Depreciation

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Guitarplayer
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Depreciation

Post by Guitarplayer » Wed Feb 13, 2019 10:07 am

I have been depreciating a real estate office for about 10 years but I recently began to wonder that since I am in a 15% tax bracket/rate whether it makes sense to continue to save 15% now but later pay 25% when disposing of the property? Is there any advantage to continue to depreciate my commercial property to save 15% now but later expend 25%?

Thanks

Antonio

sjt
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Re: Depreciation

Post by sjt » Wed Feb 13, 2019 10:52 am

I'm not terribly familiar how this works, but I thought in the case of depreciating properties (such as real estate investing) - you will be hit for the recapture whether or not you depreciate it each year.
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senex
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Re: Depreciation

Post by senex » Wed Feb 13, 2019 11:40 am

I thought depreciation was governed by GAAP & treasury regulations -- that you can't just make up your own depreciation schedules. But I'm not a CPA.

I hope one of our resident CPAs comes along to straighten things out.

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grabiner
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Re: Depreciation

Post by grabiner » Wed Feb 13, 2019 12:28 pm

Guitarplayer wrote:
Wed Feb 13, 2019 10:07 am
I have been depreciating a real estate office for about 10 years but I recently began to wonder that since I am in a 15% tax bracket/rate whether it makes sense to continue to save 15% now but later pay 25% when disposing of the property? Is there any advantage to continue to depreciate my commercial property to save 15% now but later expend 25%?
As others have posted, you have to use the IRS depreciation schedule; if you don't deduct your depreciation, you still have to use the depreciated basis for your capital gain.

However, the 25% tax rate on recaptured depreciation is a maximum rate, not an automatic rate. If you are still in a 12% tax bracket when you sell, then the depreciation recapture will be taxed at 12% for income up to the top of the 12% bracket, then at 22% for income within the 22% bracket, and so on. (Likewise, the regular capital gain will be taxed at 0% or 15%, depending on which tax bracket it falls into.)
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knpstr
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Re: Depreciation

Post by knpstr » Wed Feb 13, 2019 12:35 pm

It isn't optional.

As Grabiner said, the IRS will make you "recapture" depreciation even if you didn't "take it" on your returns. So keep deducting it.
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DrGoogle2017
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Re: Depreciation

Post by DrGoogle2017 » Wed Feb 13, 2019 12:38 pm

I agree it’s not optional. If you don’t deduct, they still treat as if you did.

Topic Author
Guitarplayer
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Re: Depreciation

Post by Guitarplayer » Thu Feb 14, 2019 7:55 pm

Thanks everyone for your input. I will continue to depreciate as per the IRS schedule that I have used for previous years.

tbone555
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Re: Depreciation

Post by tbone555 » Thu Feb 14, 2019 8:13 pm

grabiner wrote:
Wed Feb 13, 2019 12:28 pm
Guitarplayer wrote:
Wed Feb 13, 2019 10:07 am
I have been depreciating a real estate office for about 10 years but I recently began to wonder that since I am in a 15% tax bracket/rate whether it makes sense to continue to save 15% now but later pay 25% when disposing of the property? Is there any advantage to continue to depreciate my commercial property to save 15% now but later expend 25%?
As others have posted, you have to use the IRS depreciation schedule; if you don't deduct your depreciation, you still have to use the depreciated basis for your capital gain.

However, the 25% tax rate on recaptured depreciation is a maximum rate, not an automatic rate. If you are still in a 12% tax bracket when you sell, then the depreciation recapture will be taxed at 12% for income up to the top of the 12% bracket, then at 22% for income within the 22% bracket, and so on. (Likewise, the regular capital gain will be taxed at 0% or 15%, depending on which tax bracket it falls into.)

I thought the depreciation recapture tax was a flat rate of 25%?

tbone555
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Re: Depreciation

Post by tbone555 » Thu Feb 14, 2019 8:24 pm

Wow. I see now that depreciation recapture is not a flat rate 25%, but a maximum rate of 25%. Really food to know this. Perhaps I can time the sale of my rental property the first year of early eetierment and save quite a bit on taxes.

Cuzz35
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Re: Depreciation

Post by Cuzz35 » Thu Feb 14, 2019 8:31 pm

tbone555 wrote:
Thu Feb 14, 2019 8:24 pm
Wow. I see now that depreciation recapture is not a flat rate 25%, but a maximum rate of 25%. Really food to know this. Perhaps I can time the sale of my rental property the first year of early eetierment and save quite a bit on taxes.
You can also spread out the gain via an installment sale agreement.

