Depreciation in plain terms
The tax code assumes buildings wear out, so owners of rental property can deduct part of the building’s cost each year even while the property may be holding or gaining value. Land is not depreciable, so the first step is splitting the purchase price between land and improvements. Residential rental buildings are generally depreciated on a straight-line basis over 27.5 years, which means roughly 1/27.5 of the depreciable basis is deducted each full year.
Depreciation is a non-cash expense. The property can produce positive cash flow while depreciation creates a smaller taxable income, or even a tax loss, on paper. In a syndication, the entity claims the depreciation and passes each investor’s share through on a Schedule K-1.
Cost segregation studies
Not everything in an apartment building has to be depreciated over 27.5 years. A cost segregation study, usually prepared by engineers or specialized tax professionals, identifies components that qualify for shorter lives. Appliances, carpeting, cabinetry, some electrical and plumbing serving specific equipment, and similar personal property may be classed as 5- or 7-year property. Land improvements such as parking lots, sidewalks, fencing and landscaping are generally 15-year property.
Shifting cost into these shorter categories moves deductions earlier in the hold. It does not increase total depreciation over the life of the property; it changes the timing. Whether a study makes sense depends on the property’s size, purchase price and the owners’ circumstances, and the study must be well supported to hold up if examined.
Bonus depreciation, then and now
Bonus depreciation lets owners deduct a percentage of the cost of qualifying property, generally property with a recovery period of 20 years or less, in the year it is placed in service. The 27.5-year building itself does not qualify, but the shorter-life components identified in a cost segregation study generally can. That is why the two are often discussed together.
The bonus rate has changed several times. The 2017 tax law allowed 100% bonus depreciation for qualifying property, then scheduled it to phase down by 20 percentage points a year starting in 2023. The federal tax law enacted in July 2025, commonly called the One Big Beautiful Bill Act, restored 100% bonus depreciation on a permanent basis for qualifying property acquired after January 19, 2025. Property acquired before that date generally remains under the older phase-down schedule, and taxpayers can elect a lower rate in certain cases. The IRS has issued implementing guidance, and many states do not follow federal bonus depreciation, so state treatment can differ.
Passive activity loss rules
Paper losses are only useful if you can deduct them, and for most passive investors the passive activity rules decide that. Rental activities are generally treated as passive, and passive losses can offset only passive income, such as income from other rental properties or other passive investments. They generally cannot offset wages, business income you actively earn, interest or dividends.
Losses you cannot use are not lost. They are suspended and carried forward to future years, where they can offset future passive income, and any remaining suspended losses from an activity are generally released when you dispose of your entire interest in a fully taxable transaction. Other limits, including your tax basis and at-risk amount, also apply before a loss is deductible. The special allowance that lets some owners deduct up to $25,000 of rental losses against other income requires active participation, which limited partners generally do not have.
Real estate professional status, at a high level
Taxpayers who qualify as real estate professionals may be able to treat rental activities as non-passive. The test generally requires that more than half of your working time and more than 750 hours during the year be spent in real property trades or businesses in which you materially participate, and you must also materially participate in the rental activities themselves. It is fact-intensive, requires careful records and is closely examined. Holding a limited partnership interest in a syndication usually makes material participation in that activity difficult to show, so passive investors should not assume this status applies. A CPA can tell you whether it is realistic for you.
What happens when the property sells
Depreciation reduces your basis, so it increases the gain when the property is sold. The portion of gain attributable to depreciation on the building is generally taxed at a maximum federal rate of 25%, often called unrecaptured Section 1250 gain. Depreciation on shorter-lived personal property identified through cost segregation is generally recaptured as ordinary income. Remaining gain is typically taxed at long-term capital gains rates of 0%, 15% or 20% federally, and higher earners may owe the 3.8% net investment income tax. State taxes may apply as well.
The practical result is that depreciation often defers tax rather than eliminating it. Deferral still has value, and suspended passive losses released at sale can help offset the gain, but you should expect a tax bill in the year of sale and plan for it with your CPA.