Spring is in the air. That also means that tax season is upon us. You might wonder why a property management company would choose to write about taxes. Well recently a new client asked if there were any benefits to turning his current residence into a rental. This sparked the conversation about taxes. Therefore this article is prefaced by saying while I am a property manager, I am NOT an account.First and foremost, always seek the advice of a certified public accountant. This article is intended to inform and prompt discussions with your accountant. So if you are a real estate investor, there are certain benefits you can take advantage of that are not available on primary residences. Tax deductions allow a real estate investor to their limit their tax liability. Tax deductions are expenses that a taxpayer is allowed to deduct from taxable income. Deducting maintenance expenses, depreciation and capital improvements are examples of tax benefits of income property. Other deductable items include mortgage interest, property taxes, insurance, management fees and utilities.
These benefits do not extend if the property is a primary residence. Depreciation for tax purposes is not based on actual deterioration of the property but on the calculated useful life of the property. The theory is that improvements such as the building and the fence, not land, deteriorate and loses value. Tax laws regarding depreciation always change but a common method to determine the amount per year that may be deducted is the straight line method. The same amount is deducted every year over a useful life of a property. To calculate depreciation, the value of the building for example is devided by the depreciable life of the building to arrive at the annual depreciation that can be taken.
For example let’s assume the Internal Revenue Service states the depreciable life of a residential income property is 28 years. Subtracting the value of the land from the value of the property would determine the value of the building. Dividing the value of the building by the number of years would produce the annual depreciation allowance. So if a property were worth $300,000, subtracting the value of the land at $120,000, would mean the value of the building is $180,000. Dividing the value of the building by the allowed depreciable life of 28 years determines that the annual depreciation allowance would be $6,428. Also, when the property is sold, depreciation schedule may begin anew at the new sales price as if the building were new for the latest owner.
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