When you have expenses associated with your rental property, such as new appliances, rugs, or curtains, you may have to depreciate those expenses over a number of years. That means you may not be able to list them as an expense that reduces your income for the year. Instead, that expense may have to be spread out over a number of years based on the useful life of the item.
Section 179 gives you a way to instead deduct the entire expense of an item from your business or rental income in the year you buy an item (or put it in service).
There are several other ways you might be able to take the full value of expenses in one year. The ways to do that include bonus depreciation, the De Minimis Safe Harbor Election, or the Small Taxpayer Safe Harbor for Real Property. Each of these have various advantages and disadvantages and specific items that they can be used for.
Tax Law Changes and Confusion
There is a lot of confusion about whether you can use section 179 for rental property expenses, even among tax professionals. Many CPAs/EAs will tell you that it can’t. There are a couple of reasons why there is so much confusion regarding this topic.
Before the Tax Cuts and Jobs Act changes that happened in 2018, it used to be that section 179 could only be used for commercial property rentals. But after that change in 2018, you can now use it for residential rental properties as well. Some tax preparers aren’t aware of that change. But more often, confusion arises because the tax law on this subject uses unusual terminology, and interpreting it isn’t as clear as it should be. But the predominant conclusion among tax law experts on this subject is that you can use section 179 for residential rentals.
Items that Qualify
For residential real estate (residential rentals with an average stay of more than 30 days), Section 179 can’t be used for the land, building, or anything “permanently” attached to the land or buildings. So that means it can’t be used for things like fences, walkways, and pools, or components of the house like plumbing or electrical wiring. But it can be used for items like furniture, appliances, and curtains. You can also use it for items that aren’t located in your rental property, but are expenses related to running your rental property business. That includes things like office equipment and software.
Non-residential real estate (which includes residential rentals with an average stay of less than 30 days) can additionally use section 179 for “qualified improvement property” (QIP), which is most types of improvements to the interior of the building, and also roofs, HVAC systems, or fire protection / alarm / security systems also qualify. It must be an improvement to an existing building, so the improvement must be placed in service later than the building was. Interior improvements that don’t qualify are any improvements related to an enlargement of the building, any elevator, escalator, or structural components of the building.
Other Qualifications
There are a number of rules and qualification that you must meet to use 179:
- The deduction cannot create an overall business (active income) loss. This is the “business income limitation”. It prevents you from using section 179 to create a tax loss if your total net income from all businesses that you actively participate in, plus your W-2 income, is less than the section 179 deduction. But in that case the deduction can carry forward to offset future profit (but it might make more sense to just depreciate it instead).
- Section 179 says the property must be “for use in the active conduct of a trade or business” as defined by section 162 of the tax code, as described under regulations sections 1.179-4(a) and 1.179-2(c)(6). That means you must be actively involved in the management of the rental. This is a very low threshold, and most real estate owners do qualify. Even if you use a property manager, you can still qualify as long as you are involved in making decisions in the operation of the rental property as a business.
- The rental property must be located in the US.
- The property can be new or used (as long as it was newly purchased by you, so it’s new to you).
- You must have purchased the items (not gifted items).
- The rental use (business use) of the asset must be at least 50% in the year you claim the section 179 deduction, and must remain at 50% or more over the normal depreciation lifetime of the asset. See “Recapture from Personal Use” below.
- There is a limit on the amount you can deduct with 179, but it’s a high limit (over $1 million, increasing each year with inflation), so that is generally not an issue for the kinds of expenses we’re talking about here.
- There are additional limitations on the amount that may be deducted using section 179 for vehicles. It’s rare for a rental property owner to reach the 50% business use requirement to use section 179 for a car/truck, so section 179 is rarely used for vehicles for rental property owners.
Recapture from Personal Use
If the rental/business use of the asset is less than 50% in any future year during the normal depreciation lifetime of the asset, you must recapture a portion of the section 179 deduction you had claimed. In other words, if you later convert your rental to personal use, or if your personal use days of the rental exceed the number of rental days (at fair market rent), you would have to calculate a portion of the section 179 deduction you received as taxable income. See tax code § 179(d)(10), § 280F(b)(2), and Regs. § 1.179-1(e)).
This applies to the period of normal depreciation for the asset. For items like furniture and appliances, that would be 5 years. For items like a roof or HVAC system that were claimed using QIP for a short-term rental, that period of time would be 39 years.
Recapture on Sale
When you take any type of depreciation, including section 179, you will be subject to “recapture” if you later sell the property. That means it saves you taxes when you make use of the depreciation, but it adds to the amount of tax you pay when you sell the property. Most investors consider that to be an acceptable trade-off because they would rather have the tax savings sooner to make use of those funds now rather than later (the “time value of money”). You can also further delay the recapture if you 1031 exchange the property. Or you would avoid the recapture entirely if you hold the property until your death and it is inherited by your heirs.
