This blog post is in the multifamily acquisitions category. Why? If you are familiar with my acquisitions perspective then you already know the mantra: know your exit strategy prior to acquisition. The right time to discuss your exit strategy is prior to buying any asset. Granted, things change. The point is to think about the potential “exit” during acquisition. And with that, let’s talk about depreciation.
Depreciation is an income tax deduction that allows a taxpayer to recover the cost or other basis of certain property. It is an annual allowance for the wear and tear, deterioration, or obsolescence of the property (www.irs.gov)
As “universities” formed across Europe the course of study began with classical history to a culmination of “a man of letters” after eighteen months of study. In the U.S. we have since honed this traditional education to the modern-day four-year degree that takes many people five years to achieve.
Becoming an accountant then, anymore, requires a four-year degree along with various forms of advanced training, often leading to a second degree; a Masters in Accountancy. And then (finally) the opportunity to sit for the Certified Public Accounting designation.
Why this history? To denote the level of formal education required of accounting professionals and to point out that the profession of accounting requires serious study. These are the professionals we hire to ascertain, with a high degree of certainty, how to follow tax rules, to apply depreciation and depreciation schedules.
Many will direct their accountant to advance any potential depreciation schedule to capture as much depreciation as possible as fast as possible. We call this “accelerated depreciation”.
Accelerated depreciation is… any method of depreciation used for accounting or income tax purposes that allows greater deductions in the earlier years of the life of an asset.(www.investopedia.com)
Why do we ask for maximum utilization of accelerated depreciation? Most investor have no idea. They just know, or think they know, that faster is better. And THAT is not the right answer. The right answer is different for every investor. Owners of commercial real estate assets are a diverse bunch. From “mom and pop” owners to billion dollar sovereign wealth funds the spectrum of owners and ownership structures is vast. So why think that in each an every circumstance a more rapid use of depreciation is positive?
This thinking fails to take into account individual investor investment exit strategy as well as the tax position of the investor. A single property investor will differ substantially from an investor with a large portfolio of properties.The “speed” of the underlying depreciation methods/choices can level out these inconsistencies.Also, please note the IRS does allow a “do over” as to method changes in depreciation in post-acquisition years.Therefore, when thinking depreciation strategy tailor it for particular investors and property.There is no one-size-fits-all.
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