Tired of that ugly carpeting? Chances are your tenants will thank you for replacing it with something snazzy, modern and easy to keep clean. Whether you just restored gorgeous wooden floors or replaced all the carpeting after the pet owners moved out, you've probably shelled out a small fortune. Now it's time to let Uncle Sam give you some of that money back on your tax return.
What is Depreciation?
Even accountants cringe at the word depreciation. But it's just a fancy term for writing off the cost of a big investment in your property over several years -- the useful life of the item -- rather than all at once. That's good news and bad news for owners of rental property. The good news is that you can include both the cost of the materials and the installation charges. Keep those receipts!
How to Calculate Depreciation
Here's the bad news. For residential real estate, carpet is depreciated over five years, but put in new flooring (wood, tile or linoleum), and it will take 27.5 years to completely depreciate the cost. That's because new floors are expected to last the life of the property. Oh, it gets worse. Non-residential real estate, such as office buildings, uses a 39-year depreciation schedule.
Who Can Take Depreciation?
To take depreciation on rental property you must be the owner, not the tenant of the property. If a tenant makes substantial improvements, he cannot write off that amount on his own taxes, nor can the property owner claim depreciation for improvements for which he did not pay. The property must be used in an income-producing capacity.
For property used for both business and personal purposes, you can only take depreciation on the portion of the flooring used in the business side of the property. For example, if you own a duplex and live in one half, you can write off only the new flooring in the rental unit, but not the flooring in your own personal unit. The exception is that you may depreciate flooring in a home office used exclusively for business.
Filing Your Tax Return
The easy way to calculate how much depreciation you may deduct each year is to use tax preparation software or hire a tax professional to handle your return. While most of the necessary forms are fairly easy, the specifics of depreciation are, well, pretty specific. An error here won't necessarily mean an audit or a bigger tax bill, but the IRS will expect you to rework returns from prior years to correct any errors.
For the do-it-yourselfers, make sure to get a copy of IRS Publication 527 (Residential Real Estate) and Publication 946 (How to Depreciate Property). You'll also need Form 4562 (Depreciation), and Schedule E for rental income. Original flooring and carpeting will be included with the main property depreciation, but if you refurbish old flooring or purchase new carpeting, you'll depreciate that amount separately, in Part III. Now isn't that accountant starting to sound like a great idea?
Naomi Smith has been writing full-time since 2009, following a career in finance. Her fiction has been published by Loose Id and Dreamspinner Press, among others. She holds a Master of Science in financial economics from the London School of Economics and a Bachelor of Arts in political economy from the University of California, Berkeley.