Rental property depreciation explained
Skip the mathRental property depreciation calculatorDepreciation lets you deduct the cost of a rental building a little each year, as if it wore out over 27.5 years. You do not pay anything to claim it, but it lowers the income tax on your rent, often to zero for the first years.
Step 1: work out the basis
The basis is what the building cost you, not counting the land.
Basis = Price + buying costs + improvements before renting - land value
Buying costs you add (IRS Publication 527): abstract fees, legal fees, recording fees, surveys, transfer taxes, title insurance, charges for installing utility services, and amounts the seller owed that you agreed to pay, such as back taxes.
Land is never depreciated. You need a split between land and building. A common way is to use the ratio on your property tax assessment: if the assessor values the land at 20 % of the total, use 20 % of your price as land.
Step 2: the 27.5-year schedule
Residential rental buildings use straight-line depreciation over 27.5 years. Each full year you deduct 1/27.5 of the basis, about 3.636 %.
The first year is shorter. Under the mid-month convention, the property is treated as placed in service in the middle of the month it became ready and available for rent. A rental ready in April gets 8.5 months in year one: 2.576 % of the basis. One ready in December gets half a month: 0.152 %. The calculator lists all twelve months.
“Placed in service” means ready and available for rent, for example listed and fit to move into, not the day the first tenant arrives.
Example
| Line | Amount |
|---|---|
| Price | $350,000 |
| Buying costs added to basis | $6,000 |
| Land (20 % of price) | -$70,000 |
| Depreciable basis | $286,000 |
| Full-year depreciation (/ 27.5) | $10,400 |
| First year, placed in service in April | $7,367 |
In the 22 % bracket, $10,400 of depreciation can save about $2,288 of federal income tax a year, if the rules below do not limit it.
Repairs and improvements
A repair keeps the property in working order: fixing a leak, patching drywall, replacing a broken window pane. You deduct it in the year you pay it.
An improvement makes the property better, restores it or adapts it to a new use: a new roof, a kitchen remodel, a new HVAC system. You depreciate it over its own recovery period, 27.5 years for most parts of the building, starting when it is placed in service. The IRS has safe harbors that let small landlords deduct some smaller items right away; ask a tax professional which ones fit.
Limits and recapture
- Passive losses. If depreciation turns your rental into a tax loss, the passive activity rules may limit how much of that loss you can use against other income. See how rental income is taxed.
- Recapture when you sell. Depreciation lowers your basis, so the gain is bigger when you sell. The part of the gain that comes from depreciation is taxed at up to 25 %. The IRS uses the depreciation “allowed or allowable”, so skipping it does not avoid this tax.
Questions
How many years do you depreciate a rental property?
A residential rental building is depreciated over 27.5 years under the General Depreciation System, straight line, with the mid-month convention. Improvements you add later get their own 27.5-year schedule from the month they are placed in service.
Can I depreciate a rental I bought years ago but never depreciated?
Usually yes. You may be able to catch up by changing your accounting method with Form 3115 instead of amending old returns. This is a situation to take to a tax professional.
Do I depreciate the closing costs?
Some of them. Costs to acquire the property, such as title insurance, recording fees, transfer taxes and legal fees, are added to the basis and depreciated. Costs of getting the loan, such as points, are handled separately.
What happens to depreciation when I sell?
The depreciation you took, or could have taken, lowers your basis and raises your gain. That part of the gain is taxed at up to 25 %.