BRRRR Investing Tax Questions

[Joe Roberts]

I have a few questions when it comes to calculating taxes on my BRRRR properties I am hoping someone can shed some light on.

1. I want to make sure from my research that I know how to properly arrive at the depreciable basis for a property. I have a property that I purchased for 101,000. Leaving closing costs aside (I have a question about them later), I then made 45,000 in renovations to the property and it later appraised at 199,000. The county assessor has placed a land value of $40,500 and an improvements value of $76,900, so the land % is 34.5% and improvements is 65.5%. Now for the refinance I had an appraisal done which placed the land value at $40,000. As I understand it, I now have the option of A) Multiplying 146,000 (purchase + capital improvements) by 65.5% for depreciable basis = 95,630 or B) Subtracting $40,000 (appraised land value) from 146,000 for depreciable basis = 106,000. Is this correct?

2. If I do a cost segregation study for the purposes of taking advantage of Bonus Depreciation (I am considering some of the algorithm-based DIY services) anything placed in the <20yr category and depreciated 100% is subtracted from my depreciable (27.5 year) basis. So if I can take $20,000 worth of 100% bonus depreciation, then the amount from the above example that I would depreciate over 27.5 years would be 86,000 (106,000-20,000). 

3. I know that I can add certain closing costs to the adjusted basis of my property, but in the case of a BRRRR, I am doing two closings in a year, so can I add all the costs which I incurred twice (e.g. recording fees) to the basis?

4. As long as I used that money from the refinance to further my business (i.e. purchase another property or renovate another property), which I did, I am allowed to deduct the interest payments correct?

5. Hard Money Loans and Private Loans. Can I deduct the interest and points I paid in Hard Money Loans or to Private Lenders for the purposes of BRRRR-ing a property?

6. HELOC. Can I deduct the interest I paid on a HELOC which I took out for the purpose of BRRRR-ing a property?

Anyone with any insight on any (or all) or these points is welcome! Thanks in advance!

[Michael Plaks]

@Joe Roberts

Excellent questions, sir! I will provide my answers, with two disclaimers: 
A. I don't know enough about your situation, not being your accountant, so treat everything as general info as opposed to tax advice suitable for you.
B. Some of my positions are debatable, and my colleagues are likely to disagree here and there. It does not necessarily mean that one of us is wrong (which of course is possible) but rather that there's no black-and-white answers.

1. There're several ways to calculate it, all acceptable. The IRS allows "any reasonable method" for land allocation. You can use either the county assessment or the 1st appraisal for the initial allocation. You can subtract either the stated $ value of the land or you can apply the ratio of land to improvements to your actual $101k cost. You don't need to allocate any of the $45k rehab to land and can either add it to the depreciable basis left from $101k or set it up as a separate asset.

Alternatively, you can make the land allocation off of the $146k improved basis, using either the county figures or the 2nd appraisal.  And then also either subtract the land value or apply a ratio. Enough options for you? :)

2. Again, you have options. You can subtract the cost segregated components from the total basis before land allocation, or you can allocate a portion of the total basis to land first, before applying cost seg results.

Land improvements (the 15-yr property) can be subtracted either from the improvements basis or from the land value. The latter is more beneficial because land is not depreciable. I believe there is no consensus on which is the right method.

3. For the second closing, all costs are usually treated as amortizable loan costs and are not added to depreciable basis.

4. Yes, with a twist. If you had a cash-out refi, the portion of interest corresponding to the cash-out is deducted against the business/property for which it was used. As long as you kept the moneys separate and traceable.

Example: you refi a $100k loan against Property A into a $150k loan and use $50k to rehab Property B. Then 2/3 of the interest is deductible against A and 1/3 against B.

5. There are two schools of thought on interest, and good luck getting us accountants to agree on this one.
A. All interest is always deductible.
B. HM interest occurred before placing the property in service and should be added to its basis.

Also two schools of thought on HM fees
A. HM fees occurred before placing the property in service and should be added to its basis.
B. The initial fees were amortizable loan costs that were refinanced and became deductible at the time of refinance.

6. Basically the same answer is #4. If separate and traceable to a specific property - yes.

I will try to get to your other 2 questions later.