The Minnesota Real Estate Show Blog

Friday, August 18, 2017

Taxpayers incorrectly claim a deduction for depreciation

Taxpayers incorrectly claim a deduction for depreciation

Allocation of Land and Building

Nielsen, TC Summ. Op. 2017-31


Tax Law Background

Section 167(a) allows as a depreciation deduction a reasonable allowance for the exhaustion, wear, and tear of property used in a trade or business. The purpose of the deduction for depreciation is to allow the taxpayer to recover over the useful life of the property its cost or other basis.

The depreciation deduction for any tangible property generally is to be determined by using the applicable depreciation method, the applicable convention, and the applicable recovery period. Generally, depreciation is computed by using the cost of the property as its basis.

If depreciable property and non-depreciable property such as real property are bought for a lump sum, the cost must be apportioned between the land and the building (including improvements).

In making this allocation, the IRS regulation 1.167(a)-5 provides: In the case of the acquisition on or after March 1, 1913, of a combination of depreciable and non-depreciable property for a lump sum, as for example, buildings and land, the basis for depreciation cannot exceed an amount which bears the same proportion to the lump sum as the value of the depreciable property at the time of acquisition bears to the value of the entire property at that time. The relevant inquiry is the respective fair market values of the depreciable and non-depreciable property (land) at the time of acquisition.


Taxpayer lived in California and owned several rental properties. The taxpayer purchased 3 properties and included the total purchase price of each property in its depreciable basis. The applicable County assessor’s office showed values of the land ranging from 31% to 44%. The taxpayer agreed that there should be an allocation of land but also argued that the County assessor’s value was excessive.


The Tax Court concluded that the taxpayer incorrectly included non-depreciable land in the basis for the depreciation deduction for these rental properties. The taxpayer was unable to show any burden of proof as to the value of land so the County assessor’s value was allowed.



When purchasing real property; there needs to be a reasonable method when allocating the cost between buildings and land. Make sure to use a reasonable valuation method of allocation such as a qualified real estate appraisal or even perhaps the County tax records.

Greg I. Nelson, CPA, MBT; Ryan Kelly, CPA, MBT

Olsen Thielen, CPAs

Greg Nelson, CPA, MBT

Greg Nelson, Olsen - Thielen  CPA's

Adam Hartung, Financial Planner

Steve Stalock, Win Home Inspections

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