Real Estate Tax Calc
The fundamental rule: land is not depreciable
Land cannot be depreciated under U.S. tax law. MACRS — the Modified Accelerated Cost Recovery System — provides depreciation deductions only for assets with a determinable useful life, and land has none. It does not wear out, deteriorate, or become obsolete over time the way buildings, equipment, and improvements do. Under IRC Section 168 and the MACRS regulations, the depreciable basis of a property specifically excludes the portion allocated to land, even when the land and building are purchased together as a single parcel.
This rule is absolute: there is no election to depreciate land, no exception for contaminated land, and no special provision for land with declining value due to market conditions. If you paid $400,000 for a rental property that includes $80,000 of land value and $320,000 of building value, you depreciate only the $320,000 — the $80,000 land portion sits at cost indefinitely until you sell. This distinction makes land-building allocation one of the most important tax-basis decisions a real estate investor makes at acquisition.
How to allocate purchase price between land and building
At purchase, the total consideration paid for a property must be allocated between depreciable improvements and non-depreciable land. The IRS requires that this allocation reflect the relative fair market values of the land and improvements at the time of purchase. Three methods are commonly used: (1) the county assessor's allocation, which divides assessed value between land and improvements and can serve as a reasonable proxy for fair market value in most jurisdictions; (2) a qualified appraisal at the time of purchase, which is the most defensible method for high-value properties; and (3) an allocation stated in the purchase contract, which is binding if negotiated at arm's length.
The county assessor method is most commonly used because the data is readily available and the allocation is based on a government valuation. To apply it: divide the assessed land value by the total assessed value to get the land percentage, then multiply by the purchase price. Example: assessed value is $280,000 land / $720,000 improvements = 28% land. Purchase price of $500,000 × 28% = $140,000 land basis, $360,000 depreciable building basis. Keep the county assessment records from the year of purchase, since assessed values change over time and you want the allocation ratio at acquisition, not at the time of sale.
Land improvements: what can be depreciated
While bare land cannot be depreciated, many items installed on land — called land improvements — are depreciable under MACRS with a 15-year recovery period. Land improvements that qualify include parking lots, fencing, landscaping (other than trees and shrubs planted in the ground), sidewalks and driveways, retaining walls, outdoor lighting, and water and sewer systems stubbed to the property boundary.
The distinction between land and land improvements matters most in cost segregation studies, where a reclassification engineer identifies assets eligible for accelerated depreciation. Trees and shrubs planted in the ground are treated as part of the non-depreciable land in most cases. Parking lots on land you own are 15-year MACRS property eligible for bonus depreciation, which is one reason commercial property owners often benefit from cost segregation — a $200,000 parking lot that might initially be lumped into non-depreciable land can generate immediate bonus depreciation deductions when properly identified.
What happens to land basis when you sell a rental property
When you sell a rental property, the land basis — unchanged from acquisition — is subtracted from the portion of the sale price allocated to land to compute the land gain or loss. Because land was never depreciated, there is no depreciation recapture on the land portion of the sale. The gain from land is pure Section 1231 long-term capital gain (assuming the property was held more than a year and used in a trade or business or for the production of income), taxed at the preferential long-term capital gains rate of 0%, 15%, or 20% depending on your income.
Allocating the sale price between land and building at sale follows the same logic as the purchase allocation: relative fair market values at the time of sale. If the county assessor ratio has changed significantly since purchase (common in markets where land appreciation outpaced improvements), you may want a current-year assessor ratio to allocate the sale price. Correctly segregating land at sale avoids overstating the building gain subject to recapture, which could cost you at the 25% unrecaptured Section 1250 rate instead of the 15% or 20% capital gains rate.
Land in a 1031 exchange: basis carryover rules
When a rental property with both land and building is exchanged in a 1031 like-kind exchange, the carryover basis rules apply to both components. The exchange defers gain on both the land and building portions simultaneously — the land basis and building basis from the relinquished property carry forward into the replacement property, with adjustments for boot paid or received.
The practical complication: the replacement property has its own land-building allocation. The carryover basis from the exchange is a single number which must then be allocated between the new land and the new building based on the relative FMV of those components at the time of the exchange. The deferred gain embedded in the carryover basis is partly attributable to the land (where it remains deferred as capital gain until the replacement property is eventually sold) and partly to the building (where it remains as embedded depreciation recapture potential). Keeping clear records of the land-building allocation at each exchange is important for accurate computation of eventual recapture on a fully taxable disposition.
Contaminated land and remediation costs
Environmental contamination does not entitle a landowner to depreciate land or claim an ordinary loss for the decline in market value — land remains non-depreciable regardless of its condition. However, costs incurred to remediate contaminated land may be deductible or capitalizable depending on whether the remediation restores the land to its pre-contamination condition or improves it beyond that point.
