Remember, every bit helps when you’re already taking a loss on the property.

Offsetting Capital Gains with Your Loss

Let’s say you sold some tech stocks earlier this year and made $40,000 in profit. Then you sell your Hawaii rental and lose $35,000. Those two transactions basically cancel each other out. You only pay capital gains tax on the $5,000 difference instead of the full $40,000.

You just saved yourself a chunk of change in taxes, which takes some of the sting out of losing money on the rental. The timing matters, though. These gains and losses need to happen in the same tax year to offset each other.

Passive Activity Loss Deductions

Rental properties fall under something called passive activity loss rules, which is the IRS’s way of making things more difficult for you. But if your adjusted gross income is under $100,000, you might be able to deduct up to $25,000 of your rental losses against your regular income. That’s a nice deduction if you qualify.

The catch is that this allowance phases out as your income climbs higher. Once you hit $150,000 in adjusted gross income, the deduction disappears completely. High earners get the short end of the stick here, but if you’re below $100,000, you can actually use your rental property loss to reduce your overall tax burden.

Carryover Losses for Future Tax Years

If you can’t use all your capital losses this year, don’t worry. They don’t just evaporate. You can carry forward any unused losses indefinitely to offset capital gains in future years.

That means if you lose $50,000 on your Hawaii rental but only have $10,000 in capital gains this year, you’ll use $10,000 of the loss now and bank the remaining $40,000 for future tax years. Every time you have capital gains down the road, you can chip away at that carried-forward loss until it’s gone.

It’s like having a tax credit sitting in your back pocket, ready to use whenever you need it.

What is HARPTA and How Does it Affect Your Sale?

HARPTA stands for Hawaii Real Property Tax Act. It’s basically Hawaii’s way of making sure non-resident sellers actually pay their state taxes.

The state got tired of people selling Hawaii properties, making a profit, and then disappearing to the mainland without paying what they owed. So now Hawaii requires buyers to withhold 7.25% of the total sales price at closing and send it directly to the Hawaii Department of Taxation.

That money comes out of your proceeds before you see a dime. This can be a nasty shock if you weren’t expecting it. The kicker is that 7.25% is usually way more than you actually owe in taxes. It’s just an upfront withholding to ensure compliance.

HARPTA Withholding Requirements

You sell your rental property for $500,000. At closing, the buyer (or more accurately, the escrow company handling the transaction) withholds $36,250 and sends it to the state. You walk away with $36,250 less in your pocket than you thought you would.

This withholding happens automatically for non-resident sellers. There’s no getting around it unless you qualify for an exemption.

The 7.25% gets calculated on the entire sales price, not on your profit, which is why it usually exceeds your actual tax liability by a lot. You’ll eventually get the overpayment back, but not until you file your Hawaii tax return and prove what you actually owe.

HARPTA Exemptions for Sellers with Losses

If you’re selling at a loss, you might be able to skip the HARPTA withholding entirely. Hawaii residents don’t have to deal with HARPTA at all and sellers doing a 1031 exchange can get an exemption.

But the most relevant exemption for your situation is the one for sellers who didn’t make any profit on the sale. If you’re genuinely selling at a loss, you can apply for a HARPTA waiver so the state doesn’t withhold money you’re just going to get refunded anyway.

Filing Form N-288B for Loss Sales

To claim your exemption, you need to file Form N-288B with the Hawaii Department of Taxation at least ten business days before closing. Don’t wait until the last minute on this. Escrow needs time to process everything, so if you miss the deadline, you’re stuck with the withholding.

Along with the form, you’ll need to submit your original purchase closing statement, an estimated closing statement for the current sale, and documentation for any improvements you made to the property. If you depreciated the property while renting it out, include your depreciation schedule, too.

The state wants proof that you’re actually selling at a loss, not just claiming it to dodge the withholding. Once approved, you can close without that big chunk of change disappearing from your proceeds.

HARPTA vs. FIRPTA: Understanding Both Taxes

HARPTA and FIRPTA sound like they should be related because they’re both ridiculous tax acronyms, but they’re totally different beasts. As mentioned, HARPTA is Hawaii’s thing. It hits anyone selling property in Hawaii who doesn’t actually live there and they withhold 7.25% of your sales price.

FIRPTA is federal and only cares if you’re not a U.S. citizen. They take a huge 15% cut.

If you’re a foreign investor selling your Maui condo, you get hit with BOTH. That’s over 22% of your sales price gone before you even see your check. A Canadian selling their Hawaii rental basically watches a quarter of their proceeds disappear into government withholding until they file all their tax returns and prove what they actually owe.

Meanwhile, if you’re just a regular American from Ohio looking to sell your home for cash in Honolulu or in nearby cities, you’ll typically only have to deal with the HARPTA requirements rather than the additional complications faced by foreign sellers.

How to Sell a Rental Property at a Loss in Hawaii: Step-by-Step Process

Here’s the actual process of selling at a loss in Hawaii so you don’t end up overpaying on taxes or dealing with bureaucratic problems.

Calculate Your Expected Loss and Tax Implications

Get your original purchase paperwork and do the math. Take what you paid, add any big improvements (new roof, kitchen remodel, not painting), then subtract all the depreciation you claimed over the years. That final number is your tax basis. If you’re selling for less than that, you’ve got a real loss.

Don’t just eyeball this or you might think you’re losing money when you’re actually breaking even. Worse, you might have a gain you didn’t see coming because you forgot about all that depreciation eating away at your basis.

Consult with a Hawaii Tax Professional

Just hire someone who knows this stuff. Hawaii’s tax law is its own special flavor of complicated. Trying to DIY your way through HARPTA exemptions and capital loss calculations is how you end up either overpaying or getting nasty letters from the IRS.

