This course examines the U.S. federal tax system as it relates to property transactions of business owners and shareholders. Topics include cost recovery, such as depreciation, amortization, and depletion; calculation of realized versus recognized gains and losses; evaluation of the potential tax effects of nontaxable exchanges; and the combining, or netting, gains and losses that are different in nature. Assignments facilitate self-discovery of knowledge and development of a variety of professional skills.
Depreciation of Business Use Realty
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来自 University of Illinois at Urbana-Champaign 的课程
Federal Taxation II: Property Transactions of Business Owners and Shareholders
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从本节课中
Module 2 Depreciation: Realty, Bonus, §179, and Listed Property
In this module, you will take a deeper dive into concepts of cost recovery used in the U.S. Federal tax structure. This deeper dive begins with a discussion of the proper methods for depreciating business use realty. Next, you will learn about two electives, known as Section 179 depreciation and additional first year (or bonus) depreciation, available to taxpayers. Last, you will learn about listed property that the IRS places limitations on the deductibility.
与讲师见面
Petro Lisowsky, PhD, CPAAssociate Professor of Accountancy
College of Business: Department of Accountancy
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Welcome back.
Recall in our previous videos that there are three types of cost recovery methods,
depreciation, amortization and depletion.
We've already looked at depreciation, specifically at the cost recovery method
that deals with business use tangible property, whether it's real property or
personal property.
In order to calculate depreciation, we need to know the original basis of
the property which is usually what we paid for the asset.
We also need to know the class life of the property and
the convention, whether half year or mid-quarter.
Recall that we use the IRS tables to find the correct depreciation rate.
And we multiply that rate by the original basis
to calculate the depreciation deduction for that year.
Note, however, that this is how we calculated the depreciation
on business use tangible personal property.
What about calculating depreciation on business use tangible real property,
like a warehouse or an office building?
In this video,
we'll look at how to calculate depreciation of business use realty.
Depreciation of reality does not use the same convention as the depreciation
of personalty.
That is, it does not use the half year or mid-quarter conventions.
Instead, real property is depreciated using what's known as the mid-month
convention.
The mid-month convention means that the taxpayer is allowed to deduct one half of
one month's worth of depreciation in the month the realty is placed into service.
And one half of one month's worth of depreciation
in the month the realty is disposed of.
The logic here is similar to half of year convention, or the mid-quarter convention.
Recall that the half of your convention allow the taxpayer to deduct
half a year's worth of depreciation in the first and
last year of using business personal to you.
While the mid-quarter convention allowed the taxpayer to deduct half a quarter's
worth of depreciation in the first and last quarter of using business personalty.
The window shrinks even more for business use realty in that taxpayers are allowed
to depreciate half a month's worth of depreciation in the first and
last month of using business realty.
Also what's different with realty is that the asset is depreciated straight-line.
Recall that business use personalty is depreciated
using accelerated depreciation.
Meaning, a greater depreciation deduction is allowed early in the asset's life
compared it to the end of the asset's life.
Under straight-line, however, realty is depreciated evenly over time.
An important distinction with realty is whether the realty is residential or
nonresidential, because the class life period is different.
Residential real property is defined as property where 80% or more of the gross
rental revenues are from non-transient dwelling units, for example, apartments.
So, think of an apartment building in a big city, maybe New York or Chicago or
San Francisco.
Maybe the first two floors are reserved as retail space for stores or restaurants,
which are considered non-residential since nobody lives in a store or restaurant.
However, the rest of the building contains apartment units.
If more than 80% of the rental income that the landlord receives from the building
occupants are received from the apartments' tenants,
then the entire building is considered residential.
And can be depreciated straight-line over a shorter period than if it were
classified as a nonresidential building.
Therefore, the cost recovery is quicker for residential rental properties.
And thus, as you can imagine, if the basis of the buildings is the same,
the depreciation deductions will be higher for
a residential property than for a nonresidential property.
Other examples of non-residential properties are office buildings or
warehouses, as well as hotels because the units are for
transient dwellers, meaning very short-term living.
If you own one of these non-residential properties,
the depreciation life is much longer.
Finally, recall that the land itself is never depreciated,
only the buildings on the land are depreciated.
The tax law does not consider land to be subject to wear and tear.
In terms of calculating the depreciation deduction for business use realty,
we need to look at Table 4.
There are in fact 2 sets of tables.
One for residential property, depreciated over 27.5 years.
And the other for non-residential property.
And the non-residential property is further split into property placed
into service between December 31, 1986 and May 12,
1993, which is depreciated over 31.5 years.
And property placed into service after May 12, 1993,
which is depreciated using 39 years.
We'll basically use two tables, the Residential Real Property Table and
the Non-Residential Real Property table for property placed into service after
May 12, 1993, simply because it's more recent and often used table.
So here are what the two depreciation tables look like.
The top table is for residential real property and the bottom table is for
non-residential real property placed into service after May 12, 1993.
So how do we read these tables?
The columns are setup to follow the month of the tax year
during which you place property into service.