Under the INDOPCO capitalization principles and the Chapter 263(a) repair regulations, environmental remediation that merely restores contaminated land to its previous condition is generally deductible as an ordinary and necessary business expense under IRC Section 162. Remediation that adapts the land to a new use, extends its useful life, or improves it beyond its pre-contamination state must be capitalized. The IRS addressed these issues in Rev. Rul. 94-38. Additionally, Section 198 provides an election to expense qualified environmental remediation expenditures in the year paid rather than capitalizing, though its current availability and scope should be confirmed with a tax professional.
Vacant land held for investment: tax treatment
Vacant land held as an investment — not in connection with a rental activity or a trade or business — has a different tax profile than land under a rental building. Expenses related to holding vacant land (property taxes, carrying costs, maintenance) are generally not deductible as business expenses or rental losses; they may only be added to basis as carrying costs under IRC Section 266, which is an election that must be made annually.
The gain on sale of investment land held more than one year is long-term capital gain on Schedule D, not Section 1231 gain, because Section 1231 requires that the property be used in a trade or business or for the production of income. Vacant land that you simply hold and wait for appreciation is investment property, not business property, and its gain flows to the capital gain schedule rather than through Form 4797. If you hold land adjacent to a rental building and eventually sell both together, careful allocation of the sale price between the rentable improved parcel and the vacant investment parcel may allow different tax treatment for each portion — but only with a well-supported allocation.
Common mistakes in land-building allocation
Land allocation errors are among the most frequently adjusted items in rental property audits. The most common mistake is failing to allocate any value to land and depreciating the entire purchase price — this overstates annual deductions and, when discovered, produces recapture and penalties. The second is using a stale or wrong-year assessor ratio; the correct ratio is the one in effect at the time of purchase, not the current year, because assessed land and improvement values shift over time.
A third mistake is allocating too little to land to maximize depreciation without support. While investors naturally want a smaller land percentage (more depreciable basis), an aggressive allocation that is not backed by assessor data, an appraisal, or arm's-length contract terms invites adjustment. A defensible middle course is to use the county assessor ratio and keep the assessment records from the purchase year. Finally, do not forget to carve out land improvements (15-year property) from the non-depreciable land — lumping a parking lot or fencing into bare land forfeits legitimate deductions.
Allocating land for condos, co-ops, and high-rise units
Owners of condominium and co-op rentals sometimes assume there is no land to allocate because they own a unit in the air, not a plot of ground. That is incorrect: a condominium owner holds an undivided interest in the common elements, which include the land under the building, so a portion of the purchase price is still non-depreciable land. For a high-rise condominium the land fraction is often smaller than for a single-family home — because the land is shared among many units — but it is rarely zero.
The practical approach for a condo is the same as for a house: use the county assessor's allocation between land and improvements for that specific unit, which already reflects the unit's small share of the underlying parcel. For a housing cooperative, the tenant-stockholder's depreciation is based on their proportionate share of the cooperative's depreciable basis in the building, again excluding land. When no clear assessor breakdown exists for a unit, a reasonable, documented estimate based on comparable land values in the area is preferable to allocating nothing to land.
Frequently asked questions
Can you depreciate land?
No. Land has an indefinite useful life and cannot be depreciated under U.S. tax law. Only buildings, improvements, and equipment with determinable useful lives are depreciable.
How do I find the land value for depreciation purposes?
The most common method is to use the county tax assessor's allocation between land and improvements at the time of purchase, then apply that percentage to your purchase price. An appraisal provides a more precise and defensible allocation for high-value properties.
Is a parking lot depreciated?
Yes — a parking lot is a land improvement with a 15-year MACRS recovery period, not part of non-depreciable land, even though it sits on land. It may also qualify for bonus depreciation.
What happens to land basis when I sell a rental?
The original land basis (never reduced for depreciation) is subtracted from the land portion of the sale price to compute the land gain, which is pure Section 1231 long-term capital gain with no depreciation recapture.
Can I depreciate land that has declined in value?
No. Depreciation is not available for market value declines in land. Only property with a determinable useful life is depreciable, and market value losses on land are not recognized until sale.
What is the MACRS depreciation life for land?
Land has no MACRS depreciation life because it cannot be depreciated. The building portion is 27.5 years (residential rental) or 39 years (commercial). Land improvements are 15 years.
What land-to-building ratio does the IRS expect?
There is no fixed ratio — the IRS requires an allocation based on relative fair market values at purchase. Most investors use the county assessor's land-to-improvement split; a qualified appraisal gives a more defensible figure for high-value properties.
Can I change my land allocation after I've started depreciating?
Changing an established allocation is generally a change in accounting method that requires filing Form 3115, not simply adjusting the current return. Set a defensible allocation at acquisition and keep the supporting records to avoid needing a change later.
Do condos have land to allocate for depreciation?
Yes. A condominium owner holds an undivided interest in the common elements, including the land, so part of the purchase price is non-depreciable land — usually a smaller share than a single-family home, but rarely zero.
Sources
Educational information and estimates only. Not tax advice. Tax rules change and vary by situation; consult a qualified tax professional before acting.