Investment real estate offers different things for different investors. Some buy real estate in hopes of appreciation, some investors buy real estate for monthly cash flow, and others buy investment real estate for tax benefits. There is a large part of the investment community that buys for all of these reasons. So what type of investor are you?

Congress, along with the Internal Revenue Service, provides a host of financial benefits for those who invest in real estate. From subsidized housing programs like Section 8 to the Gulf Opportunity Zone (GO Zone), real estate is as attractive an investment as it has ever been, thanks in large part to the federal government. The tax benefits of investing in real estate can often greatly increase ROI.

Take a rental property, for example. The IRS allows a multitude of tax deductions, including: mortgage interest, travel, tenant background checks, repairs, utilities, advertising, landscaping, pest control, professional fees, and the list goes on. These are all expenses classified by the IRS. As long as you have one of these expenses, you will most likely write a check or use your credit card to pay it. So if you collect $ 1500 in rent and then pay all of these expenses, you may have $ 250 left in your account at the end of that month. That’s not so bad when you invest in real estate to generate cash flow.

However, there is another “expense” that the IRS allows you to bear. It’s called depreciation. Although depreciation is classified as an expense, you don’t write a check to pay it. Depreciation allows you to spread the cost of the building over a period of time and take a portion of that purchase price during that time. Commercial buildings typically have a 39-year depreciation period, while residential buildings have a 27.5-year depreciation period. Depreciation is considered only on the building, the cost of the land must be eliminated before calculating the annual depreciation. Let’s see an example:

Home purchase price: $ 200,000.

Land value: $ 40,000.

Amount of the building to depreciate: $ 160,000.

As you can see, we have a home purchase price of $ 200,000 and the land was valued at $ 40,000. If we subtract the land value of $ 40,000 from the total purchase price of $ 200,000, we are left with a construction value of $ 160,000. Under current IRS rules, this $ 160,000 can now be spread over 27.5 years . So, take the $ 160,000 / 27.5 = $ 5,818.18 per year.

However, the building is not the only part of your rental property that can depreciate. The IRS Tax Code also allows you to depreciate “personal property,” called Chattel. Additionally, the IRS allows you to accelerate this depreciation over a shorter period of 5 to 15 years. Let’s look at a little background on how this IRS tax deduction came about. A short case called Hospital Corporation of America v. Comm [109 TC 21 (1977)] makes all of this possible. This case dictates that Section 1245 property is allowed to separate from Section 1250 property. Your CPA should be familiar with section 1245 property and section 1250 property. After this case is resolved, the IRS issued a Guide to Auditing Techniques ([http://www.irs.gov/businesses/small/article/0],, id = 108149.00.html) on cost segregation. In this guide, the IRS describes several methods for determining the value of Section 1245 property. One of the methods is the “Residual Estimation Approach.”

Basically, what this allows the owner of a rental property is to segregate the value of personal property, or personal property, and accelerate the depreciation of his property. value over a period of 5 or 15 years.

So what is personal property? The IRS has identified more than 65 items that qualify as personal property, including: floors, cabinets, countertops, lighting, blinds, appliances, landscaping, hallways, driveways, swimming pools, etc. So how much money is there in a rental property? A conservative amount to use is 10% of the purchase price. Many times, this percentage is much higher. Let’s go back to our original example above and use a 10% movable amount:

Home purchase price: $ 200,000.

Land value: $ 40,000.

Furniture value: $ 20,000.

Amount of the building to depreciate: $ 140,000.

Now let’s calculate our new depreciation amount, including the value of the personal property:

Building depreciation: $ 140,000 / 27.5 = $ 5,090.91.

Movable Property Depreciation: $ 20,000 / 5 (Years Allowed) = $ 4000.

Total depreciation: $ 5,090.91 + $ 4000 = $ 9,090.91.

Additional depreciation: $ 9,090.91 – $ 5,818.18 = $ 3272.73.

By separating the value of the personal property from the value of the building, we obtain an additional tax deduction of $ 3,272.73. Let’s look at the real savings in dollars:

Amount of depreciation: $ 5,818.18 x 25% tax bracket = $ 1454.55.

Amount of depreciation with personal property: $ 9,090.91 x 25% tax bracket = $ 2272.73.

Tax Savings: $ 2272.73 – $ 1454.55 = $ 818.18.

Please note that these are conservative numbers. So now you may be thinking, what are the downsides? You should always consult with your tax advisor before employing a new tax strategy. The most common question about personal property is the concept of repossession and the repossession tax when you sell the property. You may already know that you pay for the recovery with 27.5-year straight-line depreciation. Recovery also applies to accelerated depreciation taken through this tax strategy.

Let’s talk briefly about the recapture and the recapture tax. A recovery tax is applied each time a depreciated asset is sold. The amount recaptured is subject to a maximum rate of 25%. Is the recovery tax percentage rate based on investors? income tax rate, and is capped at 25%. This allows you to keep 75% and use the time value of money to create more investments. Let’s use our previous example to illustrate the recapture. We will assume that the investment property was held for five years before being sold:

Home purchase price: $ 200,000.

Depreciation taken: $ 9,090.91 x 5 (years) = $ 45,454.55.

Sale price of the house: $ 250,000.

Recovery tax: $ 45,454.55 x 25% (maximum rate) = $ 11,363.64.

How many additional properties could he buy with $ 11,363.64 available before he had to return it? Is it one, three or more? Remember, if your tax rate is higher than 25%, you will keep the difference since you have a 25% cp. This strategy also works with multi-family properties. Savings with multiple units are multiplied enormously. If you own or are buying a large multi-family property, ask your tax professional about the Section 179 deduction. It provides more than $ 100,000 in deductions with specific criteria.

Now the $ 50,000, which is the difference between our sale price of $ 250,000 and our original purchase price of $ 200,000, is subject to capital gain. That is, unless you have used another strategy like the 1031 Exchange or a Charitable Remainder Trust. The amount of depreciation is not subject to capital gains. Again, always check with your tax advisor before making a tax strategy decision.

Congress and the IRS have made real estate such an attractive investment opportunity that it pays to use every available strategy to maximize your cash flow and lower your taxes. Ask your tax advisor about a personal property appraisal and cost segregation study and start using the tax code to your advantage.