Bonus Depreciation Question

[Jerome Skinner]

Hey all! After listening to the last episode about bonus depreciation, it left me thinking about my home I recently converted form primary to rental. In the episode it was said that bonus depreciation had to be taken in the 1st year, but am I able to take it in the 1st year of conversion from primary to longterm rental property? Or does it have to be the 1st year of purchase?

[JD Martin]

Quote from @Jerome Skinner:

Hey all! After listening to the last episode about bonus depreciation, it left me thinking about my home I recently converted form primary to rental. In the episode it was said that bonus depreciation had to be taken in the 1st year, but am I able to take it in the 1st year of conversion from primary to longterm rental property? Or does it have to be the 1st year of purchase?

 I believe it is the first year the property went into service; just as depreciation starts when you place it into service, not when you initially bought the property. 

[Yonah Weiss]

@Jerome Skinner bonus depreciation does not need to be taken in the first year, as long as you did not opt out of it in the previous years. In your situation, since you are placing in service as a rental for the first time this year, it will be the first time you are going to claim depreciation, so you should be fine.

[Julio Gonzalez]

@Jerome Skinner Was it the Landlord tax loopholes podcast with David Greene? That was a great episode! You don't have to take bonus depreciation in the first year of purchase. You can get a cost segregation study and then go back and amend your tax return. Did you place your rental into service this year?

[Bonnie Griffin Kaake]

Quote from @Jerome Skinner:

Hey all! After listening to the last episode about bonus depreciation, it left me thinking about my home I recently converted form primary to rental. In the episode it was said that bonus depreciation had to be taken in the 1st year, but am I able to take it in the 1st year of conversion from primary to longterm rental property? Or does it have to be the 1st year of purchase?

Jerome, your situation is different than the "normal" advice. Your depreciation will be based on your original purchase price and the date you began listing it for rent/its "occupancy date". Bonus depreciation does not have to be taken in the first year of ownership or occupancy. Each year you wait to do the cost segregation lowers the benefit based on how many years you have already depreciated it using a straight-line method. AND, you will incur a cost for a Change of Accounting form 3115 to change from straight-line to accelerated depreciation. On the other hand, if your income is going to go up significantly in the next year, wait. Bonus depreciation is based on the year of occupancy, not the purchase date unless they are the same. 

[Jerome Skinner]

Thank you all for you responses! This answers my question and more. To answer your question Julio, it was that episode and I placed my rental into service this year. And Bonnie, I just bought it in 2021, so the benefit has only been lowered by 1 year. I'm lacking funds to continue my real estate investing journey and this seems like a perfect way to get a tax break sooner to help with that.

[Basit Siddiqi]

Yes, you can claim bonus depreciation in the first year the property is converted from a primary residence(personal) to an investment property(business asset).

[Heather Hall]

@Basit Siddiqi

@Basit Siddiqi

@Bonnie Griffin Kaake
Hello! My question is somewhat similar and I would appreciate advice/ perspective. This is a little complicated due to an ADU that was rented first on the property, and because we hired a property manager at the very end. I'll explain the background first and then ask questions at the end.

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*July 2021 Primary residence purchased in CA(The residence has 2 homes: a main home which we live in AND an ADU/ Accessory dwelling unit)

*July- Oct 2021: we rent out the ADU for 90 days straight to one family (so it is not an STR and ADU is not eligible for bonus depreciation as I understand it)

*Oct 2021: our family member moves into the ADU now that our renters have gone; and we continue to live in the main house. We do not charge rent to our family member for the ADU and Oct 2021- present the ADU is permanently occupied by family.

*June 2022: we move out of the main home so it is no longer our permanent residence and we begin to get the home ready to become an Airbnb with several construction projects and lots of design and furnishing. (Spent over $75,000) 

Nov 2022: we hire a property manager to be the Airbnb host 

Nov 2022: We have our first Airbnb guests 

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1) the ADU was rented for 3 months in 2021: do we take regular depreciation for the ADU in this year ? Is it not worth it? We did not put any money into rehab in the home or the ADU in 2021.


2) Can we take bonus depreciation for the main home which was converted to an Airbnb in 2022, and had its first guests in Nov 2022 . . . Even though we had a property manager / Airbnb host starting Nov 22, we still meet “material participation” for this property because we put in over 500 hours into rehabilitation, decor, design, etc. AND definitely put in more time than the property Manager.

