What Is Accelerated Depreciation & How Can Landlords Use It To Their Advantage

Depreciation is a key tax benefit for rental property owners, and accelerated depreciation can help you maximize your deductions during the first years of ownership. Depreciation allows real estate investors to deduct the wear and tear of a property annually. The accelerated depreciation method lets landlords front-load deductions for eligible assets, such as fixtures and movable assets, to reduce taxable income in those years.

Accelerated depreciation on rental property can be complex, so let’s break it down. Today, we’ll cover these topics:

• Differences between straight-line and accelerated depreciation
• Two methods of accelerated depreciation
• Cost segregations studies
• Bonus depreciation
• Section 179 deductions
• Depreciation recapture

With these key elements, you can evaluate the depreciation strategy for your properties and determine whether accelerated depreciation is the right fit for your portfolio.

Highlight: Accelerated depreciation is an essential tax strategy for real estate investors, helping reduce taxable income and improve your cash flow.

Depreciation plays a major part in your tax prep, and we’re here for you! TurboTenant’s integration with REI Hub helps landlords like you accurately track expenses and deductions and simplify tax preparation. We designed our accounting software for rental property owners, so you can easily monitor and update your depreciation schedules and deductions. Sign up for a free account today!

Overview: Depreciation vs. Accelerated Depreciation

Depreciation helps landlords recover their investment in real property through annual pre-tax deductions. The most commonly used method is standard or straight-line depreciation, which spreads deductions evenly over 27.5 years for residential properties and 39 years for non-residential ones.

The deductions stop once an asset depreciates fully, even though the asset still has value. When an asset is sold, the depreciation schedule resets, and the new owner may deduct depreciation.

Another method of accounting for a property’s wear and tear is accelerated depreciation. This method provides several benefits:

• Greater reinvestment opportunities
• Improved cash flow during the early years of ownership
• Paper losses to carry forward
• Potential for a lower tax bracket

Instead of spreading out depreciation evenly over 27.5 years, accelerated depreciation fully depreciates eligible assets, like driveways or plumbing fixtures, in five to 15 years. The asset’s lifespan determines the depreciation schedule.

Highlight: Accelerated depreciation enables landlords to deduct assets like appliances and fixtures within five to seven years.

What is accelerated depreciation?

Accelerated depreciation is a faster method of reclaiming your initial investment. This method reclassifies assets so that they have a shorter lifespan than the useful life of the entire structure. You can deduct more of the total depreciation within the first five to 15 years of purchasing a rental unit.

Qualifying Assets for Accelerated Depreciation

These assets are eligible for accelerated depreciation:

• Appliances
• Decorative trim
• Driveways
• Electrical systems
• Fencing
• Landscaping
• Lighting
• Millwork
• Patios
• Plumbing fixtures
• Removable flooring
• Sidewalks

To identify qualifying assets, consider conducting a cost segregation study. These studies break down a property’s cost basis into components, determining their value and depreciation schedule. We’ll cover cost segregation studies in more depth later in this article.

Test Case: Straight-line vs. Accelerated Depreciation

Let’s look at an example to compare the effect of straight-line and accelerated depreciation on your bottom line. Here’s the critical information for our test case property:

• Property purchase price: $200,000
• Land value: $15,000
• Closing costs added to basis: $4,000
• Value of appliances and flooring: $9,000
• Value of patio: $10,000

Using straight-line depreciation, you’ll deduct $6,872.72 annually for 27.5 years. Accelerated depreciation allows you to deduct appliances and flooring over five years and the patio over 15 years, increasing initial deductions by $1,630.31.

Tax Impact of Accelerated Depreciation

The benefits of accelerated depreciation go beyond larger deductions. Depreciation is a non-cash deduction, so it doesn’t cost you anything or affect your cash flow—but it can affect your bottom line. Let’s say the rental unit from our example has a pre-tax net income of $8,000. With the accelerated depreciation deduction, the net income creates a loss of −$503.03. Remember, you still have a positive cash flow. It’s a paper loss only; you can carry that loss forward to use in future tax years.

Highlight: Accelerated depreciation provides rental property tax benefits by immediately reducing your tax liability without negatively affecting your cash flow.