A good CPA costs money but saves you way more than their fee. Plus, they keep you from making expensive mistakes that haunt you for years.

Determine Your HARPTA Status and Filing Requirements

Right now, before you do anything else, figure out if HARPTA applies to you and what forms you need. If you’re a Hawaii resident, you’re clear. Selling at a loss? Get that N-288B form ready. Doing a 1031 exchange? Different form.

Don’t wait on this because the forms need state approval at least ten business days before closing. If you miss that window, they’re taking their 7.25% chunk whether you like it or not.

Gather Required Documentation

Start digging through your files for every piece of paper related to this property. Original closing statement, receipts for improvements, depreciation schedules, contractor invoices, basically everything. You need this stuff for your HARPTA exemption application and for your tax returns later.

Price Your Property Competitively

You’re already losing money, so don’t drag this out by overpricing because you’re emotionally attached to recouping your investment. The market genuinely doesn’t care what you paid or what you need.

Check what similar properties actually sold for (not what they’re listed at) and price yours to move. Every month you sit on the market costs you in mortgage payments, taxes, and insurance, which just makes your loss bigger.

Market Your Rental Property Effectively

Get decent photos and write a listing that actually highlights the good stuff. Make sure you spread it everywhere. If you’ve got tenants in place, lean into that as investor buyers love properties with immediate cash flow.

Work with an agent who gets the Hawaii market, especially if you’re trying to sell from three time zones away. The faster this thing sells, the less money you lose.

Close the Sale

You should double-check that your HARPTA exemption went through so you’re not blindsided by a massive withholding at closing. Read the closing statement line by line because errors happen and you don’t want to catch them after the money’s already moved.

If you’re planning to sell your home for cash in Waimanalo or in nearby cities, make sure you verify wire instructions by calling the title company directly. Email wire scams are everywhere, and losing your entire proceeds to fraud would turn a bad situation into a catastrophic one.

File Appropriate Tax Forms and Claim Deductions

The sale might be done, but the paperwork party isn’t over. Report everything on your federal return with Schedule D and Form 8949 so you can claim that capital loss. File your Hawaii tax return even if you got the HARPTA exemption. The exemption just means they didn’t withhold upfront, not that you skip filing.

If they did withhold and you want your refund faster than next year, file Form N-288C for a tentative refund. Keep copies of everything because the IRS has a long memory and loves asking questions years later.

Alternatives to Selling Your Hawaii Rental Property at a Loss

Selling at a loss might be your best move, but it’s not your only move. Before you choose the financial hit, let’s talk about some other options that might improve your situation without giving up on the property entirely.

Refinance to Improve Cash Flow

If your main problem is that the mortgage payment is killing your monthly budget, refinancing could drop that payment enough to make the property work again.

Interest rates fluctuate. If they’ve come down since you bought the place, you might be able to shave a few hundred bucks off your monthly payment. That might not sound like much, but over a year, it adds up. Your actual rental income will actually cover expenses instead of leaving you short every month.

You could also refinance to a longer term to lower the payment, though you’ll pay more interest over the life of the loan. The point is, if everything else about the property is fine and it’s just the monthly cash that’s breaking you, refinancing is worth exploring before you bail.

Convert to a Primary Residence

This one only works if you’re actually willing to move to Hawaii, but hear us out.

If you live in the property as your primary residence for at least two years, you can potentially qualify for the IRS primary residence exclusion when you eventually sell. That lets you exclude up to $250,000 in capital gains if you’re single, or $500,000 if you’re married filing jointly.

Obviously, this doesn’t help if you’re selling at a loss right now. However, if you think the market might recover and you could stomach living there for a couple of years, you’re setting yourself up for major tax benefits down the road.

Plus, you’d save on property taxes since owner-occupied properties get better rates than rentals in Hawaii.

Adjusting Rental Rates or Making Property Improvements

Maybe the real problem is you’re not charging enough rent, or your property needs some updates to command higher rates.

Do some research on what comparable properties in your area are renting for, because you might be leaving money on the table by undercharging. Or if your place is looking dated compared to the competition, a few strategic upgrades could justify bumping the rent significantly.

New appliances, fresh paint, and updated flooring aren’t super expensive, but they make a property way more attractive to tenants who’ll pay premium rates. It can be that the difference between a problematic property and a profitable rental is just a $5,000 renovation and a $200/month rent increase.

Holding for Market Recovery

Real estate is cyclical. What’s down today might be up in a few years. If you can afford to keep paying the bills and wait it out, there’s a decent chance the market will eventually swing back in your favor.

This strategy requires patience and cash reserves to cover the negative cash flow in the meantime, so it’s not realistic for everyone. But if you’re not desperate to sell right now and you believe in the long-term value of Hawaii real estate, sitting tight might save you from locking in a loss.

The risk is that the market could take years to recover or it might get worse before it gets better. You’re essentially gambling that your financial situation can handle the wait.

Key Takeaways: Selling Rental Property at a Loss in Hawaii

Selling your Hawaii rental at a loss can actually work in your favor tax-wise. You can offset other investment gains with your capital loss, possibly deduct up to $25,000 against regular income, and carry unused losses forward for years. The critical thing is dealing with HARPTA. Non-residents need to file Form N-288B at least ten business days before closing, or they’ll lose 7.25% of their sales price to withholding.

If you’re selling rental property at a loss and need a fast, hassle-free solution, Oahu Home Buyers is here to help. We offer fair cash offers, handle all the details, and make the process seamless so you can sell quickly without worrying about costly repairs or delays. Contact us at (808) 333-3677 for a no-obligation offer and take the stress out of selling your rental property today.