Depreciation

Depreciation is a tax deduction that allows commercial property owners to recover the cost of the building (excluding land) over its useful life as defined by the IRS. For commercial real estate, the standard depreciation period is 39 years (straight-line method), meaning investors can deduct approximately 2.56% of the building's cost basis each year.

Depreciation is a non-cash deduction-it reduces taxable income without requiring any cash outlay. This creates 'phantom losses' that can shelter rental income from taxation, potentially resulting in positive cash flow with little or no tax liability. For NNN investors receiving passive rental income, depreciation is often the most valuable tax benefit available.

Cost segregation studies can significantly accelerate depreciation by reclassifying building components (electrical systems, plumbing, site improvements) into shorter depreciation categories-5, 7, or 15 years instead of 39. Combined with bonus depreciation provisions, cost segregation can generate massive first-year tax deductions that shelter income from the NNN property and other passive income sources.

When the property is sold, accumulated depreciation must be 'recaptured' at a 25% tax rate-unless the investor uses a 1031 exchange to defer all taxes. This interplay between annual depreciation benefits and eventual recapture creates a strong incentive for long-term holding and strategic 1031 exchange planning in the NNN investment space.

Depreciation is the NNN investor's best friend at tax time. A $2M NNN property (with $400K allocated to land) generates approximately $41,000 in annual depreciation-enough to shelter a significant portion of the rental income from taxation. With a cost segregation study, first-year deductions can reach $200,000+. This tax-advantaged income stream is a primary reason high-income professionals invest in NNN properties. Combined with 1031 exchanges, depreciation enables generational wealth building with minimal current tax liability.

Commercial real estate is depreciated over 39 years using the straight-line method. Only the building value is depreciable-land cannot be depreciated. A cost segregation study can reclassify certain building components into 5, 7, or 15-year categories, accelerating deductions significantly in the early years of ownership.