Getting audited by the IRS
Posted on June 1, 2007
Filed Under Real Estate
I always get anxious when walking through a security checkpoint, expecting the metal detector to beep even though I’ve emptied my pockets and removed every possible metallic object from my body. I get that same anxiousness whenever I see a letter from the IRS. In 2005, my feeling was justified. My tax return was being examined.
According to the IRS, my real estate holdings, which consisted entirely of condos, were not properly depreciated. Under tax law, residential property can be depreciated over 27.5 years using straight line deprecation. However, because land does not deteriorate with time, land value must be excluded from depreciation expense. In what I believed was consistent with the law, I depreciated the full cost of the condo because I did not own any land. But the IRS maintained that I did own a share of the land the building sat on, and that 10% was the standard number they used when determining land value.
We discussed this back and forth. I showed them documents that reflected my percentage of ownership in common elements (used to calculate monthly assessments) which showed that I owned less than 1% of the common elements, which includes land. An attorney advised me that 0% for land was appropriate. Finally, the IRS and I agreed that we would use 5% for land value.
By lowering my depreciation expense, my income, and therefore tax burden, increased. I could have contested the issue in court. But in the end, I paid the additional amount in taxes rather than pay attorney’s fees. By fighting the power, I had already saved on my taxes by using a lower land value percentage (5%) than the standard (10%). Not to mention that I only paid additional taxes for one year, while I depreciated in the same manner (using 0% land value) in the previous three years. From here on out, I’ll use 5%, while the rest of America probably uses 10%.
Comments
Leave a Reply