| As an Accountant, you help guide your clients through | | | | depreciation with Chattel. |
| the often confusing and complex world of the IRS Tax | | | | Property Purchase Price $450,000 |
| Code. You help them manage their bottom lines by | | | | Chattel Value $45,000 |
| maximizing their Return on Investment. So, just how | | | | Land Value $75,000 |
| much do you depreciate your clients? | | | | Building Amount to Be Depreciated $330,000 |
| Real estate has long been a popular way for people | | | | New Depreciation Amounts: |
| to make money, I'm sure you see it every day. There | | | | $330,000/27.5 years = $12,000 Straight Line |
| are so many ways to invest in real estate, it is just | | | | $45,000/5 years = $9,000 Accelerated |
| about mind numbing when you think about it. Rental | | | | Total Depreciation= $21,000 |
| real estate has gained much popularity with the | | | | This is an additional depreciation amount of $7,363.64!! |
| inventories of homes for sale increasing nationwide. | | | | Let's now look at actual tax dollar savings of this |
| Along with rental real estate comes a large list of | | | | investor who is in a 30% Tax Bracket: |
| expenses your clients can use and deduct: travel, | | | | Straight Line Only $13,636.36 x 30% = $4,090.91 |
| background checks, utilities, taxes, mortgage interest, | | | | With Acceleration $21,000.00 x 30% = $6,300.00 |
| CPA fees and the list goes on. These expenses | | | | Increased Savings $6,300.00 - $4,090.91 = $2,209.09 |
| typically require payment by cash, check or credit card. | | | | This client would save over $2,000 per year in the |
| Depreciation, on the other hand, does not require the | | | | early years of ownership, when it is very difficult to |
| exchange of money. Depreciation is an expense that | | | | cash flow. This amount oftentimes is the difference |
| allows for spreading the cost of the building over a | | | | between breaking even and making money. |
| period of time. Current IRS Guidelines allow a 39 year | | | | So, now you are asking about recapture. Recapture |
| depreciation schedule for commercial properties and | | | | and the recapture tax apply whenever a depreciated |
| 27.5 years on residential properties. However, there is | | | | asset is sold. The recapture tax percentage rate is |
| more that can be depreciated under current IRS | | | | based on the investors' income tax rate and is capped |
| Guidelines. | | | | at 25%. This allows your client to keep 75% and utilize |
| The IRS allows an investor to depreciate the personal | | | | the time value of money. Let's again use our example |
| property, commonly called Chattel, over an | | | | and see the effects of recapture. |
| accelerated period of 5 to 15 years. Chattel includes: | | | | We will assume this property was held for 5 years |
| flooring, cabinets, appliances, window treatments, | | | | and is selling for $521,673.33 which represents annual |
| landscaping, pools, sidewalks and this list goes on. Over | | | | appreciation of 3%: |
| 65 items identified by the IRS can be accelerated. | | | | Purchase Price $450,000 |
| So how did this come about? With a court case called | | | | Depreciation Taken $21,000 x 5 years = $105,000 |
| Hospital Corporation of America vs. Comm [109 TC 21 | | | | Sales Price $521,673.33 |
| (1977)]. This case rules it is permissible to separate | | | | Recapture Tax $105,000 x 25% = $26,250 |
| Section 1245 Property from Section 1250 Property. | | | | Amount Kept by Investor $105,000 - $26,250 = |
| After this case was settled, the IRS issued Audit | | | | $78,750 |
| Techniques Guide on cost segregation. In this guide, the | | | | You can see this investor was taxed for Recapture at |
| IRS describes several methods for determining the | | | | 25% since their 30% Tax Bracket was higher than the |
| value of Section 1245 Property. For the residential | | | | capped rate of 25%. The $78,750 of depreciation, |
| rental market, from condos through large multi-family, | | | | which resulted in $23,625($78,850 x 30% tax rate) tax |
| the most common way is through a Chattel Appraisal. | | | | savings, your client would keep. |
| Let's look at an example: | | | | There would still be a capital gain event on this sale. |
| Property Purchase Price $450,000 | | | | Sales Price $521,673.33 |
| Land Value $75,000 | | | | Purchase Price $450,000.00 |
| Building Amount to Be Depreciated $375,000 | | | | Capital Gain Amount $71,673.33 |
| We will assume this is 4 family and falls under the 27.5 | | | | So there would be a Capital Gain of $71,673.33. That |
| year guidelines. | | | | is, unless the sale is done through a 1031 Exchange. |
| Annual Deduction for Depreciation $375,000/27.5 | | | | Utilizing a 1031 Exchange with a Chattel Appraisal and |
| years = $13636.36 | | | | accelerated depreciation is a very smart and popular |
| A conservative estimate for the amount of Chattel in | | | | way for your client to keep more of what they make. |
| any property is 10% of the purchase price. Let's use | | | | So, now how much do you depreciate your clients? |
| the same example above and compute the | | | | |