I am looking at buying a property which I thought would be cash flow positive. However, I've been told that after depreciation, it'll be slightly negative. What I don't understand is why this is the case. I know the building depreciates, but as a whole, properties tend to appreciate in value. Therefore I don't understand how depreciation is a cost. In fact, I thought depreciation is a 'good thing' for investors, because it can be claimed as a deduction?
Depreciation as a cost
- Thread starter Billy bob
- Start date
Billy, you've either misunderstood what your mate was telling you, or he's a dill.
Depreciation is compensation for wear and tear on the property.
It's a tax deduction that some property investors elect to claim. Other property related tax deductions include: interest on a loan, property management fees, water authority fees, council rates etc.
Depreciation is compensation for wear and tear on the property.
It's a tax deduction that some property investors elect to claim. Other property related tax deductions include: interest on a loan, property management fees, water authority fees, council rates etc.
OK say the property is $2000 a year tax flow positive. Then you have to pay tax on the $2000.
But if your depreciation is $3000 then you get a tax deduction of $1000 even though you actually didn't pay anything.
So on paper it looks tax flow negative but it's not costing you anything.
So that's why it is beneficial to you.
But if your depreciation is $3000 then you get a tax deduction of $1000 even though you actually didn't pay anything.
So on paper it looks tax flow negative but it's not costing you anything.
So that's why it is beneficial to you.
Depreciation and loan payments frequently changes what is a positive cashflow into a paper loss for tax purposes. Investors love +cashflow. It means they arent funding a gap. +cashflow and -tax profit is highly desired.
Similar issue occurs with loan payts too.
1) Interest only loan. The tax deduction = the paymnet to bank. No cashflow difference
2) P&I loan repayts. Only the interest element is deductible. Each month part of the laon is reducing debt and non-deductible. So cashflows may be slightly negative and tax return may actually be slightly positive.
I'm a big believer in all investors drawing up an excel table of monthly cashflows for each property. It will look like the profit & loss for the property except for things like loan and depreciation etc.
Similar issue occurs with loan payts too.
1) Interest only loan. The tax deduction = the paymnet to bank. No cashflow difference
2) P&I loan repayts. Only the interest element is deductible. Each month part of the laon is reducing debt and non-deductible. So cashflows may be slightly negative and tax return may actually be slightly positive.
I'm a big believer in all investors drawing up an excel table of monthly cashflows for each property. It will look like the profit & loss for the property except for things like loan and depreciation etc.
It's a good question and shows that you understand most of the logic, to put it simply: buildings depreciate while land (generally) appreciates. You can claim the depreciation on the building throughout the life of your ownership but this doesn't mean you get out of paying tax on the appreciation of the land, it's just calculated at a later stage (when you sell the property)
