How the Tax Cuts & Jobs Act of 2017 Affects Real Estate Investors: A Guide to Maximizing Depreciation Benefits

The Tax Cuts and Jobs Act of 2017 (TCJA) introduced significant changes to the U.S. tax code, especially for real estate investors. Among its most impactful provisions are those affecting depreciation strategies, making cost segregation more attractive than ever. In this article, we’ll discuss how the TCJA reshaped the tax landscape for property owners and how you can leverage it to optimize your investments.

Core Highlights

• The TCJA extended bonus depreciation to include used property acquired after September 27, 2017, allowing investors to immediately deduct a substantial portion of eligible asset costs, whether new or pre-owned.
• Corrections to the TCJA enabled 100% bonus depreciation for QIP with a 15-year recovery period, allowing full expensing of interior renovations, lighting, and HVAC improvements in the year they are placed in service.
• Pairing cost segregation with the TCJA’s bonus depreciation rules enables real estate investors to reclassify building components, accelerate deductions, and significantly improve cash flow.
• The 100% bonus depreciation begins phasing out in 2023, decreasing annually until it expires in 2027. Planning ahead is crucial to maximize deductions before the phase-out is complete.

Table of Contents

• Core Highlights
• Key Changes Under the Tax Cuts & Jobs Act of 2017
• Why Cost Segregation Is Essential Post-TCJA
• Additional Considerations for Real Estate Investors
• Phase-Out Timeline for 100% Bonus Depreciation
• What Assets Are Affected?
• Example of Sunset Provision Impact
• Conclusion

Key Changes Under the Tax Cuts & Jobs Act of 2017

The TCJA brought several tax benefits for property investors, including:

1. Bonus Depreciation Expansion
   Before the TCJA, bonus depreciation was limited to new property. The act extended this benefit to include used property acquired after September 27, 2017. This means that investors can now immediately deduct a significant portion of the cost of eligible assets, regardless of whether the property is new or pre-owned.
2. Qualified Improvement Property (QIP)
   The TCJA initially created confusion around Qualified Improvement Property, but subsequent corrections allowed 100% bonus depreciation for QIP with a 15-year recovery period. Improvements like interior renovations, lighting, or HVAC systems can be fully expensed in the year they are placed in service.
3. Section 179 Expensing
   The TCJA increased the Section 179 expensing limit to $1 million and expanded its applicability to improvements such as roofs, fire protection, and security systems. This provision further enhances the ability to write off qualifying expenses immediately.

Why Cost Segregation Is Essential Post-TCJA

Cost segregation allows real estate owners to reclassify components of a building into shorter depreciation schedules. This strategy pairs perfectly with the TCJA’s bonus depreciation rules, enabling investors to accelerate deductions and improve cash flow.

Here’s how it works:

• A detailed cost segregation study identifies building components eligible for 5, 7, or 15-year depreciation schedules.
• With bonus depreciation, these components can be written off entirely in the first year of service.
• Investors reap immediate tax savings while freeing up capital for reinvestment.

Additional Considerations for Real Estate Investors

While the TCJA offers tremendous benefits, it’s crucial to understand its nuances:

• Passive Activity Rules: Accelerated depreciation is most beneficial for active real estate investors who can fully offset income. Passive investors may face limitations but can carry forward unused deductions.
• Sunset Provisions: The 100% bonus depreciation begins to phase out in 2023, dropping by 20% annually until it expires in 2027. Planning ahead is essential to maximize benefits.

Phase-Out Timeline for 100% Bonus Depreciation

The phase-out schedule for 100% bonus depreciation is as follows:

• 2023: The 100% bonus depreciation remains in effect for property placed in service through December 31, 2022. Starting in 2023, the deduction begins to phase down:
• 2023: 80% bonus depreciation.
• 2024: 60% bonus depreciation.
• 2025: 40% bonus depreciation.
• 2026: 20% bonus depreciation.
• 2027 and beyond: The provision sunsets entirely, reverting to pre-TCJA rules where bonus depreciation may be limited or eliminated.

This gradual reduction means that properties placed in service in later years will benefit less from accelerated depreciation.

What Assets Are Affected?

Eligible property for bonus depreciation includes assets with a recovery period of 20 years or less. This includes:

• Furniture and fixtures.
• Landscaping and land improvements.
• Certain equipment and machinery.
• Qualified Improvement Property (QIP).

By leveraging cost segregation, you can reclassify components of your property into these shorter depreciation categories and take full advantage of the phasing-out bonus depreciation while it lasts.

Example of Sunset Provision Impact

Let’s consider a $1 million investment in a property with $300,000 in assets eligible for bonus depreciation:

• Placed in Service by December 31, 2022: $300,000 deduction in the first year (100% bonus).
• Placed in Service in 2023: $240,000 deduction in the first year (80% bonus).
• Placed in Service in 2024: $180,000 deduction in the first year (60% bonus).
• Placed in Service in 2025: $120,000 deduction in the first year (40% bonus).

The difference is significant. By placing the property in service earlier, you capture the full benefit of the higher deduction percentages, saving tens of thousands of dollars.

Conclusion

The Tax Cuts and Jobs Act of 2017 fundamentally reshaped depreciation rules for real estate investors. By combining its provisions with a strategic cost segregation study, you can significantly enhance your financial returns and reinvest in future opportunities. With the sunset provisions approaching, acting now ensures you capture the full benefit of these powerful tax incentives.

Need expert guidance? Contact us today to schedule your cost segregation study and maximize your TCJA benefits!