Investing Assets & Markets Real Estate Investing Depreciation of a Rental Property How and Why to Depreciate Rental Property By Jim Kimmons Jim Kimmons Jim Kimmons is a real estate broker and author of multiple books on the topic. He has written hundreds of articles about how real estate works and how to use it as an investment and small business. learn about our editorial policies Updated on September 19, 2022 Fact checked by Mrinalini Krishna Fact checked by Mrinalini Krishna Twitter Mrinalini is the senior investing editor at The Balance and is an expert in investing, financial journalism, digital media, and more. She's been a journalist for more than 10 years at organizations such as the Financial Times and Investopedia, and she has a master's in business and economic reporting from New York University. learn about our editorial policies In This Article View All In This Article What Is Depreciation For Rental Property Rules for Rental Property Depreciation An Example of Rental Property Depreciation How To Claim Rental Property Depreciation Rental Income and Retirement Retirement Planning When You're Young Frequently Asked Questions (FAQs) Photo: Hispanolistic / Getty Images If you own rental property, over the years you will likely spend money to make fixes or improvements. The good news is that the IRS, allows you to claim a tax benefit for those expenses in the form of depreciation. Here's how that works. Key Takeaways You can offset some expenses you incur on maintenance and improvement of your rental property by claiming depreciationThe IRS allows you to depreciate the value of a residential rental structure over a period of 27.5 years, though you cannot depreciate the value of landYou'd need to file Schedule E to Form 1040 and Form 4562 to claim some or all depreciation for your residential property What Is Depreciation For Rental Property The expense you incur on maintenance and improvements on your rental property is classified as a capital expense. You can recover some of that cost by claiming depreciation over the life of the property. It's the logical result of the fact that buildings wear out over time, or they become obsolete due to older features that are no longer in demand. It also provides a great way to pare down the rental income that you must pay taxes on. Note The IRS will, generally, allow you to depreciate the value of a residential rental structure over a period of 27.5 years. Rules for Rental Property Depreciation We're talking taxes here, so, of course, there are some qualifiers. The rules for depreciation imposed by the IRS include: You must own the property.It must generate income—you don't hold it for your personal use.Unlike land, it must have a definable "useful life." It will begin to deteriorate and lose value over time.Property that is expected to last longer than a year Note You cannot claim depreciation on the value of land, because typically, land doesn't undergo wear and tear, nor does it become obsolete. You can only take a depreciation deduction on Schedule E if you meet these circumstances. You calculate depreciation on rental property using the adjusted basis, which means costs that you incur after you place the property to rental use. An Example of Rental Property Depreciation Using an investment fourplex as an example, begin with a purchase price of $325,000. Assume the property will generate $15,192 a year in positive cash flow if all four units are rented out full time. Now you can offset some of that income for tax purposes. You can depreciate the building by deducting out the value of the land and dividing the remainder, the building value, by 27.5 years to reach a figure for annual depreciation. The depreciation calculation would look like this: Purchase price less land value equals building valueBuilding value divided by 27.5 equals your annual allowable depreciation deduction Assume that the value of the half-acre of land on which the fourplex sits is $80,000. The calculation would look like this: $325,000 less $80,000 equals $245,000 building value$245,000 divided by 27.5 years equals $8,909 a year in depreciation Without taking any other property tax or mortgage interest deductions into account, you've already reduced your taxable rental income by $8,909 annually. And you didn't have to spend any additional money to realize this deduction. How To Claim Rental Property Depreciation Depreciation is just one deduction you can take for your rental property. There are more savings to be found here. Claiming a deduction for depreciation requires completing Schedule E with your Form 1040 tax return. You'll enter your annual depreciation here, as well as all the property taxes, interest, and maintenance expenses you paid all year. Note You might also need to file Form 4562 to claim some or all of your depreciation. Rental Income and Retirement Rental home investing is very popular, especially for new investors or for those who want monthly cash flow now rather than big, short-term profit boosts from wholesaling or fix-and-flip investing. Rental investing can accomplish a lot for you depending on your age and your remaining time until retirement. You might find that there isn't a very high rate of return coming your way from dividends or interest as you near retirement age and you begin to calculate your monthly income from the stock market and other investments. You could reallocate your assets, selling stocks or bonds and moving that money into rental homes. There's less risk if you invest wisely, and the returns are typically higher. You'll have more monthly income to fund your looming retirement. Retirement Planning When You're Young This is when you can really start building a nice retirement. Begin buying properties as rentals and you'll start gaining equity as the years go by and they appreciate as you pay down the mortgages. You can take the profits from sales with a 1031 exchange when you sell, and roll them into more rentals, maybe higher-priced homes instead of more of them. A 1031 exchange involves rolling your profits from one property directly into a new property through a designated third party so the money never actually touches your hands. Note A 1031 exchange will let you avoid capital gains tax if you do it right. And if you don't have use of the money yet, it's not capital gains and it's not yet taxable. The Bottom Line Rental property investing will always be a great way to invest because there will always be renters. Rental home investment is resistant to the negative effects of interest rate increases and inflation. It can be a great way to grow your wealth. And rental property depreciation can add to that by offering a little tax benefit. Frequently Asked Questions (FAQs) How do you calculate depreciation on rental property? To calculate depreciation on rental property, you need to figure out your adjusted basis. Adjusted basis is the cost adjustment you make to the cost of your property before you put it to rental use. After that, you divide the value by 27.5 years to arrive at your annual depreciation for your rental property. How do you avoid depreciation recapture tax on rental property? One way to avoid recapture tax on rental property is to engage in a 1031 exchange. You can take the profits from sales with a 1031 exchange when you sell, and roll them into more rentals, maybe higher-priced homes instead of more of them. A 1031 exchange involves rolling your profits from one property directly into a new property through a designated third party so the money never actually touches your hands. Was this page helpful? Thanks for your feedback! Tell us why! Other Submit Sources The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy. Internal Revenue Service. "Publication 527 (2020), Residential Rental Property - Depreciation." Internal Revenue Service. "Know the tax facts about renting out residential property." Internal Revenue Service. "Publication 527 (2020), Residential Rental Property - What Rental Property Can Be Depreciated?" Internal Revenue Service. "Publication 527 (2020), Residential Rental Property - What Rental Property Can't Be Depreciated?" Internal Revenue Service. "Publication 527 (2020), Residential Rental Property - Adjusted Basis." Internal Revenue Service. "Publication 527 (2020), Residential Rental Property - Which Forms to Use?" Internal Revenue Service. "Like-Kind Exchanges - Real Estate Tax Tips."