I'll Depreciate You!
February 4, 2017 4:48 PM Subscribe
For my rental business, I do quite a number of capital improvements every year. Major stuff like roofs and parking lots... minor stuff like new refrigerators and new surround tile in a bathroom.... every category you could imagine. I can't seem to get my CPA to come forward with a pro-active, definitive policy for depreciation methods, averaging methods and effective life. What do you use for your rental business? I can't seem to find anything that the IRS publishes that covers every type of capital improvement that I can imagine.
My CPAs preference is for me to 'not worry about depreciation!' since 'they'll handle it all at tax time' but I prefer to keep my own spreadsheets and estimate throughout the year where my capital investment and accumulating depreciation is for all assets. I looked back through the past few years and noticed that my CPA is using different depreciation methods for different types of assets (Double Declining Balance for things like Appliances and Flooring but Straight Line for the roof, water heaters and tile). I also see a variety of Averaging Methods (Mid-Month for most things... Full Month for others) - no real pattern. Finally, the effective life of my investments varies a bit... 27.5 for most stuff (makes sense), 15 for things like landscaping and as few as 5 for Appliances and flooring.
Is there a definitive guide out there that assigns Depreciation, Averaging method and effective life for all types of rental property improvements?
Thanks for the help!
My CPAs preference is for me to 'not worry about depreciation!' since 'they'll handle it all at tax time' but I prefer to keep my own spreadsheets and estimate throughout the year where my capital investment and accumulating depreciation is for all assets. I looked back through the past few years and noticed that my CPA is using different depreciation methods for different types of assets (Double Declining Balance for things like Appliances and Flooring but Straight Line for the roof, water heaters and tile). I also see a variety of Averaging Methods (Mid-Month for most things... Full Month for others) - no real pattern. Finally, the effective life of my investments varies a bit... 27.5 for most stuff (makes sense), 15 for things like landscaping and as few as 5 for Appliances and flooring.
Is there a definitive guide out there that assigns Depreciation, Averaging method and effective life for all types of rental property improvements?
Thanks for the help!
https://www.irs.gov/pub/irs-pdf/p946.pdf is the place to start.
posted by michaelh at 7:00 PM on February 4, 2017
posted by michaelh at 7:00 PM on February 4, 2017
If this is purely for your own enjoyment as it were, not to challenge your CPA and force them into lengthy discussions on why their rates are different* my suggestion would be as follows.
Take the analysis you have made and create some average rates for classes of assets and apply them in your spreadsheet. The reason why you're not finding a lot of clear guidance for all eventualities is that there is no correct answer. From an accounting perspective you're trying to predict the future. As any prediction is always going to be wrong you just pick an approach, apply it consistently, in the full knowledge that the approach will be 'wrong' for every single line on your fixed asset register but is an approximation of what is likely to be about right economically. The reason it is done at all is because it is the only way to match the expenditure to different periods, to avoid cash accounting and match the cost to the useful life.
That is also why in most countries the tax authorities ignore depreciation in financial statements. There is often a separate computation for tax allowable depreciation purely for the tax computation and return, giving rise to deferred tax in financial statements. For very small businesses the CPA will often just compute depreciation once a year and apply the relevant rates in lieu of an accounting policy driven charge.
So if you understand that this is a pure accounting construct, a number that is per definition wrong because it is an estimate and can at best approximate a spread of cost over the life of a typical asset based on very broad experience values, estimate away. *But let your CPA do their job and don't make it harder or at least expect to pay for any such discussions and additional work you create here
posted by koahiatamadl at 4:12 AM on February 5, 2017
Take the analysis you have made and create some average rates for classes of assets and apply them in your spreadsheet. The reason why you're not finding a lot of clear guidance for all eventualities is that there is no correct answer. From an accounting perspective you're trying to predict the future. As any prediction is always going to be wrong you just pick an approach, apply it consistently, in the full knowledge that the approach will be 'wrong' for every single line on your fixed asset register but is an approximation of what is likely to be about right economically. The reason it is done at all is because it is the only way to match the expenditure to different periods, to avoid cash accounting and match the cost to the useful life.
That is also why in most countries the tax authorities ignore depreciation in financial statements. There is often a separate computation for tax allowable depreciation purely for the tax computation and return, giving rise to deferred tax in financial statements. For very small businesses the CPA will often just compute depreciation once a year and apply the relevant rates in lieu of an accounting policy driven charge.
So if you understand that this is a pure accounting construct, a number that is per definition wrong because it is an estimate and can at best approximate a spread of cost over the life of a typical asset based on very broad experience values, estimate away. *But let your CPA do their job and don't make it harder or at least expect to pay for any such discussions and additional work you create here
posted by koahiatamadl at 4:12 AM on February 5, 2017
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If you insist on figuring out how depreciate things for yourself, expect to pay extra for your CPA to undo that every year and redo it properly for tax purposes. If you want depreciation numbers on a monthly or quarterly basis, you can probably find some CPA who will be willing to do this for you, but you will pay for it, and this is in part because the sort of software that can handle this instead of just calculating a year-end number is more expensive, and the IRS (or more often actually Congress) has been known to change depreciation rules retroactively at the end of the year, although not usually on things you're going to be dealing with. Yes, this is stupid and terrible for tax planning.
This sort of thing is precisely why you pay a CPA to do your taxes and you don't do them yourself--it's not that you can't theoretically learn but there's almost no way it's cost-effective for you to become a competent accountant on top of everything else you do. I'd suggest, if you're really big enough for these numbers to be material to your decision-making, that it's time to either get an in-house accountant and better accounting software with a fixed asset module, or move to a CPA firm who'll handle your books monthly and at least give you depreciation estimates.
posted by Sequence at 5:40 PM on February 4, 2017 [4 favorites]