3) since the property had its first guests in Nov, does that matter ? Meaning since the first guests weren’t in January, can we still take the same amount of bonus depreciation?

[Bonnie Griffin Kaake]

@Heather Hall  In order to give you the best and most accurate answers, I would need to see the Federal Depreciation Schedule created by CPA/tax professional. Your CPA/tax professional has a copy and may have given you a copy with your last tax filing. What I can tell you follows:

1. The ADU was a LTR during those 90 days (1/4 or the year). If the purchase price that is assigned to the ADU is high enough, it could have had cost segregation and Bonus benefits on its own. The fact that you stopped renting it in Oct 2021, may have negated those benefits and your Federal Tax Depreciation Schedule will be telling.

2. There is no depreciation available while your family is living rent free in the ADU and/or you are living in the main house.

3. In June '22 when you move out of the main house and begin renovating the main house, the $75K in renovations will be added to y.our basis in the home or expensed depending on what was done and the cost involved.

4. With a cost segregation study, the main house is eligible for Bonus Depreciation on November 2022 at 100%. If you have filed your 2022 taxes with straight-line depreciation, you will need a 3115 481a Change of Accounting Form done to change from straight-line depreciation to accelerated depreciation.

With the Federal Depreciation Schedule and answers to a few questions, I can get you a no cost pretty accurate pre-analysis that you and your tax pro can review and decide if the benefits fit your specific tax situation. Let me know if you have additional questions and/or you would like a pre-analysis/estimate. 

[Michael Plaks]

@Heather Hall

1. When you rented the ADU in 2021, cost segregation and bonus depreciation is, in theory, available but may be blocked by your family income that year. Even if available, it may not be enough to justify a change. Need to be reviewed by a tax accountant experienced in real estate. Putting in a family member does not negate that potential benefit, by the way.

2. Assuming that you do qualify for material participation in 2022 (still needs to be confirmed by an expert), you can do cost segregation to the main house and apply it to 2022. You can also partition your rehab and find items eligible for bonus depreciation. No Form 3115 will be needed, you will need an amended 2022 tax return.

3. The amount of bonus depreciation, if available, is not prorated. You can take the full amount.

Warning: please do not rely on my advice or an anybody else's until you have your situation reviewed by a tax professional. We do not have all the information, and we may be missing critical details.

[Bonnie Griffin Kaake]

@Heather Hall I forgot to mention that I have known some CPAs who have used a short period of rental, as you had with your ADU, as income rather than depreciating the property. In that situation, you would not have a depreciation schedule for that time.

Your main house on the other hand is eligible for 100% Bonus depreciation. In addition, since you are materially participating in it's management more than anyone else, it is an active rather than passive investment. Win-Win!

[Heather Hall]

Hi Bonnie and thanks for the info!  So for 2022, bonus depreciation is taken for the main home and ONLY taken in 2022, correct?

Meaning, material participation is only critical for 2022?  

If the property manager put in more time than I did, in 2023, and I do not meet “material participation” it does not matter for purposes of bonus depreciation . . . ?

[Heather Hall]

“Putting in a family member does not negate that potential benefit, by the way”

Thanks Michael!

Will you explain this a bit further please? Are you saying bonus depreciation or regular depreciation can be taken for more than the 3 months the ADU was rented out in 2021, even if we received no income on it Nov- December 2021?

[Michael Plaks]

Quote from @Heather Hall:

“Putting in a family member does not negate that potential benefit, by the way”

Thanks Michael!

Will you explain this a bit further please? Are you saying bonus depreciation or regular depreciation can be taken for more than the 3 months the ADU was rented out in 2021, even if we received no income on it Nov- December 2021?

On BP, if you want to address someone, please tag them with a @ - otherwise we will not see your post.

Yes, you can take full depreciation for 2021 on ADU, and it's yours to keep, so to speak. Until you sell.

Also, on the main house you don't need material participation in a subsequent year. 

[Bonnie Griffin Kaake]

Quote from @Heather Hall:

Hi Bonnie and thanks for the info!  So for 2022, bonus depreciation is taken for the main home and ONLY taken in 2022, correct?

