Learn how rental property depreciation works, including basis, land allocation, 27.5-year recovery, placed-in-service timing and California rules.
Rental property depreciation is the tax deduction used to recover the depreciable basis of qualifying rental property over prescribed recovery periods. Residential rental buildings are generally depreciated under federal MACRS over 27.5 years using the straight-line method and mid-month convention.
Depreciation is not based on whether the property's market value actually falls. It is a tax cost-recovery system.
A landlord can generally depreciate property the landlord owns, uses to produce income, expects to last more than one year, and places in service. The building, appliances, furniture, carpeting, fences, and qualifying improvements may have separate depreciable lives.
Land is not depreciable. The purchase price and qualifying acquisition costs must therefore be allocated between land and depreciable property using a reasonable, supportable method.
Loan principal is not depreciable merely because it is paid. The mortgage balance, down payment, appraisal value, and tax-assessed value are not automatically the tax basis.
Depreciation begins when the asset is placed in service — ready and available for its intended rental use. It does not necessarily begin on the purchase date, first mortgage payment, or date the first tenant moves in.
If a house is ready and advertised for rent in July but the first tenant arrives in September, it may be placed in service in July. Costs incurred before the property is ready may require capitalization or another treatment.
Depreciation stops when basis is fully recovered or the property is retired from service, such as by sale, abandonment, destruction, or permanent conversion to personal use.
Jordan purchases a rental house for $600,000. A supportable allocation assigns $120,000 to land and $480,000 to the building.
Ignoring other basis adjustments, $480,000 is the building's depreciable basis. A full-year simplified amount is:
$480,000 ÷ 27.5 = $17,454.55
The first-year deduction is not simply that full amount. If the property is placed in service in April, the mid-month convention applies, and the allowed months under the convention determine the partial-year deduction.
A new refrigerator, fence, and roof should not be folded automatically into the original building schedule. Each asset or improvement is classified, placed in service, and depreciated under the rules applying to that property.
When a former home becomes a rental, the depreciation basis is generally the lower of its adjusted basis or fair market value on the conversion date, allocated to depreciable property. This limitation can produce one basis for depreciation and another calculation for later gain or loss.
Document the conversion date, rental listing, condition, fair market value, original purchase records, improvements, casualty adjustments, and land allocation.
An improvement that betters, restores, or adapts property generally must be capitalized. An addition or structural improvement to residential rental property is generally depreciated over the recovery period applicable to the property as if placed in service when the improvement is completed.
Appliances, furniture, carpeting, land improvements, and cost-segregated components can have shorter recovery periods. Bonus depreciation may apply federally to qualifying shorter-lived property under current law, but buildings do not become immediately deductible merely because they are rental property.
Individual landlords commonly report rental depreciation with other expenses on Schedule E. Form 4562 may be required when property is first placed in service, accelerated deductions are claimed, listed property is involved, or another filing condition applies.
Maintain a detailed fixed-asset schedule showing description, cost or basis, land allocation, placed-in-service date, method, recovery period, convention, annual depreciation, accumulated depreciation, and federal and California differences.
Basis is generally reduced by depreciation allowed or allowable. Failing to claim depreciation does not necessarily preserve basis for sale.
If depreciation was omitted or computed incorrectly, the correction may require an amended return or Form 3115 accounting-method change depending on the number of years and facts. Do not simply add several years of missed depreciation to the current Schedule E.
Depreciation reduces adjusted basis. A lower basis can increase gain when the property is sold. Gain attributable to depreciation can receive special federal treatment, including unrecaptured Section 1250 gain, and personal-property components can have recapture rules.
A 1031 exchange can defer qualifying gain but does not erase prior depreciation history. Replacement-property basis and deferred gain must be tracked.
California often starts with the federal rental calculation, but California does not conform to every federal accelerated-depreciation provision. Federal and California basis, annual depreciation, and gain on disposition can therefore differ.
California residents generally report rental income from property everywhere; nonresidents generally report California-source rental income. Schedule CA and California depreciation forms or workpapers may reconcile differences. Maintain parallel asset schedules from the year a difference begins.
Heath Income Tax can reconstruct rental basis, establish asset schedules, reconcile federal and California depreciation, correct missed deductions, and model the tax effect of a sale.
Is residential rental property always divided by 27.5?
The 27.5-year period generally applies to the building under federal GDS, but first and final years use the mid-month convention and other assets can have different lives.
Can depreciation create a rental loss?
Yes, but basis, at-risk, passive-activity, and other limitations determine whether the loss is currently deductible.
Can I depreciate repairs?
Ordinary repairs may be currently deductible. Capital improvements are depreciated. Classification depends on the facts.
Does appreciation stop depreciation?
No. Market appreciation does not by itself stop tax depreciation.
The definitions and examples on this page are for informational purposes only and do not constitute tax advice. Tax laws change frequently and individual circumstances vary. Consult a qualified tax professional before making decisions based on this content.
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