Determining Depreciation Amounts for Rental Property

Earlier I calculated that the total cost basis for my rental property was $162,042.00. I have done some weekend tax reading and it looks like there are several ways to maximize the depreciable parts of my cost basis.

Essentially the breakdown of the cost basis looks something like this:

[Cost Basis]= [Personal Property included in sale] + [Real Property] + [Land Improvements] + [Residential Building Structure]

Here are the steps I took to break down the cost basis into depreciable items:
1) Separate Personal Property from Cost Basis.

The only personal property that came with the house is a used oven and a new dishwasher.

Description

Value

New Dishwasher

$ 649.00

Used Oven/Range

$ 150.00

Total

$ 799.00



2) Determine the Improvement Ratio

The improvement ratio will determine how much of the cost basis is part of the Real Property and how much is Land Improvements/Residential Building Structure.

I have read the typical way to establish your improvement ratio is by looking at your property assessment for tax records. I have also read that common US home's improvement ratio is between 75%-80% and that you need to be 200% too high for the IRS to levy an overvaluation penalty.

According to the county the property is located in, the property tax assessment improvement ratio used is 65.4%.

However, I have decided to use an improvement ratio of 75% for purposes of calculating depreciation.

3) Determine the Cost Basis for the Land

Next I need to establish how much of the cost basis if for the land. The land is the only part of my cost basis that is not depreciable. Using the previous defined improvement ratio I can calculate how much of my cost basis was for the land.

[$162,042] - [$799] = $161,243 cost basis for land and improvements

Cost Basis for Improvements = [Cost Basis for land and improvements] * [Improvement Ratio]
Cost Basis for Improvements = [$161,243] * [0.75]
Cost Basis for Improvements = $120,932.25

Land = [Cost Basis for land and improvements] - [Cost Basis for Improvements]
Land = [$161,243] - [$120,932.25]
Land = $40,310.75

4) Calculate Land Improvements

There are 2 main improvements to the land that I am going to separate out:

a) Chain Link Fence in Backyard
Reviewing the measurements on the property survey I determined I have about 179.9' of chain link fence in the backyard.

I looked in the National Repair & Remodeling Estimator book to get a per linear foot estimate of what the chain link fence would cost. According the book, it would cost $11.90/linear foot to build this fence.

Estimated Value for Chain Link Fence
[Total Linear Feet of Fence] + [Cost per Linear Foot] = [Estimated Replacement Cost]
[179.9'] * [$11.90] = [$2,140.81]

b) Asphalt Driveway
Yet again the property survey comes in handy because I can use many of the measurements on the survey to get a conservative estimate of the driveway dimensions. I estimated the driveway is 10' wide by 63' long.

I checked in the National Construction Estimator book to get an estimated replacement cost of $5.15/square foot.

Estimated Value for Asphalt Driveway
[Total Square Footage of Driveway] + [Cost per Square Foot] = [Estimated Replacement Cost]
[630 sq feet] + [$5.15/sq foot] = [$3,244.50]

Total Land Improvements = $5,385.31

5) Calculate Residential Building Structure Cost Basis

Finally, I can calculate the cost basis for the Residential Building Structure.
[Residential Building Structure] = [Cost Basis for Improvements] - [Land Improvements]
[Residential Building Structure] = [$120,932.25] - [$5,385.31]
[Residential Building Structure] = $115,546.94

So it looks like I end up with the following deprecable amounts from the purchase price:
Personal Property = $799.00
Land Improvements = $5,385.31
Residential Building Structure = $115,546.94

If any real estate gurus noticed I missed something please let me know!

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Comments (9)


DATE: 11:07 AM
Unless the dishwasher and/or range are standalone units, they would probably be considered "real property".

DATE: 11:56 AM
The dishwasher, range, carpet, other flooring, heat pump, hot water heater, washer, dryer, garbage disposal and other similar items are considered fixtures and have a shorter life than the home so I break them out as individual items.I also wonder. By depreciating the home value - land, what implications will there be when you sell the home? Will you be taxed on the entire sale price or just over what you paid for the home? I've never sold a rental.

DATE: 2:29 AM
seeing as how you're breaking down everything, maybe you might be able to breakout the roof and kitchen cabinetry too!

So if I'm following you on this the amount you could depreciate here for the dwelling is 115,546.94? I just converted my primary residence to rental property and am trying to figure out how to maximize my tax deductions. You site has helped me so much!

Yes $115k for the structure. Also I depreciated the personal property and the land improvements - by segmenting them out I am able to depreciate the land improvements and personal property faster than the structure.

I'd be amiss if I didn't comment on how great this blog is...has inspired me to find my financial freedom as well! Keep up the great work! ...and thanks for the quick reply to my last question.

Just bear in mind that when you maximize the depreciable value of the building and then decide to sell the property in the future all this depreciacion will come back to haunt you. All the depreciacion you took out has to be taken out of the original cost of the house reducing your cost basis. This will cause you to have a larger gain on the sale and therefore larger capital gain taxes.

I would still recommend taking the depreciation deductions because, even if you do not take them, you will still have to reduce your cost basis by the amount that you could have taken (see line 22 on IRS form 4797)

Note that the IRS assumes you have taken depreciation if it is available. Also, looks like you did much of this work yourself regarding the Cost Segregation Study; note that you can now contract others to do this for you. We found one that costs $645 for a SFR. They did our new four rental properties in AL and MS -- really pushed the depreciation schedules! Send me a note if you want their websites.

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