Meaning, material participation is only critical for 2022?  

If the property manager put in more time than I did, in 2023, and I do not meet “material participation” it does not matter for purposes of bonus depreciation . . . ?

[Bonnie Griffin Kaake]

Quote from @Heather Hall:

Hi Bonnie and thanks for the info!  So for 2022, bonus depreciation is taken for the main home and ONLY taken in 2022, correct?

Meaning, material participation is only critical for 2022?  

If the property manager put in more time than I did, in 2023, and I do not meet “material participation” it does not matter for purposes of bonus depreciation . . . ?

Heather, that is correct that in 2023, if you do not meet the "material participation" requirement, it has no effect on bonus depreciation but it does make the property passive for 2023. This means that you cannot use any left over benefits against W2 income or other active active income. You can use any benefits rolled forward toward your passive income. The depreciation on the structure will continue for the 39 years of ownership regardless.

Another consideration you might want to know is that if you did the cost segregation study for 2023  instead of 2022, you would not need to amend the 2022 taxes you already filed. The cost segregation study will bring your depreciation schedule up-to-date with the 3115 481a Change of Accounting Form which we prepare for you and your CPA/tax pro. 

[Bonnie Griffin Kaake]

Quote from @Jerome Skinner:

Thank you all for you responses! This answers my question and more. To answer your question Julio, it was that episode and I placed my rental into service this year. And Bonnie, I just bought it in 2021, so the benefit has only been lowered by 1 year. I'm lacking funds to continue my real estate investing journey and this seems like a perfect way to get a tax break sooner to help with that.

Hi Jerome, If you started renting the property in 2021 when you purchased it, that is correct. Depreciation starts, usually with straight-line depreciation, the first year you start using the property as a rental business. CPAs/tax professionals can depreciate some items but do not do engineering based cost segregation studies which require an engineer, an expert in construction, and a RE savvy CPA. If you are lacking funds to continue your real estate journey, what cost segregation can do for you is give you a relief from paying taxes you would have normally had to pay for a while. The IRS is not going to send you a check.

It is in your best interests to get a no cost estimate from a reputable cost segregation company. Then you can decide if the benefit fits your tax situation.

[Michael Plaks]

Quote from @Heather Hall:

Hi Bonnie and thanks for the info!  So for 2022, bonus depreciation is taken for the main home and ONLY taken in 2022, correct?

Another consideration you might want to know is that if you did the cost segregation study for 2023  instead of 2022, you would not need to amend the 2022 taxes you already filed. The cost segregation study will bring your depreciation schedule up-to-date with the 3115 481a Change of Accounting Form which we prepare for you and your CPA/tax pro. 

Heather, this is incorrect. You would still need to amend your 2022 tax return.

[Heather Hall]

@Michael Plaks

hi Michael, another bonus depreciation/ amended tax return/ related question for you:- Tax year 2022, 2 STRs go into service, and total bonus depreciation is calculated to be $150,000- After the bonus depreciation is applied, my taxable income is offset completely, and I essentially have about $70,000 remaining as a carryover to apply to tax year 2023.Is it best to take all of the bonus depreciation deduction when I initially file for tax year 2022, or should I just take bonus depreciation for one property in 2022 since I will have extra? I ask because some investors say you should take bonus depreciation in the following 2023 tax year by filing an amendment for 2022 . . . rather than just filing both STRs initially in 2022? Somehow there is more benefit to filing an amendment rather than just having a carryover?
Quote from @Michael Plaks:

Quote from @Heather Hall:

Hi Bonnie and thanks for the info!  So for 2022, bonus depreciation is taken for the main home and ONLY taken in 2022, correct?

Another consideration you might want to know is that if you did the cost segregation study for 2023  instead of 2022, you would not need to amend the 2022 taxes you already filed. The cost segregation study will bring your depreciation schedule up-to-date with the 3115 481a Change of Accounting Form which we prepare for you and your CPA/tax pro. 

Heather, this is incorrect. You would still need to amend your 2022 tax return.

[Michael Plaks]

@Heather Hall

You cannot pick and choose properties for bonus depreciation: it's all or none. However there are other ways to optimize depreciation across multiple properties and multiple years. It is more an art than a science, always case by case.

