How to Calculate Depreciation on Rental Properties
When you own rental properties, understanding depreciation can make a big difference in how much you save on taxes and how you calculate your overall return.
This guide will walk you through how to calculate rental property depreciation, how it affects your tax deductions, what depreciation recapture means when you sell, and how the IRS determines the useful life of your property.
If you want to maximize your rental income while staying compliant with tax rules, this article is worth reading.
What Is Depreciation and Why Does It Matter for Rental Properties?
Depreciation is the process of spreading out the cost of a property over its useful life.
For rental properties, the IRS allows you to take a depreciation deduction each year because buildings naturally wear down over time, even though the land itself doesn’t depreciate.
This means you can recover part of your investment through annual deductions, reducing your taxable income and improving your bottom line.
How Does Rental Property Depreciation Work?
The IRS defines the depreciation of rental property as a tax benefit that allows you to deduct the cost of the structure, improvements, and certain assets over time.
When you place the property in service, you start claiming annual depreciation. For residential rental properties, the useful life is typically 27.5 years, while commercial properties use 39 years.
So, if your rental home costs $275,000 (excluding land), your yearly depreciation expense would be about $10,000.
What Types of Rental Properties Qualify for Depreciation?
Not all rental real estate qualifies automatically.
To qualify for depreciation, the property must:
- Be used as an income-producing rental property.
- Have a determinable useful life longer than one year.
- Be something you own and can depreciate (not leased).
If your property is placed in service for short-term rentals or you only use it occasionally, your depreciation deduction might be limited.
How to Calculate Depreciation on a Rental Property
To calculate depreciation, you need three numbers:
- Cost basis in the property – what you paid plus improvements.
- Land value – subtracted from total cost (since land doesn’t depreciate).
- Useful life – 27.5 years for residential rental properties under the general depreciation system (GDS).
Then use this formula:
Depreciation = (Cost Basis – Land Value) ÷ Useful Life
This is called the straight-line depreciation method — the most common depreciation method approved by the IRS.
What Is the Useful Life of Your Property According to the IRS?
The IRS sets standard rules for the useful life of the property:
- Residential rental property → 27.5 years
- Commercial property → 39 years
Under the alternative depreciation system (ADS), you might use 40 years instead if your property is placed in service outside the U.S. or for certain tax elections.
Knowing the useful life of your property ensures you calculate depreciation accurately and avoid issues on your tax return.
How Does Depreciation Affect Your Rental Income and Tax Deduction?
Each year you take depreciation, your rental income appears smaller for tax purposes.
That’s because depreciation is an important non-cash rental expense that reduces your taxable income without reducing your actual cash flow.
By taking a depreciation deduction, you lower your income tax burden and increase profits — one reason rental property owners love this benefit.
What Happens When You Sell the Property? Understanding Depreciation Recapture
When you sell the property, the IRS requires you to pay back part of the tax benefit you received from depreciation — this is known as depreciation recapture.
You’ll owe depreciation recapture tax on the amount of depreciation claimed over the years, typically taxed at up to 25%.
This ensures that investors don’t permanently avoid taxes by claiming depreciation and then selling for a profit later. Still, even with depreciation recapture, the long-term tax savings are substantial.
Can You Continue to Claim Depreciation After Improvements?
Yes, but you must adjust your basis in the property.
When you make improvements to the property (like adding a new roof or HVAC system), these increase your cost basis, and you start depreciating property placed in service again from that new basis.
The depreciation each year will depend on your updated amount of depreciation and remaining useful life.
When Does Depreciation Start and Stop?
Depreciation begins when you place the property in service — the day it’s ready to rent.
It continues until the property is sold, removed from service, or fully depreciated after its recovery period.
If you rent the property part of the year, you only take a prorated depreciation for the first year based on the number of months it was in service.
What Is the Difference Between the General and Alternative Depreciation Systems?
The general depreciation system (GDS) is used by most rental property owners, applying a 27.5-year recovery period for residential rental property.
The alternative depreciation system (ADS), on the other hand, uses longer recovery periods (like 40 years for property placed abroad) and is often required for certain investment properties or when filing under specific IRS rules.
Understanding which system to use is key to properly calculating the depreciation and avoiding errors in your tax return.
Why Depreciation Is an Important Consideration for Rental Property Owners
Depreciation is an important consideration for anyone earning rental income.
It lets you deduct rental expenses, lower your taxable income, and grow your portfolio faster. Over the years, rental property depreciation can save thousands in taxes, especially when managed correctly with help from a tax professional.
Even when the depreciation recapture tax comes into play, the lifetime savings often far outweigh the eventual cost.
Other Frequently Asked Questions
1. Can I claim a depreciation deduction if I just bought the property?
Yes — once you buy the property and place the property in service, you can claim a depreciation deduction starting that same year.
2. What if the property doesn’t generate rental income yet?
You can’t claim depreciation until the property is placed in service (ready and available for rent).
3. How does depreciation affect my income tax when I sell?
You’ll pay depreciation recapture tax, but your income tax savings during ownership usually make it worthwhile.
4. Should I use the straight-line method of depreciation?
Yes — for residential rental properties, the straight line method of depreciation is required under the general depreciation system.
5. How do I calculate depreciation if I convert a home to a rental?
Use the lower of its original cost or fair market value at the time it’s converted, then divide by its useful life (27.5 years for residential rental properties).
Key Takeaways
- Depreciation allows rental property owners to deduct a portion of their investment each year.
- The IRS defines a useful life of 27.5 years for residential rental properties.
- You must place the property in service before claiming depreciation.
- Depreciation recapture applies when you sell the property, but it doesn’t eliminate the long-term tax benefits.
- Using the general depreciation system and straight-line depreciation is the standard method for most investors.
- Always consult a tax professional to ensure compliance and to calculate depreciation correctly.
Understanding depreciation is just one piece of the puzzle when it comes to building a profitable rental portfolio. If you’re ready to take the next step and explore opportunities in one of Tennessee’s fastest-growing markets, check out our detailed guide: Investing in Clarksville: A Guide to Buying Rental Properties
In that blog, we break down what makes Clarksville an excellent place for real estate investors — including market trends, property types, and local insights that can help you make smarter investment decisions. It’s a must-read for anyone serious about growing long-term wealth through rental properties.
