Why Split Depreciation Schedules Don't Add Up
Let me start by saying that split depreciation schedules are fantastic. I've written about them before, and we've done thousands of them. They're a great way for multiple owners in common to see their exact deductions, and more importantly, to front-load those deductions.
Apologies for the click bait article title, but I was at a loss as to what to call it. Let me start by saying that split depreciation schedules are fantastic. I’ve written about them before, and we’ve done thousands of them. They’re a great way for multiple owners in common to see their exact deductions, and more importantly, to front-load those deductions.
However, we’re asked on a frequent basis why the deductions won’t add up.
We prepare a master report (set out as if there is just one owning entity) and the split reports side by side (per owner) and present them both to the clients as a means of comparison. I guess that’s where the problem arises as if you try to add up the year one deductions across the split reports, they won’t normally match the master schedule. This is something that both investors and accountants get confused by. The reason lies in the value the split schedule provides, over and above just looking at your share of the ownership.
Take for example the 100% rule. If you buy a property yourself and decide to add a ceiling fan that costs $280, you’ll be able to write the value off at 100% in the year of acquisition because the asset has an opening value of $300 or less. Now if that ceiling fan had a value of $320 dollars, you’d have to depreciate it over its lifespan. Now if you bought this property with your sibling say, you might have decided on a fifty-fifty split. So that means that your share of a $280 ceiling fan is $140. Again, this figure is under $301 for you so it’s an instant deduction. Where it gets interesting is if the ceiling fan was $320 as above, your share of the ceiling fan is $160. So, if you own this property at 50% you can claim the ceiling fan in one year if you own the property at 100% you cannot.
Given we know that the value must be $300 or less, your 50% share of the actual asset can be $300, which means the actual value of the fan could be $600 in total.
There are some things to be wary of such as the ‘set rule’ but that’s the easiest way to explain it. It works for low-value assets as well as those that qualify for the low-value pool at under $1,000 in value.
So below, here’s a look at an example split report next to a full report showing why the depreciation totals won't match.
You can see that the total opening value is exactly half in the split report, but the year one deductions are almost as high in the 50% split as in the joint report, even though it’s only a half share. In this example, it’s due to the extra items that qualify for an instant deduction. You’ll note that the split system suffers from a lesser rate in the split report. This is due to pooled assets depreciating at 18.75% in the year of acquisition, and 37.5% each year thereafter. So, with that asset, it will underperform in year one but vastly outperform every other year. Therefore, preparing a maximised report requires an understanding of the client’s situation and goals, as sometimes a different approach can be taken.
If a client calls up and asks why $611 times two isn’t $823, this is the reason why. You can clearly see the way that a split report can front load those deductions. Sure, it’s the same value over 40 years, but most people aren’t holding the property that long and the cashflow position of a property is most likely to be worst at the beginning as the rent will rise over time. Split reports might be a little more to get your head around but the benefits over the short-term can be substantial.