It’s very important that you keep every receipt and note every expense and piece of income in a ledger. At some time you may have to prove to the IRS that the expenses you have reported on your investment property were real.

For example, three years earlier you had a water heater go out and you spent $500 getting it replaced. “Prove it,” says the IRS. So, you reach into your bag of receipts and pull out an invoice from the local plumber listing time and materials, including a new water heater for $500. That’s very hard to dispute.

Also, keep all records of any improvements you make to the property. Remember, improvements raise the tax basis, which will later reduce the amount of capital gains taxes you will need to pay. (The higher the tax basis, the lower the capi¬tal gain, and consequently, the lower the capital gains taxes.) If you make a capital improvement, such as add on a new room or patio, keep those receipts. At the end of the year, your accountant will be able to use them to adjust your tax basis upward. But also keep in mind that just because you spend money improving your rental, don’t assume that you’ve made a capital improvement for tax purposes. Replacing a water heater, for example, is not a capital improvement; it’s a repair. It will add to your operating expenses in the year it was done, but it will not add to your basis.