If you're a December 31 calendar year end taxpayer,
then column 1 will correspond to January.
Column 2 will correspond to February.
Column 3 will respond to March, and so on.
For example, if you're a landlord and you place into service an apartment building
that is a residential real property on August 4th of the current year,
then you look at the top panel, because that's the residential real estate panel.
Then you look in column 8, because August is the eighth month of the year.
If it's the first year you've placed the asset as a service, then the depreciation
rate is at the intersection of column 8 and row 1, or 1.364%.
You would multiply 1.364% by the basis in the apartment building to figure out
the depreciation deduction for year 1.
For year 2, you just drop down one row and look at the intersection of column 8 and
row 2.
Here, the rate is 3.636%.
You would multiply 3.636% by the basis and
the apartment building to figure out the depreciation deduction for year 2.
And because real estate is depreciated straight-line, that is spread evenly over
time, the depreciation rates between the first and last years are roughly the same.
So if you stay in column 8 and look at the percentages in row 2 to 18,
row 19 to 27, and row 28, they're all basically the same,
either 3.636% or a 3.637%.
The rates are slightly different to accommodate rounding.
But this is the idea of straight-line.
The depreciation rate is the same over time.
The bottom table shows the depreciation rates for non-residential real property.
Same idea here.
If you're a landlord or a business owner and
you place into service an office building or a warehouse that is non-residential
real property on August 4th of the current year, then you look at the bottom panel
because this is the non-residential real estate panel.
And you look in column 8 because August is the eighth month of the year.
If it's the first year you place the asset into service, then the depreciation
rate is at the intersection of column 8 and row 1, or 0.963%.
You would multiply 0.963% by the basis in the apartment
building to figure the depreciation deduction for year 1.
For year 2, you just drop down one row and
look at the intersection of column 8 and row 2.
Here the rate is 2.564%.
You would multiple 2.564% by the basis in the apartment building
to figure out the depreciation deduction for year 2.
And because real estate is depreciated straight-line, that is spread evenly over
time, the depreciation rates between and the first and the last years are the same.
So if you stay in column 8 and look at the percentage in row 2 to 39,
they're all the same, at 2.564%.
Again, the tables are split into months because real property is depreciated
using the mid-month convention.
So the assumption is that regardless of when during the month you placed the asset
into service or when during the month you dispose of the asset,
you are allowed half a month's worth of depreciation.
So in our example, if you place realty into service on August 4th,
it's assumed that you placed the realty into service on August 15th.
Same goes for if you place the asset into service on August 10th or
August 20th or August 30th.
It's assumed that you place the asset into service on August 15th.
That is, in the middle of the month.
So let's work through an example using the realty tables and the mid-moth convention.
On July 12, year 20x1, Blue Company purchases and
places into service a warehouse and the land it resides on for
$170,000 where $120,000 is allocated to the building.
What is the amount of depreciation on the property in year 20x1?
And what about in year 20x2?
First, we need to figure out whether the warehouse is residential or
non-residential.
Warehouses by definition do not include dwelling units.
Warehouses are used for business storage, inventory, and logistics management.
So we can consider the warehouse to be non-residential.
Therefore, we look at the non-residential depreciation rate table, and here it is.
Now, in order to find the right depreciation rate,
we need to identify the correct column and row.
The columns correspond to the months.
The warehouse in our case was placed into service on July 12th.
July is the 7th month, so we will look at column 7.
Year 20x1 is the first recovery year, so the correct year is 1.
The intersection of column 7 and
row 1 will give us a depreciation rate of 1.177%.
So now that we have this 1.177% rate, what do we multiply it by?
Do we multiply it by the $170,000 value which includes both the warehouse and
the land?
Or do we multiply it by just the value of the warehouse, that is, the $120,000?
Well, we're only allowed to depreciate buildings, not the land.
So, the basis we use for calculation is $120,000.
We take the $120,000 basis of only the building and
multiply it by 1.177% to get $1,412.
Therefore, in your 20x1 the first year of use,
the warehouse will generate a depreciation deduction of $1,412.
Now what about the next year?
What is the depreciation deduction in year 20x2?
We go back to the non-residential realty depreciation table.
And we stay in column 7 because July was the original month the warehouse was
placed into service.
But we are now in year 2, so we simply drop down one row and stay in column 7.
So here the rate is 2.564%.
Now that we have this 2.564% rate,
we need to multiply it by the 120,000 original basis.
Therefore, once we multiply out the $120,000 basis,
times the 0.02564 depreciation rate, we get $3.,077.
Therefore, in your 20x2, the second year of use,
the warehouse will generate a depreciation deduction of $3,077.
In all, remember that with business use realty,
we need to differentiate between residential and non-residential realty.
Depreciation only applies to buildings, not the land.
And the IRS requires tax payers to use the mid-month convention,
which uses straight-line depreciation.
Once you identify the correct depreciation rate from the IRS tables,
simply multiply it by the original basis of the reality value
to obtain the depreciation deduction for the year.
And that's how we depreciate business use realty.