Accelerated Depreciation for Real Estate

Accelerated depreciation looks at the useful life of assets individually instead of grouping a property’s depreciation into one lump sum each year. This accounts for assets that lose their value more quickly when they’re new and may require more repairs and maintenance when they’re older. Since assets like appliances and furnaces have a shorter life span than the building itself, that means investors can depreciate those items faster.

Your investment strategy can determine whether accelerated depreciation is right for you. Once you take accelerated depreciation, you’ll have a lower annual depreciation deduction in the future—a drawback for long-term investors. Some investors rely on accelerated depreciation more for short-term investment strategies. Others use it to increase cash flow during the early years, so it’s easier for them to scale their portfolio growth. Talk to your tax advisor to see if this strategy is right for your situation and goals.

Modified Accelerated Cost Recovery System

The Modified Accelerated Cost Recovery System (MACRS) is a depreciation system that allows investors to recover an asset’s capitalized cost over a specified period through annual deductions. With MACRS, fixed assets are put into classes that determine how long your depreciation schedule will last. Assets related to real estate generally fall into four classes:

• 5-year property: Appliances, carpeting, furniture, computers, office equipment, and vehicles
• 7-year property: Office furniture, like desks and file cabinets
• 15-year property: Land improvements such as fences, driveways, and roads
• Residential rental property: Buildings and structural components, like gutters, doors, or windows

Most real estate investors use MACRS’s general depreciation system, which uses the declining balance method. This method lets investors take larger depreciation deductions in the early years, then smaller amounts in later years.

Highlight: A landlord can classify new flooring under MACRS for five years rather than the property’s full depreciation schedule.

Types of Accelerated Depreciation

Double-Declining Balance Method

The double-declining balance (DDB) method allows higher deductions in the early years of owning an asset. This method doubles the reciprocal of the asset’s useful life and then applies the rate to the depreciated book value for the rest of the asset’s expected life.

Here’s the DDB method of accelerated depreciation formula, as applied to the appliances from our earlier example. They’re worth $9,000 with a five-year life, so they’ll have a reciprocal value of 1/5, or 20%. Doubling that rate gives us 40% to apply to the book value for depreciation.

$9,000 × 40% = $3,600 of depreciation in the first year

$5,400 × 40% = $2,160 of depreciation in the second year

The rate remains constant over time, but the value decreases because we multiply the rate with a lower depreciable base each year.

The double-declining balance method is most useful for assets with short lifespans. Front-loading the depreciation on these assets helps match the depreciation expense with the cost of the original purchase. Assets that lose their value more quickly work well with this method:

• Appliances
• Computers
• Office furniture
• Software
• Tools and equipment

Highlight: The double-declining balance method more closely matches up the depreciation deduction with the asset’s purchase, so landlords can offset more of the cost that year.

Sum of the Years’ Digits

The second way to speed up depreciation is with the sum of the years’ digits (SYD) method. This approach assigns a percentage to each year of a property’s useful life. The SYD method is better for properties expected to hold their value well but may need repairs later. Unlike the double-declining balance method, the SYD accounts for the asset’s salvage value.

This method front-loads an asset’s depreciation in the first year and gradually decreases it over its useful life. We calculate the percentage for each year by adding up the remaining years of the property’s useful life. For this example, let’s say you bought a vehicle for your rental property business. The vehicle initially costs $30,000, and you expect to sell it for $10,000 in five years.

Note that the percentages in the SYD formula should add up to 100. Use Excel’s SYD function or an online calculator to create a schedule for an asset’s SYD depreciation.

Highlight: The SYD method helps landlords balance an asset’s depreciation deductions with its repairs and maintenance costs, providing a more constant overall cost during the asset’s lifespan.

Cost Segregation Studies for Real Estate

When you buy a residential rental property, the IRS allows you to depreciate the entire property over 27.5 years. This treats all the assets that make up the property as one. But, a rental property has many components. If you were to buy them separately, you could depreciate the individual assets over five to 15 years. A cost segregation study breaks down the components of a property and determines each one’s value and usable life. Here’s how a cost segregation study works:

1. Hire an expert. You’ll need to work with a financial firm that has experience in engineering, construction, tax law, and accounting.
2. Determine the property’s suitability. Your team of analysts will examine your investment property to determine whether it is a good fit for a cost segregation study.
3. Provide necessary documents. The analysts will need information about your property, so be prepared to share documents like recent property appraisals, closing documents, or inspection reports.
4. Analyze the property. Your team of experts will determine which elements of your property qualify for accelerated depreciation.
5. Review the report. Once the analysis is complete, your team will give you a report outlining their findings. You can use the report to calculate your potential depreciation deductions.

