Commercial property depreciation. Sounds like a really difficult concept. But, in reality, it’s not too hard to understand. Commercial real estate is an asset. Although, it does incur a number of expenses. So, the IRS won’t let commercial property owners write-off its acquisition cost in the same year it’s bought. Instead, the tax agency allows commercial property owners to simulate its incremental value loss as the physical structure deteriorates. In most instances, a commercial building has a 39-year life. But, the IRS allows the process to be sped-up.
Commercial Property Depreciation: Buildings versus Land
Now, there’s a big difference between commercial real estate when it come to depreciation. That is, the IRS does not treat all commercial property investments the same. While the tax agency does allow owners to depreciate buildings, it doesn’t not give the same treatment to land. In other words, the IRS does not regard land as an asset that deteriorates.
Factoring in depreciation of a building that has been purchased for commercial means is important for taxes, the value of assets and if the property is to be sold at some point. These numbers are applied to tax documents and in accounting books for the company, and it is essential to know how much the real estate value is each year. —HG.org
Now, this begs the question, if you buy a commercial building and the land with it (which is a sensible proposition), how do you apply the depreciation model to this combination asset? This is where an experienced tax professional comes into the equation. You’ll ultimately have to allocate the value paid for the purchase between the building and the land. However, if you make improvements to commercial land (which means placing a building on it), you can then depreciate said improvement over a 15 year period.
How is Commercial Property Depreciated?
Commercial property is depreciated, generally, in one of two ways — straight line depreciation and cost segregation depreciation.
The method of straight line depreciation is a simple, three-step process. You calculate the total cost basis of your commercial property. Then, divide that value by 39 to calculate the annual depreciation. You then apply the rate to your annual tax for the next 39 years. (Of course, this is a simplification and you should consult an experienced tax professional for the right advice.)
Cost segregation depreciation works by separating out the components into four categories: personal property, land improvements, the building, and the land itself. You can depreciate personal property over 5 to 7 year, using the double decline method. Next, depreciate the land improvements over 15 years with the accelerated method. You can then depreciate the building components for various tax advantages. The land is the last to apply.
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