Can I use accelerated depreciation in a syndicate?

[Sonny Sach]

Hi,

Can accelerated depreciation be used in a syndicate to lower the tax burden?

Thanks,

Sonny

[Jack Martin]

@Sonny Sach the answer is yes, but the strategy will create varying results as some property types will produce more bonus depreciation than others. I am a MHP sponsor and we are actively using this strategy. As a real world example, last year our LPs received 100% passive losses for each dollar they invested in 2021.

When a property is purchased, a formal cost segregation study is performed wherein the value of the property is segregated into land (which is not depreciated), buildings (which are depreciated on a 39 or 27.5 year schedule), land improvements (15 year schedule), and other smaller items like personal property. When the bonus election is chosen, then 100% of the allocation to the land improvements can be taken as a passive loss in the year the property is purchased.

Since bonus depreciation is derived from the portion of the property's value with a shorter useful life than the buildings themselves, the property types that are the most favorable to generate bonus depreciation will be those with a high degree of "land improvements". Examples are mobile home parks, RV parks, and golf courses where the value of the property is not primarily derived from building(s) but rather from the improvements to the land. In a mobile home park or RV park, most of the value is in the underground infrastructure, roads, landscaping, amenities, pools, fencing, pads, utility pedestals, etc, while only a small portion of the value comes from a building, like a clubhouse or laundry facility. In a similar fashion, if you can imagine how much landscaping and underground infrastructure is in a golf course as compared to the clubhouse, that will give an indication of why an extremely high percentage of the property's value is allocated to the land improvements. Properly executed, an investment in these types of property can garner passive losses equal to or greater than the amount of capital invested.

If the value of the land improvements is greater than the capital invested in the property, then it is possible to achieve passive losses greater than 100%. In other words, in a typical purchase with 35% down and 65% debt, the value of the land improvements in a mobile home park will likely be greater than the 35% down. This means you may be able to achieve more than dollar-for-dollar passive losses, even after 2022 when the benefit begins to phase out, depending on the type of property purchased. 

Keep in mind that 100% bonus depreciation will be phased out by increments starting next year. The amount allowed this year is 100%, next year it will be reduced to 80%, then 60% in 2024, 40% in 2025, and 20% in 2026.

If you are seeking to offset qualified passive gains you have incurred (or gains you expect to incur) be aware that the gain AND the investment where bonus depreciation is being taken need to take place in the same calendar year. With that said, any allocation of passive losses you cannot use in that calendar year will carry over, so they can be used in subsequent years.

A few words of caution; make sure the sponsor is choosing the bonus election. Also, make sure they are performing a formal cost segregation study and not just "winging" it on their own. And make sure you vet the sponsor and understand the investment vehicle before you invest. Bonus depreciation is great, but when you combine that with an experienced sponsor and quality investment properties that produce cash flow and appreciation, that will be a winning formula.

Note: I am not a tax advisor or CPA. This perspective is solely from my own experience managing mobile home park funds and working with the tax experts around us. Here on BP, I would acknowledge a few cost segregation and bonus depreciation experts such as @Yonah Weiss and @Julio Gonzalez so feel free to connect with them to inquire about your situation. 

All the best,

Jack