← Money Rehab with Nicole Lapin
Money Rehab with Nicole Lapin
Can Airbnb Hosting Really Make Your Taxable Income $0? | Bonus Depreciation Explained
00:12:29
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- [00:00]
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- [01:18]
Nicole Lapman
I recently had Chris Appleton on my show and of course I had to.
- [01:22]
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- [03:20]
Nicole Lapman
I'm Nicole Lapman, the only financial expert you don't need a dictionary to understand it's time for some money rehab. So someone DM'd me a post on Instagram recently that said this is how smart couples buy Airbnb properties to build cash flow and legally pay $0 in taxes. And wow, does that sound sexy. But is it real or is it more just fin talk? Fugazi Today I'm going to be breaking it down, which means unpacking a topic that I've been a lot of questions about lately, which is bonus depreciation. I actually had somebody on the POD recently talking about how buying a jet would be practically free thanks to bonus depreciation. That is not exactly how this works, so I want to make sure to clear up the confusion. Depreciation is a tax benefit that lets business owners deduct the cost of big ticket items like equipment, cars, buildings over time, which helps them recover the expenses of those assets that lose value as they wear out or they become outdated as long as those assets are used for business and not personal use. The IRS lets you write off depreciation because it recognizes that business assets lose value over time as they're used, which is kind of cool of the irs. Thank you so much. It's also a way to reflect the real cost of doing business, not just in the year that you spend the money, but over the years that that asset helps you make money. Typically, writing off depreciation has to happen over time because most Business assets like machinery or cars or office furniture don't lose all of their value the moment you buy them. Instead, they gradually wear out, right? Or become outdated or lo usefulness. Over several years, the IRS lets you match the slow decline in value with tax deductions that are spread out over the asset's useful life. Rather than taking one big deduction upfront, it's all about reflecting the real ongoing cost of using the asset in your business. So to visualize it, let's say you buy a thirty thousand dollar delivery van for your business. Since you're using it for business, not personal errands or whatever, you can depreciate the van over its useful light, which the IRS generally sets at five years for vehicles like vans. That means you could deduct a portion of that 30 grand each year on your taxes, helping you offset your income and reduce your tax bill. During President Trump's first administration, he passed legislation called the Tax Cuts and Jobs act, which gave businesses 100% bonus depreciation, which meant that the business could write off the full cost of the qualifying asset in the year that they placed it in service, instead of writing it out over the course of years. This might not sound like a big deal, but it certainly is why it's all about opportunity cost, or in this case, opportunity Reddit. If you can write off, say $500,000 for a piece of machinery upfront instead of over 10 years, that is a major, major cash flow booster. That means you get to keep more of that money and you can reinvest it in your business. And the earlier you can reinvest it, the better. Under the Tax Cuts and Jobs act, businesses could fully expense 100% of qualifying property acquired and placed in service after September 27th of 2017. But starting in 2023, that percentage started phasing out. In 2023, the turned into 80%. In 2024 it went down to 60%, and in 2025 it was going to be 40%. But then came the big beautiful bill, and it changed the game. The big beautiful bill not only extended bonus depreciation, it permanently restored it to 100%. So let's go back to the idea that bonus depreciation makes things free. We can't forget here that bonus depreciation is only for business expenses. So you can't use this to write off your home, let's say, or your personal car that you use to drive yourself to dinner. Another big qualifier is that the asset you're writing off has to be something that the IRS says will wear out or lose value within 20 years. So that rules out things like land, which never really wears out. But buildings can qualify. Stuff can qualify in terms of eligibility, there are some things that are more straightforward business related equipment, machinery, furniture, fixtures, cars, computer software, some improvements for property like interior upgrades to commercial buildings, some other more obscure things and properties that you own phone that you are renting with some caveats, this brings us back to the Instagram post that I got sent. I'm going to use that exact same example that I was DM'd and tell you what is and isn't true. And I'm also going to use the exact same numbers in the post so that we can all follow along and fact check. And if you're listening to this episode rather than watching it, I would highly recommend switching over to the video version of the episode that you can find on YouTube or on Spotify because I'm going to be putting all of the numbers up on the screen, which I do think makes the money trail much easier to find. Follow all right, this creator said that he had $100,000 saved and that he and his wife bought a $500,000 property with 10% down. So that's $50,000 for the down payment. He then says with 100% bonus depreciation, he was able to deduct 25% of the purchase price of the