Depreciation is one of the key advantages given to real estate investors. The tax advantage of the depreciation allowance can be the difference between profitability and loss in many properties. Understanding its value is often a key component in property evaluation. Astute investors understand and factor depreciation into their equations when analyzing a property and calculating a financial return.

Depreciation is basically a tax deduction, a way to save money on your taxes. Many of you have taken this deduction yourself with regards to a car or computer you use for business. On many large-scale business purchases, the IRS allows for the deduction but insists that you claim this deduction over time. Your potential apartment building investment, like a piece of machinery, is a going to be used to produce income profits over a period of time and therefore is deductible.

The time period for this depreciation is generally established as 27.5 years for residential income property and 31.5 years for commercial property.

Here’s how a property owner might write-off capital improvements: Let’s say $300,000 is spent on capital improvements for a property purchased for $1 million. These improvements are treated as an expense, which offsets capital gains on the home sale.

This is done on a cost basis (purchase price + capital improvements = $1 million + $300,000). When the home sells for $2 million, the owner is not taxed on this amount. Instead, $1.3 million is subtracted from $2 million, and the owner is taxed on $700,000. This approach reduces the taxable income significantly.

Therefore, capital improvements can be used to reduce capital gains on the sale of a property. But if you were to hold onto the property, then the capital improvements would simply be write-offs calculated over the long-term.

Also, If you’re remodeling say a residential kitchen and bathroom which are permanently attached to the building, then they can be depreciated over 27.5 years. This same concept applies to commercial property, which is depreciated at a rate of 39.5 years.

Remember to Always consult with your CPA or tax specialist to fully understand how these matters should be applied to your exact situation.

So whether using depreciation over the short- or long-term, remember to take advantage of the many loopholes that can lead to tax savings. We would be happy to further discuss how these matters impact your investment strategy and planning in a free consultation.

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