Depreciating Residential Rental and Commercial Real Property

When you own rental property, depreciation is your best friend.

One reason depreciation is so valuable is that, unlike deductible rental property expenses such as interest and maintenance, you get to claim depreciation year after year without having to pay anything beyond your original investment in the property. Moreover, rental real property owners are entitled to depreciation even if their property goes up in value over time (as it usually does). The basic idea behind depreciation is simple, but applying it in practice can be complex. Indeed, the annual depreciation deductions for two properties that cost the same can be very different.

For example, if you own a motel with a depreciable basis of $1 million, you get to deduct $25,640 each year for depreciation (except the first and last years). If you own an apartment building with a $1 million basis, your depreciation deduction is $36,360.

Why the difference? A motel and apartment building are both rental real estate. Shouldn’t they be depreciated the same way? Not according to the tax law. An apartment building is a residential rental property, while a motel is a commercial rental property. There are different depreciation periods for commercial and residential property: it takes far longer to depreciate commercial property fully. For this reason, you should always make sure you correctly classify your property as commercial or residential. Such classification can be more challenging than you might think, especially for mixed-use properties. If you rent to residential and commercial tenants, the tax code classifies the building as residential only if 80 percent or more of the gross annual rent is from renting dwelling units.

Even properties rented only for residential use may have to be classified as commercial if a majority of the tenants or guests are transients who stay only a short time. This rule can adversely impact the depreciation deductions for property owners who rent their property to short-term guests through Airbnb and other short-term rental platforms. If you’ve been using the wrong depreciation period for your residential or commercial rental property, you should correct the error by filing an amended return or IRS Form 3115 to fix depreciation errors more than two years old.

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Takeaways

If you keep the property for 40 years, the total depreciation deductions are the same for both residential and non-residential real property. The difference is you get your deductions 42% faster with property classified as residential rental property (39 divided by 27.5). Given the time value of money, this is a valuable benefit of owning residential rental property.

For depreciation, residential property is a building or other structure for which 80% or more of the gross rental income for the tax year is from dwelling units. How much space the dwelling units take up in the building is irrelevant; all that matters is how much money you earn from them. If you live in any part of the building, the gross rental income includes the fair rental value of the part you occupy.

If a building changes from a residential rental property to a non-residential rental property due to the 80% rule, you switch to the non-residential rate of depreciation on the first day of that year.

Likewise, if the non-residential real property becomes residential real property, you switch and depreciate over a 27.5 year recovery period for residential rental property instead of the 39-year period.

The definition of the dwelling unit for purposes of depreciation is more expansive than what you might find with vacation homes. For example, the vacation home rules state that the dwelling unit has basic living accommodations, such as sleeping space, a toilet, and cooking facilities. For 27.5-year residential rental property depreciation, you don’t need the kitchen. The 30-day transient rule applies not only to hotels, motels, and nursing homes but to short-term Airbnb-type rentals as well.

The Premium Tax Credit (PTC) is a refundable tax credit that helps individuals and families afford health insurance purchased through a Marketplace under the Affordable Care Act (ACA). The American Rescue Plan Act of 2021 (ARPA) introduced several temporary but impactful enhancements to this credit.

Expanded Eligibility for Taxpayers Over 400% of the Federal Poverty Level (FPL)

Before ARPA:
Taxpayers with household income above 400% of the FPL were not eligible for the PTC.

Under ARPA (2021–2022):
The income cap is eliminated. Taxpayers above 400% of the FPL can now qualify for the PTC.

Example:
A single 45-year-old with $58,000 in income (450% of FPL) would not have qualified under previous rules. Under ARPA, they may now receive a PTC of approximately $1,250.

New Percentage Tables Increase PTC Amounts

PTC is calculated based on the cost of a benchmark health plan minus the taxpayer’s required premium contribution, which is tied to household income.

ARPA Changes:

• Reduces the maximum premium contribution to 8.5% of income (from 9.83%) for 2021 and 2022.

• Expands support for those at lower income levels.

Example:
A 21-year-old at 150% of FPL may see their PTC increase from $3,500 to $4,300 under ARPA.

Special Rule for Unemployment Compensation Recipients in 2021

If you received (or were approved to receive) unemployment compensation for at least one week in 2021, the following applies:

• You automatically qualify as an eligible PTC recipient (unless you’re eligible for affordable employer coverage).

• Your household income above 133% of FPL is disregarded when calculating your PTC.

This effectively caps your required contribution and boosts your PTC, regardless of actual income above 133% of FPL.

No Repayment of Excess Advance PTC for 2020

Under normal rules, if advance PTC payments exceed the actual calculated credit, the overage must be repaid as additional income tax (subject to a cap).

ARPA Exception (2020 only):
If advance PTC exceeded your actual credit in 2020, you do not have to repay the excess.

Important Note:
If you’ve already filed your 2020 return and repaid excess credit, the IRS advises not to amend your return yet. Guidance on refund procedures is forthcoming.

Contact Us

Questions about your eligibility or tax return?
📞 Call us at 561-995-0064 to speak with a tax advisor.

The U.S. Internal Revenue Service (IRS) has launched a new initiative, Operation Hidden Treasure, to increase enforcement efforts related to unreported cryptocurrency income.
This marks a significant step in the agency’s evolving approach to crypto tax compliance.

A Dedicated Crypto Enforcement Effort

Operation Hidden Treasure is a joint effort between:

• The IRS Office of Fraud Enforcement

• The IRS Criminal Investigation Division

The program will train agents to use blockchain analysis to identify tax evasion patterns. It’s part of a broader strategy by the IRS to address emerging financial threats.

At a Federal Bar Association tax conference, Damon Rowe, Director of the Office of Fraud Enforcement, confirmed that cryptocurrency fraud is a top priority for the agency.

How the IRS Will Uncover Crypto Tax Evasion

According to Carolyn Schenck, National Fraud Counsel for the IRS:

• The IRS is partnering with blockchain analytics firms to identify “signatures” or red flags of fraudulent activity.

• IRS employees are training alongside Europol to enhance investigation techniques.

Agents will look for:

• Structuring transactions just below reporting thresholds (e.g., multiple $9,999 transfers)

• Use of shell corporations to disguise ownership

• Patterns of moving assets on and off blockchain networks

Taxable Events & Reporting Guidance

While guidance around cryptocurrency tax reporting has sometimes been unclear, the IRS has reaffirmed that:

• Buying virtual currency with U.S. dollars is not a taxable event and generally does not need to be reported.

• Cashing out, trading, or spending cryptocurrency is taxable and must be reported.

Operation Hidden Treasure will focus on identifying such unreported taxable events and linking them back to individual taxpayers.

What This Means for Taxpayers

The message from the IRS is clear: Crypto transactions are not invisible, and non-compliance can lead to significant consequences.

If you have crypto holdings or have engaged in transactions involving digital assets:

• Review your transaction history carefully

• Understand what constitutes a taxable event

• Ensure accurate reporting on your tax return

Questions about crypto tax compliance?
📞 Contact our office at 561-995-0064 for expert guidance on reporting, planning, and minimizing audit risks.