Segregate Costs to Save Taxes
Many real estate costs are subject to capitalization rules for tax purposes. These rules require the cost of buildings to be depreciated annually over the useful life of a building. For tax purposes, commercial buildings generally have an assumed 39-year useful life and residential buildings generally have a 27-year useful life for computing income tax deductions available for depreciation. The IRS has added several tax benefits in recent years to increase the amount of tax deductions available if certain guidelines are met. Here are five recent additions to the tax benefits available to many real estate owners:
- “Declare a Bonus” – Many real estate properties are eligible for depreciation allowances beginning in the tax year that the building is “placed in service”. Although the basic structure of the building is subject to a longer useful life, some components are not attached to the building and have a shorter useful life. If a component has a useful life of 20 years or less, then that cost may be eligible for “bonus” depreciation, a faster cost allowance of 100% of the related costs if the qualifying property is placed in service after 9/08/2010 and before 1/01/2012. This bonus continues to apply for 2012 property up to 50% of the related costs.
- “Study the Costs” – A cost segregation study is a special analysis of the building and its component costs. If you hire a qualified engineer to review the building costs and its components, you may be able to identify some items that qualify for a shorter useful life. Some items may be depreciated much faster over a 5 or 7 year useful life, and they would be eligible for the “bonus” depreciation as well. .
- “Get on Highway 179” – Most tangible personal property (other than buildings and real property) have been assigned a useful life for claiming tax depreciation. These properties include machinery and equipment, appliances, signs, certain basic types of software, and certain leasehold improvements made by a tenant. For 2011 purchases, the cost of these new or used properties may be eligible for up to $500,000 of tax deductions to offset current year profits of your business. There are annual limits on these deductions, including the total property being purchased in the same year, the annual update to the depreciation allowance, and the limit on making business profit, but the 179 depreciation is a fast tax savings.
- “Start Me Up” – The pre-opening costs of organizing and starting a business are generally limited to being capitalized and deducted ratably over a 15 year period. If your start-up costs do not exceed $50,000, then some of these costs will be eligible for a first year deduction allowance. This annual allowance was $10,000 for 2010 and $5,000 for 2011.
- “Buy or Lease” – Some property is subject to significant limits on depreciation. For example, the cost of buying a passenger car is generally not eligible for many of the “bonus” or “179” allowances, unless the vehicle is a truck or SUV. If you intend to use a vehicle in your business, then the lease cost may actually create a larger tax deduction than the tax depreciation from owning it.