Over How Many Years Is Commercial Property Depreciated?
Understand the essential periods and methods for depreciating commercial property, maximizing your tax benefits over time.
Depreciation allows businesses to recover the cost of certain property over time for tax purposes. This accounting concept is important for strategic tax planning, helping businesses manage their taxable income.
What Commercial Property Depreciation Entails
Depreciation is an accounting method used to systematically allocate the cost of a tangible asset over its estimated useful life. This process reflects the gradual wear and tear, deterioration, or obsolescence of the property. The allowance for depreciation applies to the cost of the property, not its fluctuating market value. This deduction reduces taxable income, leading to tax savings and improved cash flow.
Determining the Depreciation Period
Non-residential real property, or commercial property, is depreciated over 39 years under the Modified Accelerated Cost Recovery System (MACRS). This period applies to the building structure, including elements like the foundation, walls, and roof. Examples include office buildings, retail stores, and warehouses.
Land is not subject to depreciation because it does not wear out or become obsolete. Land improvements, such as fences, parking lots, sidewalks, and landscaping, are generally depreciated over 15 years under MACRS.
Personal property within a commercial building has different, shorter depreciation periods. Office furniture and equipment are typically depreciated over 7 years, while computers are often depreciated over 5 years. A cost segregation study can identify these shorter recovery periods for specific assets, allowing for accelerated depreciation.
How Commercial Property Depreciation is Calculated
Calculating the depreciation deduction for commercial property begins with determining the depreciable basis. This is the cost of the property minus the value of the land, as land is not a depreciable asset. For instance, if a commercial building is purchased for $1,000,000 and the land is valued at $200,000, the depreciable basis would be $800,000.
Non-residential real property must use the straight-line depreciation method under MACRS. This method spreads the cost evenly over the useful life of the asset. To calculate the annual depreciation, the depreciable basis is divided by the 39-year recovery period. Using the previous example, an $800,000 depreciable basis divided by 39 years results in an annual depreciation deduction of approximately $20,512.82.
A specific rule for real property depreciation under MACRS is the mid-month convention. This convention assumes that property is placed in service in the middle of the month it is acquired, regardless of the actual date. For example, if a property is placed in service on any day in January, it is treated as if it were placed in service on January 15th, allowing for half a month’s depreciation for that month in the first year. This convention also applies in the year the property is disposed of, treating the disposition as occurring in the middle of that month.