Depreciation is a tax strategy that allows property owners to deduct the cost of their property over a set period of time. This strategy can be especially effective for shopping center investors who have made significant investments in their properties, such as by adding new buildings or making major renovations. By taking advantage of depreciation deductions, shopping center investors can reduce their taxable income and potentially save money on their taxes.
What is Depreciation?
Depreciation is a method of accounting that allows property owners to deduct the cost of their property over a set period of time. Property owners can use depreciation to recover the cost of their property, including buildings, equipment, and other assets. The depreciation deduction is calculated based on the useful life of the asset and the cost of the asset.
For example, if a shopping center owner purchases a new building for $1 million and estimates that the useful life of the building is 30 years, they can deduct $33,333 per year ($1 million divided by 30) as a depreciation expense on their tax return. The depreciation deduction allows the shopping center owner to recover the cost of the building over time, rather than all at once.
How Does Depreciation Work?
Depreciation is calculated using a formula that takes into account the cost of the asset, the useful life of the asset, and the salvage value of the asset. The cost of the asset is the amount paid to acquire the asset, including any expenses related to the purchase, such as taxes, shipping, and installation.
The useful life of the asset is the estimated period of time over which the asset will provide value to the owner. This is determined by the IRS and is based on the type of asset and its expected lifespan. For example, the useful life of a commercial building is typically 39 years, while the useful life of equipment can range from three to 20 years, depending on the type of equipment.
The salvage value of the asset is the estimated value of the asset at the end of its useful life. This value is subtracted from the cost of the asset to determine the depreciable basis of the asset. The depreciable basis is the amount of the cost that can be depreciated over the useful life of the asset.
Once the depreciable basis has been determined, the depreciation deduction can be calculated using one of several methods, including the straight-line method, the double declining balance method, or the sum-of-the-years-digits method. The straight-line method is the most common method used for commercial properties, including shopping centers.
The straight-line method calculates depreciation by dividing the depreciable basis of the asset by the useful life of the asset. This provides the annual depreciation deduction that can be claimed on the investor’s tax return. The straight-line method is simple to use and provides a consistent deduction each year, which can be useful for budgeting and financial planning purposes.
How Can Shopping Center Investors Use Depreciation?
Shopping center investors can use depreciation to reduce their taxable income and potentially save money on their taxes. By deducting the cost of their properties over time, shopping center investors can lower their taxable income each year, which can result in a lower tax liability.
For example, if a shopping center owner has a taxable income of $500,000 and claims a depreciation deduction of $50,000, their taxable income would be reduced to $450,000. This could potentially lower their tax liability and result in significant tax savings.
Shopping center investors can also use depreciation to offset rental income from their properties. Rental income is typically subject to ordinary income tax rates, which can be as high as 37% for high-income earners. By deducting depreciation expenses from their rental income, shopping center investors can lower their taxable rental income and potentially save money on their taxes.
In addition to reducing their
tax liability, shopping center investors can also use depreciation to improve their cash flow. By deducting depreciation expenses from their taxable income, shopping center investors can reduce their tax liability and potentially increase their after-tax cash flow. This can provide more resources for reinvestment in their properties, such as making repairs, renovations, or expanding their shopping centers.
It is important for shopping center investors to keep detailed records of their property costs and depreciation deductions in order to accurately claim the depreciation expense on their tax returns. Shopping center investors should work with a qualified tax professional who can advise them on the best depreciation strategy for their specific property and financial situation.
In addition to traditional depreciation deductions, shopping center investors may also be eligible for bonus depreciation or Section 179 deductions, which provide accelerated depreciation deductions for certain types of property. Bonus depreciation allows investors to deduct up to 100% of the cost of eligible property in the year it is placed in service, while Section 179 allows investors to deduct up to $1.05 million of eligible property in the year it is placed in service. These deductions can provide significant tax savings for shopping center investors who invest in eligible property.
It is important for shopping center investors to stay up-to-date on changes to tax laws and regulations that may impact their depreciation deductions. The Tax Cuts and Jobs Act of 2017 made significant changes to the tax code, including increasing the bonus depreciation percentage and expanding the types of property eligible for bonus depreciation. Shopping center investors should work with a qualified tax professional who can advise them on the latest tax laws and strategies to maximize their depreciation deductions.
In conclusion, depreciation is a valuable tax strategy for shopping center investors who want to reduce their taxable income, improve their cash flow, and reinvest in their properties. By deducting the cost of their properties over time, shopping center investors can save money on their taxes and potentially increase their after-tax cash flow. Shopping center investors should work with a qualified tax professional who can advise them on the best depreciation strategy for their specific property and financial situation, and stay up-to-date on changes to tax laws and regulations that may impact their depreciation deductions.
Last modified: March 22, 2023
