Understanding Rental Property Depreciation IRS Rules

As a landlord, it is important to understand how rental property depreciation works when it comes to taxes. Depreciation is a tax deduction that allows you to recover the cost of your investment property over time. Making a rental business profitable can sometimes be challenging, especially when it comes to figuring out taxes and IRS rules. In this blog post, we will cover the basics of rental property depreciation and the IRS rules you need to know.

Depreciation is a tax deduction that allows landlords to recover some of the costs of their rental property and lower their taxable income. IRS rules state that landlords can depreciate rental property that is being rented or leased for business purposes and is expected to last more than one year.

The property's value can be depreciated over 27.5 years for residential properties and 39 years for commercial properties.

One important thing to remember is that the land where the rental property is located cannot be depreciated. Only the value of the building and other structures can be depreciated. That means you'll need to identify the value of the land versus the value of the rental property. You can do this by getting a property appraisal or consulting a real estate agent.

Another critical IRS rule for rental property depreciation is the Modified Accelerated Cost Recovery System (MACRS). This method of depreciation allows landlords to depreciate rental properties using a specified schedule for residential and commercial properties. The MACRS schedule takes into account the property's cost, useful life, and recovery period. It then calculates a depreciation deduction for every year of the property's useful life.

The IRS allows landlords to use two MACRS methods - the straight-line method and the declining balance method. The straight-line method spreads the depreciation expense equally over the property's life, while the declining balance method allows landlords to depreciate at a higher rate in the early years and slower later on.
It is essential to keep accurate records of the rental property's cost, purchase date, useful life, and any improvements made over the years.

This information will come in handy when calculating your tax deductions. Landlords should also consider taking advantage of the Section 179 deduction, which allows them to deduct up to $1.04 million in qualified equipment purchases, including some improvements made to a rental property that would otherwise be depreciated.

Let's consider an example: Suppose you purchase a residential rental property for $500,000. The land value is $100,000, and the building value is $400,000.

The IRS considers the useful life of residential rental property to be 27.5 years.

Straight-Line Method Calculation:

• Subtract the land value from the total cost to get the depreciable amount: $500,000 - $100,000 = $400,000.
• Divide the depreciable amount by the property's useful life: $400,000 ÷ 27.5 = $14,545.45.
• So, using the straight-line method, you can depreciate $14,545.45 per year.

Understanding rental property depreciation IRS rules is crucial for landlords who want to minimize their tax bills and maximize their profits. The rules may seem complicated, but taking the time to learn and follow them can make all the difference. It's always a good idea to consult with a tax professional or real estate attorney if you have any questions or concerns. With the right knowledge and planning, you can make the most of your rental property investment.