PS. And you probably can guess what I think about "...because some investors say..." approach.

[Heather Hall]

@Michael Plaks 

My question might not have been clearly worded . . . I want to take bonus depreciation for both properties in tax year 2022, but the question is the timing of how to take the bonus depreciation.

A popular STR investor states it is better to file for bonus depreciation for 1 STR property when initially filing 2022 taxes.

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Then, in 2023, file an amendment for 2022 taxes and add the other STR's bonus depreciation.

Essentially, the investor’s advice is take bonus depreciation for both STRs in 2022, BUT one via an amendment . . . Because somehow that improves my chances of maximizing the bonus depreciation deduction ???

[Sean O'Keefe]

Quote from @Heather Hall:

@Michael Plaks 

My question might not have been clearly worded . . . I want to take bonus depreciation for both properties in tax year 2022, but the question is the timing of how to take the bonus depreciation.

A popular STR investor states it is better to file for bonus depreciation for 1 STR property when initially filing 2022 taxes.

U
Then, in 2023, file an amendment for 2022 taxes and add the other STR's bonus depreciation.

Essentially, the investor’s advice is take bonus depreciation for both STRs in 2022, BUT one via an amendment . . . Because somehow that improves my chances of maximizing the bonus depreciation deduction ???

@Heather Hall If you are eligible to claim bonus depreciation for both properties in 2022 you should include it on the original 2022 tax return. Amending the return doesn't make any sense and it has a higher chance of improving IRS audit risk than it does maximizing the bonus depreciation deduction.
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*This post does not create a CPA-client relationship. The information contained in this post is not to be relied upon. Readers are advised to seek professional advice.

[Heather Hall]

Thank you @Sean O'Keefe & @Michael Plaks for the info 


Quote from @Sean O'Keefe:

Quote from @Heather Hall:

@Michael Plaks 

My question might not have been clearly worded . . . I want to take bonus depreciation for both properties in tax year 2022, but the question is the timing of how to take the bonus depreciation.

A popular STR investor states it is better to file for bonus depreciation for 1 STR property when initially filing 2022 taxes.

U
Then, in 2023, file an amendment for 2022 taxes and add the other STR's bonus depreciation.

Essentially, the investor’s advice is take bonus depreciation for both STRs in 2022, BUT one via an amendment . . . Because somehow that improves my chances of maximizing the bonus depreciation deduction ???

@Heather Hall If you are eligible to claim bonus depreciation for both properties in 2022 you should include it on the original 2022 tax return. Amending the return doesn't make any sense and it has a higher chance of improving IRS audit risk than it does maximizing the bonus depreciation deduction.
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*This post does not create a CPA-client relationship. The information contained in this post is not to be relied upon. Readers are advised to seek professional advice.

[Michael Plaks]

@Heather Hall

"A popular STR investor" is not the same as "a popular real estate accountant." ;) It's best to learn STR business from him, but learn taxes from tax professionals like myself or @Sean O'Keefe.

Like Sean said, in most cases you will apply cost segregation to both properties in the same year.

However the rules are VERY complex. You don't have the freedom of pick-and-choose but you have various options. You can sometimes creatively plan around the rules, including doing cost segregation selectively.

However, generic advice like what you quoted is never helpful. Almost everything in tax planning is case by case. What he described might have been possible and beneficial to him. But it may not work for you at all. And maybe he did not even follow the rules, I have no idea about his particular situation.

[Heather Hall]

@Michael Plaks 
“However, generic advice like what you quoted is never helpful. Almost everything in tax planning is case by case.”

** very true! Thanks **

Quote from @Michael Plaks:

@Heather Hall

"A popular STR investor" is not the same as "a popular real estate accountant." ;) It's best to learn STR business from him, but learn taxes from tax professionals like myself or @Sean O'Keefe.

Like Sean said, in most cases you will apply cost segregation to both properties in the same year.

However the rules are VERY complex. You don't have the freedom of pick-and-choose but you have various options. You can sometimes creatively plan around the rules, including doing cost segregation selectively.

However, generic advice like what you quoted is never helpful. Almost everything in tax planning is case by case. What he described might have been possible and beneficial to him. But it may not work for you at all. And maybe he did not even follow the rules, I have no idea about his particular situation.