home in the first year, or 125K. Here's where he said it got interesting. He said that he and his wife were making a combined 100k a year from their W2 jobs and within the first year of having this Airbnb they made an additional so that's a grand total of $120,000 in income. And now he's been able to deduct $125,000 depreciation from his Airbnb, which leaves him and his wife with zero taxable income. Sounds pretty sweet, right? But it's not that simple. Remember when I said that there are some caveats when it comes to rental properties? The IRS doesn't let you take bonus depreciation on the full value of the building itself. That's because real estate, specifically residential buildings, has to be depreciated slowly over 27.5 years. So no, no big upfront tax break on the entire 500k. But there is a smart workaround that a lot of real estate investors use, and it's called a Cost Segregation Study. Here's how it works. A team of engineers and tax pros go through your Building, they break it down into components like different asset classes, things like lighting, flooring, H vac systems, whatever. Some of those components can be reclassified as 5, 7 or 15 year property instead of 27.5 years. Those shorter lived assets now qualify for bonus depreciation. And thanks to the big beautiful bill, that means 100% write offs again. Now, can you do a cost segregation study yourself without tax experts? Technically, maybe, but practically speaking, I don't think you really should. These studies are complicated and they also need to be backed by engineering based reports that stand up to IRS scrutiny. That means that you're going to want to hire a specialist here, usually a firm with experience in both tax and construction. So yes, that is an added expense, but if you're trying to make this money move, it definitely is worth it. So back to the 500k home. After the cost segregation study, you're probably not going to be able to write off the entire 500k, but you'll probably be able to write off a chunk of it. In the Instagram example, he says he was able to deduct 25% within the first year. So maybe he was talking about a cost segregation study. Maybe he was confused, I do not know. But one thing he definitely would have had an easier time with writing off is the $50,000 he he used toward buying new furniture and fixtures for the house. This guy said he had zero taxable income. And yeah, if he could write off 125k in a year he made 120k, then definitely he did. But that doesn't necessarily mean he made money. You might have heard me say this before on the show, that I don't think people should let the tax tail wag the dog. I say that to people who spend money to get a tax break. People don't realize that that doesn't automatically save them money. You still have to do the math. If what you SA in taxes outweighs what you've spent, then yes, you've made a good money move. But if you're spending more than you save in taxes, then. Come on, that does not make any sense. So let's see if our Instagram bro made a good money move. In Los Angeles, where I live, if you make $120,000 and you're married, you're paying about 23 grand in state and federal taxes. So by using bonus depreciation, he gets to keep that $23,000 in his pocket. But what did he spend to keep that 23k in his pocket? Well, we know he spent $50,000 on the down payment, another 50,000 dol thousand dollars on improvement, and now he's paying a mortgage. And by putting 10% down, his mortgage payments are probably something like 2700 bucks a month or 32 grand ish a year. So he spent $132,000 to get $20,000 from rental income and save 23k on taxes in the short term. That does not make a whole lot of sense. That said, you could make the argument that the $132,000 he spent is all an investment. He's building equity in the property, he has cash flow from the rental, and hey, maybe the building will appreciate too. These are all totally fair arguments, but you probably know by now my feelings around investing in real estate. And if you do not, I have linked in the show notes an episode where I go through all of it in detail. So to bring all of this home yes, bonus depreciation is real and yes, it is so powerful. And yes, it's absolutely something that smart investors use to boost their cash flow and reduce their tax bill. But it is not magic. It does not make things free. You still have to spend money to save money, and the math doesn't always work out in your favor, especially if you're stretching your finances too thin just to get a tax break. And as we saw in this example, using a strategy like a cost segregation study can help you front load your deductions, but it doesn't mean that you get to write off higher value of the property overnight. So while it does make for a very spicy Instagram headline, and I love those, the reality is more nuanced and way less accurate.
- [13:12]
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Sexy.
- [13:12]
Nicole Lapman
For today's tip, you can take straight to the bank if you're planning on buying a short term rental and you want to maximize bonus depreciation, time your upgrades. Instead of renovating everything months after closing, line up your contractors and purchases to happen immediately after the deal closes so that you can place your qualifying assets like furniture and appliances in service in the same tax year. That way you increase the portion of your investment that actually qualifies for bonus depreciation. And make the most of those write offs in year one bonus points if you get your cost segregation study done asap because the clock starts ticking once that property is up and running.