There must be a reason though, cost, weight, etc. 

You have zero equity the moment you start, and zero equity when you get to the balloon payment.You are simply delaying the day of reckoning when you have to buy the property for a short term gain in cash flow and tax loss.

If the last two years of tax return show a net loss (because of depreciation etc), does anyone know how it impacts this calculation?

I can't be the first person that's done this for sure.I have an LLC setup with partner(s) with all the very specific terms in our operating agreement (Ownership Percentages, profit/loss, who's responsible for what initial costs, etc.) 

Losses?

It depends on overall profit levels (for example, a $50,000 salary on losses or profits less than $50,000 would not make sense).So here's what I do... 

Do you clients that self-insure keep a reserve in place in case of fire and total loss?

Sure, the risk went up, but the goal of the asset protections should be weighted with the hassle factor, cost, likelihood of losing your assets also, IMO.

While the taxes are a cost that has to be figured in, the risk of total or significant loss to the owner is a big motivating factor.

Take a look at what’s called a heat-loss calculation.