Bonus Depreciation Phase-Down: Strategy for Rental Property Investors
The Bonus Depreciation Phase-Down Schedule
The Tax Cuts and Jobs Act of 2017 introduced 100% bonus depreciation for qualifying assets placed in service after September 27, 2017. This provision allowed property owners to deduct the entire cost of short-lived assets (those identified through cost segregation as 5-year, 7-year, or 15-year property) in the first year. However, this benefit was always designed to phase down over time.
The phase-down schedule reduces the bonus depreciation rate by 20 percentage points each year. After the 100% rate expired, the rate has been declining annually. Each year that passes means a lower first-year deduction for the same property, making timing a critical factor in your cost segregation strategy.
How the Phase-Down Affects Your Cost Segregation Deduction
To illustrate the impact, consider a rental property where a cost segregation study identifies $120,000 in 5-year and 15-year property. At 100% bonus depreciation, the first-year deduction on those assets was $120,000. At 80%, it drops to $96,000. At 60%, it is $72,000. The remaining balance in each case is depreciated over the applicable recovery period using standard MACRS schedules.
For a high-income investor in the 37% tax bracket, the difference between 100% and 60% bonus depreciation on $120,000 in reclassified assets is about $17,760 in first-year tax savings. That is real money left on the table by waiting.
The total depreciation over the life of the asset remains the same regardless of the bonus depreciation rate. The difference is purely about timing. But in real estate investing, the time value of money matters enormously. A dollar saved today is worth more than a dollar saved five years from now.
Strategies to Maximize Benefits During the Phase-Down
The most important strategy is simple: act now rather than later. If you own a rental property and have not yet conducted a cost segregation study, every year you wait means a lower bonus depreciation rate on the reclassified assets. Ordering your study in the current tax year locks in the current rate for assets placed in service this year.
For investors planning to acquire new properties, timing the purchase to close before year-end ensures the property qualifies for the current year's bonus depreciation rate. Even if the property needs renovation, the placed-in-service date determines the applicable rate.
Investors with existing properties that have been depreciated under straight-line can still benefit from a look-back cost segregation study. The catch-up deduction from a look-back study is not subject to the bonus depreciation rate because it represents previously missed depreciation rather than new bonus depreciation. This means the look-back strategy retains its full value regardless of where the phase-down stands.
Legislative Uncertainty
There is ongoing discussion in Congress about potentially restoring or extending 100% bonus depreciation. However, relying on future legislation is not a sound tax strategy. Investors should plan based on current law and treat any potential extension as a bonus rather than a guarantee. The phase-down is the default trajectory, and acting under current rates protects you regardless of what happens legislatively.
Do Not Wait to Act
The bonus depreciation phase-down creates a clear incentive to move quickly. Whether you are purchasing a new property, building from the ground up, or conducting a look-back study on an existing property, the sooner you complete your cost segregation study, the more first-year deduction you capture. Stratum Cost Segregation delivers fast, engineering-based studies designed to maximize your benefits under current law. Get your free estimate today.