What Is Depreciation?

What is Depreciation? Depreciation is an accounting method that allows property

owners to deduct the cost of an asset over its useful life. In real estate, this means you

can deduct a portion of your property's cost each year from your taxable income,

accounting for wear and tear, deterioration, or obsolescence.

The IRS uses a 27.5-year period when determining the time frame in which residential

real estate assets wear down and 39 years for commercial real estate.

For example, a $20 million multifamily property (with $5M raised from passive investors)

depreciated over 39 years provides a tax shelter to the investors of $512,820 per year

($20M/39 years). If you invested $100K passively into this property, then you would

receive 2% (100K/$5M) of the total depreciation benefit which equates to $10,256/per

year. Assuming a tax rate of 20% your potential tax savings would be $2,051/per year.

Also, you can activate your passive depreciation losses in the same year to offset gains

on your investment.

The Tax Cuts and Jobs Act 2017 adjusted the tax law to deduct up to 100% of the

depreciation expenses in the first year of ownership versus deducting over a 5,7-, or 15-

year depreciation.

Under prior law Bonus Depreciation began to phase down and now revert back in

the middle of 2025 as follows: 2022 (100%), 2023 (80%), 2024 (60%), Jan1,2025-

Jan19,2025 (40%), Jan 20,2025 and beyond (100%). Creating a timely opportunity

to enhance investment strategy.

Cost Segregation is Depreciation on Steroids.

Straight line depreciation allows you to write off an equal amount of the value asset

every year for 27.5 years, we would only get 5 years of those benefits because we

usually sell it in year 5. Cost Segregation acknowledges that every asset isn’t created

equally. For example, the printer in back office has a much shorter lifespan than the

roof on top of the building…So this allows reallocation of portion of the property to have

shorter depreciation lives into 5,7,15 years.

Cost segregation study allows us shift property and associated dollars from categories

that have long tax lives to categories that have shorter tax lives. This allows for greater

depreciation during the early years of the asset’s life, thereby lowering taxable income

and thus lowering taxes. The result of accelerated depreciation is improved cash flow to

the property owner.

An engineer itemizes the individual components in every unit that make up the property,

including things like outlets, wiring, windows, carpeting, and fixtures. Certain items can

be depreciated on a shorter timeline like 5,7,15 years instead of over 27.5 years. This

can drastically increase the depreciation benefits in those earlier years.

For example, carpet might depreciate over a 5-year time frame while appliances might

depreciate over 7 years. If an investor invested $100K in a real estate syndication, you

could show a paper depreciation loss of $40-$60K as a passive investor. It gets

suspended or carried forward into another year when you may have gains through

distributions or equity property split at the end of life of the asset (sale). You can activate

that depreciation to offset the capital gain taxes on the money that you have received

from your passive investment.

Thanks to this legislative update, you could potentially write off over half of your

investment in the first year, providing immediate tax relief that translates to more

capital available for future wealth building. Coupled with compelling projected returns,

this creates an exceptional opportunity for both cash flow and long-term appreciation.

However, it’s critical to consult with your CPA to confirm your eligibility for this

tax benefit and to ensure you meet all the necessary requirements. Each

investor’s situation is unique, so it’s essential to align with a tax professional to

make the most of this opportunity.

Of course, real estate investment is not 100% tax-free. The IRS gets their cut through

capital gains taxes when the asset is sold, and sometimes through Depreciation

Recapture, depending upon the sale price.

In a real estate syndication that holds a property for 5 years, you would not have to

worry about capital gains taxes and depreciation recapture until the asset is sold in year

5.

The specific amount of capital gains and depreciation recapture depends upon the

length of the hold time as well as your individual tax bracket.

The tax benefits of investing in real estate are so powerful that some people do

so purely to take advantage of the tax benefits, and that is what keeps them

reinvesting. You see; by investing in real estate, people can leverage significant

write-offs and then apply those to the other taxes they owe, thereby decreasing

their overall tax bill.

This is how real estate tycoons can make millions of dollars but owe next to nothing in

taxes. It is perfectly legal, and it is a powerful wealth-building strategy. The tax code

makes the benefits of investing in real estate applicable to every real estate investor.

As a passive investor, you do not have to actually do anything to take advantage of the

tax benefits. You just get that K-1 every year from us, hand it over to your CPA and that

is it. It is just that good.