Had a couple of conversations this past week as well as reviewed some depreciation schedules and more often than you would think, we see schedules that have the Airbnb or VRBO (STR) listed as a 27.5 year asset. It’s not. It’s considered more like commercial and gets treated as such. So, short-term rentals like Airbnbs and VRBOs are 39 year assets. Keep that in mind as you are forecasting your depreciation.
Should you study your short-term rental? Well, that depends. Are you going to hold it for at least a few more years? Is it profitable? If it’s not profitable, are you managing the property so that you might be able to utilize the depreciation to offset your other income? Be sure to discuss this with your tax advisor. We can always run the numbers for you but then you need to consult with your own advisors to see if it makes sense to do a study. No need for you to spend $2,500 – $5,500 or so to get a study done only to find out you really can’t use the depreciation. That said, we study a lot of Airbnbs and VRBOs. The cost is not a lot of money for the tax benefits you receive. Many owners see a 10x return on their investment in the study.
Reach out to me if you’d like to discuss. Feel free to also check out the other site I’m building over at Cost Seg Estimate.
Short-term rentals are great candidates for cost segregation. Whether your on the Airbnb, VRBO or some other short-term rental platform, these properties tend to do very well for their owners when it comes to utilizing this tax strategy.
Many of the short-term rentals that I see tend to be nicely finished on the inside and often will have decent land improvements like driveways, patios, outdoor kitchens, docks and extensive landscaping.
How might this work you ask? Let’s say you paid $800,000 for your property that you’ve converted into an Airbnb in 2023. We’ll say the land is $150,000. That leaves you with $650,000 as your basis. (BTW, this math works essentially the same if your Airbnb was 2x as much or 1/2 as much). Of that $650,000, let’s say we identify 20% as 5 year property and 5% as 15 year class life property. That means you can accelerate 25% of the $650,000 or $162,500. In 2023, you can take 80% of that as Bonus Depreciation so you could take a deduction of $130,000. If you made $150,000 in 2023 as your Airbnb income, you could knock that down by $130,000. If you’re at the 32% tax rate, that’s a savings of over $40,000 in income tax savings. A study like this might cost you between $3,500 – $4,000. That’s an expense to you so it nets down to $2,720. Your ROI is about 15:1 or 1,500%.
Owners should always consult with their tax professionals to see if this makes sense for you to do. Feel free to reach out if you’d like to discuss. I’m happy to run a no cost, no obligation analysis / estimate for you. Let’s connect on LinkedIn or find my on Twitter @costsegbuilding.
Here is a strategy I’m seeing for married couples where one spouse has a big W-2 income.
Please consult with your own tax advisor. I cannot give tax advice. I’m only sharing what I’m seeing some other real estate investors do.
Want to take advantage of cost segregation and minimize your taxes but you’re not a full time real estate pro or investor? Perhaps you’re a doctor, executive, a sales pro who has a big W-2 income who wants to get into real estate investing. Some who fit this category are purchasing STRs (Airbnbs, VRBOs) and managing them themselves. Generally speaking this would require that one’s spouse does the managing and not the person with the big W-2 income. The IRS categorizes the STRs differently from long term rentals (i.e. single family rentals, duplexes, apartments etc). The STR is considered an active trade or business. If you meet the IRS criteria as being actively involved in the property, you may be able to utilize the benefits of cost segregation and the large depreciation expense it generates to offset tax liability for the W-2 income. BTW, you don’t have to be making multiple six figures to make this work. This strategy could work for someone making less money. When I see it used, it’s often the big W-2 income earners who are doing this.
I was recently at an event where a CPA explained this strategy to a room full of real estate investors. It was discussed that they might consider converting a rental home to an STR to be able to take advantage of this.
Let’s say you buy an Airbnb for $425,000 – purchase price plus any improvements, furniture etc. The land is worth 20% ($85,000). That is deducted that since land can’t be depreciated which leaves a cost or basis of $340,000 which can be cost segregated. Depending upon the property, the study results would likely show that 20-25% of the $340,000 basis could be accelerated. That is $70,000 +/- in depreciation expense that could be used to lower you and your spouse’s overall income by $70k. If your tax rate is 32%, that’s over $20,000 in income tax savings. The study might cost $2,500 +/- which is a deduction. This is a 10x return – 1,000% return on your investment. If you were to scale this up to say $1,000,000+ Airbnb, just multiply these tax savings by 2-3x and you can see why people do this.
If you are one of those couples who has a big income and wants to use real estate to help reduce your tax liability but neither of you are a full time real estate pro, then discuss this strategy with your tax advisor. If you fit this description and you have a short-term rental, reach out to me for a no cost, no obligation estimate. You’ll then have solid information to go back to your tax advisor to determine if doing a cost segregation study might end up saving you a small fortune on your income taxes.
