The New Era of Real Estate Depreciation: What Investors Need to Know
I receive calls every week from buyers who want to purchase a short-term rental to accelerate depreciation and offset their W-2 income. This is not what the new rule is intended for, and most of the people I speak with do not qualify.
If you own investment property, depreciation has always been one of the most important tools available to you. With the recent passage of the One Big Beautiful Bill Act (OBBBA), the rules have shifted in ways that make depreciation planning even more valuable for property owners and investors.
The new law permanently restores 100 percent bonus depreciation for qualifying property placed in service after January 19, 2025. This allows investors to immediately expense certain components of a property such as appliances, HVAC systems, flooring, and landscaping, rather than waiting 27.5 or 39 years to recover those costs.
A cost segregation study is often the key to realizing these benefits. Instead of treating the entire building as one long-term asset, a cost segregation study breaks the property into categories with shorter useful lives. These shorter-life assets can then qualify for immediate expensing under the bonus depreciation rules.
It is important to note that the entire building cannot be depreciated in the first year. The structure itself must still follow the standard schedule of 27.5 years for residential property and 39 years for commercial property. The opportunity lies in identifying and accelerating deductions on the qualifying portions of the property.
Passive vs. Active Income
Depreciation frequently creates paper losses. Under the tax code, rental real estate is generally considered passive, which means those losses can only offset passive income. In order to apply those losses against W-2 wages or active business income, additional requirements must be met.
Real Estate Professional Status (REPS)
The IRS sets out two primary tests for qualifying as a real estate professional:
You must work more than 750 hours per year in real property trades or businesses, and
You must spend more than 50 percent of your total working time in those activities.
In addition, you must materially participate in the rental activity itself. Mortgage loan origination and lending activities do not count toward these requirements because the IRS classifies them as financial services rather than real estate trades.
Short-Term Rental Loophole
For those who do not qualify as real estate professionals, there is another possibility. If the average guest stay is seven days or less, or 30 days or less where significant services are provided, and the owner materially participates, the IRS may treat the activity as non-passive. This can allow depreciation losses to be used against other forms of income.
Entity Structure Considerations
Owning rental property through an LLC or other entity does not change the rules for depreciation. What it does provide is liability protection and an efficient ownership structure.
A single-member LLC is treated as disregarded for tax purposes and depreciation is reported on Schedule E of the owner’s return.
Multi-member LLCs and S corporations pass deductions through to the owners via Schedule K-1.
Why This Matters for Investors
With OBBBA, the ability to accelerate depreciation has expanded significantly. Investors now have more opportunity to improve cash flow in the early years of ownership, reduce taxable income, and enhance the overall return profile of a property.
The key is to understand how the passive activity rules interact with these new opportunities. Investors who actively manage their properties, qualify as real estate professionals, or structure short-term rental operations appropriately will be in the best position to capture the full benefit of the law.
Careful planning, documentation, and professional advice are essential. Depreciation is not simply a compliance requirement. It is a strategic tool that, used correctly, can create meaningful advantages in real estate investing.
