Grouping Activities for Depreciation

Did you know that you can group activities for real estate depreciation? Let’s expound on this…

Common Situation

  • Taxpayer owns Building and Business
  • Taxpayer runs business out of his/her building
  • Building and business are held in separate entities
  • Known as “Self Rental”

Issue with Common Situation

  • Income and losses from the building can only offset income and losses generated in the building entity
  • Only income in building entity is rent
  • All other income is made in business entity
  • Cost segregation (accelerated depreciation) is applied to building entity
  • Depreciation deductions only offset rent
  • Cannot offset income in business entity

Solution: Grouping of Activities: Reg §1.469

  • Activity of the rental entity and the business entity are grouped
  • Allows gains and losses from each to offset one another
  • Allows client to take full advantage of Cost Segregation Study
  • Deductions from building can offset income in business

Qualifications for Grouping

  1. One activity is insubstantial in relation to the other
  2. Grouping activities together results in an appropriate economic unit

One Activity is Insubstantial in Relation to the Other

Insubstantial is not clearly defined, but there are some guidelines:

  • Rental activity is dependent on the trade or business activity
  • Number of employees in the rental and trade or business activity
  • Gross receipts of rental and trade or business activity –80/20
  • Net income of rental and trade or business activity –80/20
  • Value of assets used in rental and trade or business activity

Grouping Activities Together Results in an Appropriate Economic Unit

Five Factors –do not have to meet all of them

  1. Similarities and differences in types of businesses
  2. Extent of common control
  3. Extent of common ownership
  4. Geographical location
  5. Interdependencies between the activities

Generally need to Group in First Year

  • Once activities are grouped or kept separate, this has to remain consistent in future tax years
  • Can only change grouping if original grouping was clearly inappropriate or a material change occurred that makes original grouping clearly inappropriate
  • Grouping election should be made in first year building is placed in service

How is it Applied?

  • Taxpayer (other than a partnership or S corporation) must include a statement with the original income tax return that states grouped activities and an explanation as to why they can be grouped
  • Partnerships & S Corps –no statement is required, must follow instructions for grouping activities on Form 1065 (Partnership Return) and Form 1120S (S Corp Return)

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