If you own and rent out commercial real estate and have been thinking about making improvements to the property, you should do so by Dec. 31, 2013.
Qualified leasehold property improvements made during 2013 can qualify for the following tax benefits:
- 15-year depreciation period (instead of 39 years).
- Section 179 deduction up to $250,000.
- 50 percent bonus depreciation.
Any one of these benefits would be great, but all three together enable commercial landlords (and lessees) to deduct a huge percentage of the cost of making improvements in a single year, rather than having to depreciate the entire cost over 39 years.
Example: Sam owns a small office building that he rents out. During 2013, he spends $500,000 to redesign the building’s interior office spaces. This includes installing new walls, doors, ceilings and floors.
Sam gets to deduct the following amounts in 2013:
- $250,000 Section 179 deduction.
- $125,000 50 percent bonus depreciation.
- $7,292 regular deprecation (based on 15-year depreciation period).
Sam’s total 2013 deduction is $382,292.
If Sam makes the same improvements in 2014 instead of 2013, he’ll be entitled only to regular 39-year depreciation — which amounts to $6,410 in 2013 and then $12,850 per year for the following 38 years.
To qualify for all these tax benefits in 2013, a commercial landlord or lessee must make improvements to “qualified leasehold improvement property.” Generally, this is any improvement to an interior part of a nonresidential building, if:
- the improvement is made under or according to a lease by the lessee (or any sublessee) or the lessor of that part of the building.
- that part of the building is to be occupied exclusively by the lessee (or any sublessee) of that part.
- the improvement is placed in service more than three years after the date the building was first placed in service by any person.
- the improvement is section 1250 property — that is, depreciable real property, including depreciable leaseholds.
Examples include improvements to:
- utilities.
- framing.
- walls.
- doors.
- windows.
- pipes and fittings.
- plumbing fixtures.
- fire protection systems.
- HVAC (heating, ventilation and air conditioning) systems.
- permanent interior finishes.
- permanent floor coverings.
- millwork and trim.
However, a qualified leasehold improvement does not include any improvement for:
- the enlargement of the building.
- any elevator or escalator.
- any structural component benefiting a common area.
- the internal structural framework of the building.
Stephen Fishman is a tax expert, attorney and author who has published 18 books, including “Working for Yourself: Law & Taxes for Contractors, Freelancers and Consultants,” “Deduct It,” “Working as an Independent Contractor,” and “Working with Independent Contractors.” He welcomes your questions for this weekly column.