A cost segregation study is best for properties purchased or built within the last 15 years. Once you’ve purchased, built, or remodeled a property, you can order a study anytime. However, you’ll get the most tax savings if you order the study before you file your taxes the same year you buy, build, or remodel the property.

If you didn’t order a study that year, it’s not too late. You can order a look-back study instead, and that allows you to take a catch-up deduction in one year. The catch-up deduction equals the difference between your original depreciation claim and what you could have claimed if you’d done the cost segregation study earlier. The IRS allows property owners to order look-back studies on properties they bought, built, or remodeled as early as January 1, 1987.

Highlight: Although a cost segregation study is an additional outlay, it’s essential for accurately evaluating assets and maximizing depreciation benefits.

100% Bonus Depreciation in Real Estate

Bonus depreciation is a one-time benefit that investors can claim to take up to 100% of an asset’s depreciation in its first year. This strategy applies to property purchased and put into service between September 27, 2017, and January 1, 2023. Let’s examine our example property again to see how bonus depreciation compares to the straight-line and accelerated methods.

Section 179 for Landlords

Rental property owners can use Section 179 to deduct the full cost of certain assets, like appliances and office equipment, in the year of purchase, up to $1 million.

The IRS has some rules about this, though. You must purchase the assets for cash during that year. Unlike the bonus depreciation option, with Section 179, there is an income requirement. You may not use Section 179 to deduct more than your net taxable business income, but you can carry forward an overage amount to use in future years.

Section 179 allows you to fully deduct the costs of these assets:

• Appliances
• Computers
• Flooring
• Maintenance equipment
• Office equipment
• Office furniture
• Phones
• Rental furnishings
• Software
• Vehicles

Note that Section 179 does not apply to these assets:

• Gifted items
• Improvements like swimming pools, fences, or paved parking areas
• Inherited property
• Land
• Leased property
• Permanent structures, such as buildings or structural components
• Property located outside the US
• Property purchased from relatives or an organization you control

If your rental property is an investment only—not a business—then the IRS doesn’t permit you to take a 179 deduction. Talk with your tax advisor before taking a Section 179 deduction to make sure you qualify.

Pro tip: Use TurboTenant’s expense-tracking tools to make sure you take advantage of every available deduction.

Highlight: Section 179 lets landlords deduct up to $1 million in qualified assets in the purchase year.

Depreciation Recapture

Depreciation deductions help you offset the cost of an asset, but they come with a downside: depreciation recapture, a potential tax liability that comes with selling a property. This tax helps the IRS recapture some of the benefits taxpayers receive from depreciation deductions. When a property owner sells an asset, the IRS uses this simplified formula to determine the asset’s value:

Original purchase price – total depreciated amount = original value

Sale price – original value = taxable capital gains

These gains count as ordinary income, and the maximum tax on recaptured depreciation is 25%. Note that the maximum capital gains tax is 20%, depending on your tax bracket. If you use accelerated depreciation, you may end up owing more because of depreciation recapture.

However, there are strategies you can use to minimize depreciation recapture. Talk with your tax advisor about Section 1031 exchanges or Qualified Opportunity Funds. You could also align the sale of an asset with a year when you’re in a lower tax bracket. And remember, the initial cash flow benefits and re-investment opportunities frequently outweigh recapture costs.

Highlight: Selling an asset can trigger depreciation recapture taxes, but they can be managed with tax-planning strategies and are often offset by the early tax benefits.

Dig Deeper into Depreciation

• CalculatorSoup: Depreciation Calculators
• Investopedia: Modified Accelerate Cost Recovery System (MACRS): Explanation and Types
• IRS: Publication 527 (2023), Residential Rental Property
• IRS: Publication 946: How to Depreciate Property
• IRS: Section 179 Deduction
• REI Hub: Asset Class Life and Recovery Period Reference Sheet
• REI Hub: Calculating Basis & Depreciation for Personal Properties Put into Service
• REI Hub: Rental Property Asset Depreciation
• TurboTenant: A Guide to Maximizing Returns: Rental Property Depreciation

TurboTenant: Rental Property Depreciation Calculator