Basics of Depreciation

As I mentioned in an earlier post, Depreciation is one of the four ways you make money in rental real estate.  It allows you to subtract a portion of the cost of the property you purchased from your gross income thereby reducing your taxes.  Just by owning the property you get this tax benefit.

You need to consult a tax expert before calculating your depreciation amount but IRS Publication 527:  (http://www.irs.gov/publications/p527/index.html) is a helpful starting point

This explains how quickly you can depreciate your property (generally 27.5 years) and your convention (mid-month, mid-quarter, or mid-year).

Here's how it works in practice.  If you spend $100,000 on a rental property you can depreciate approximately 3.5% of that purchase price or $3,500 the first year.  That means that your gross income is decreased by $3,500.  If you are in the 35% tax bracket, you have just saved $1,225 on your taxes.

When calculating your total return on your investment, your tax savings from depreciation will be an important factor.