Also, if you have passive loss carryovers to the year of sale, those would be freed up to offset the gain from the sale.

tbone555
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Re: Depreciation

Post by tbone555 » Fri Feb 15, 2019 11:56 am

Cuzz35 wrote:
Thu Feb 14, 2019 8:31 pm
tbone555 wrote:
Thu Feb 14, 2019 8:24 pm
Wow. I see now that depreciation recapture is not a flat rate 25%, but a maximum rate of 25%. Really food to know this. Perhaps I can time the sale of my rental property the first year of early eetierment and save quite a bit on taxes.
You can also spread out the gain via an installment sale agreement.

Also, if you have passive loss carryovers to the year of sale, those would be freed up to offset the gain from the sale.

Interesting. Have to pay the depreciation recapture tax in full, but can spread out the capital gains.

I'm hoping not to have any passive loss carry overs because of the positive cash flow!

uclalee
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Re: Depreciation

Post by uclalee » Wed Feb 05, 2020 5:33 pm

Has anyone actually done this recapture? I sold my home last year and when I enter prior depreciation the software keeps taxing me at 35%. Is there a specific line this is entered on in schedule d?

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Re: Depreciation

Post by jebmke » Wed Feb 05, 2020 5:40 pm

I think depreciation recapture is reported on Form 4797. It has been a long time since I did one of these. The IRS instructions would have details on how to report.
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fyre4ce
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Re: Depreciation

Post by fyre4ce » Wed Feb 05, 2020 5:41 pm

uclalee wrote:
Wed Feb 05, 2020 5:33 pm
Has anyone actually done this recapture? I sold my home last year and when I enter prior depreciation the software keeps taxing me at 35%. Is there a specific line this is entered on in schedule d?
Schedule D, line 19. Total tax is calculated on the Schedule D Tax Worksheet, which accounts for ordinary income, qualified dividends, long-term capital gains, depreciation recapture, and collectibles gain.

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Re: Depreciation

Post by fyre4ce » Wed Feb 05, 2020 5:50 pm

As has been pointed out, you will have to recapture the depreciation whether you took it or not, so might as well take it. Grabiner is correct that it’s taxed at the lower rate of ordinary income or 25%. You will have over a decade of depreciation when you dispose of the property, so it will probably fill up the 22% and 24% brackets, then get capped at 25% above that. So while you will pay a higher rate for it later, at least you’re getting an interest free loan now.

Edit: It's also worth noting that recaptured depreciation raises AGI, so can have secondary consequences like phasing out certain credits, etc. The depreciation lowered AGI by a smaller amount over many years, so it could have helped you qualify for things like the Saver's credit. I'm not sure if it's possible to generalize whether depreciation and recapture are a net positive or negative for lower-income taxpayers. It seems like a net positive for higher-income taxpayers, who can deduct at 32-37% and then repay without interest at only 25% and who probably don't have any credits left to phase out.

The whole thing seems like bad tax policy to me. It's complex and requires tracking over years or decades. Seems like a better idea to just allow deduction of real expenses including interest, but no depreciation. But I digress.

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Re: Depreciation

Post by fyre4ce » Wed Feb 05, 2020 6:47 pm

tbone555 wrote:
Fri Feb 15, 2019 11:56 am
Cuzz35 wrote:
Thu Feb 14, 2019 8:31 pm
tbone555 wrote:
Thu Feb 14, 2019 8:24 pm
Wow. I see now that depreciation recapture is not a flat rate 25%, but a maximum rate of 25%. Really food to know this. Perhaps I can time the sale of my rental property the first year of early eetierment and save quite a bit on taxes.
You can also spread out the gain via an installment sale agreement.

Also, if you have passive loss carryovers to the year of sale, those would be freed up to offset the gain from the sale.

Interesting. Have to pay the depreciation recapture tax in full, but can spread out the capital gains.

I'm hoping not to have any passive loss carry overs because of the positive cash flow!
The property can be cashflow-positive and still generate losses on Schedule E due to the depreciation deduction. This is what happened with my rental property - due to some larger repairs, the property was about cashflow-neutral the last couple years but generated carryforward losses due to depreciation. Now that the property is sold, the carryforward losses and depreciation recapture will just about cancel each other out.

MarkNYC
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Re: Depreciation

Post by MarkNYC » Wed Feb 05, 2020 6:49 pm

Allowable depreciation will reduce basis in the property whether taken or not, so it usually makes sense to take it.

But the amount of gain subject to the special maximum capital gain rate of 25 percent is limited to depreciation actually taken. So if no depreciation is actually taken, then all of the gain will get taxed at regular capital gain rates.

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