I am reviewing tax returns from 2007-2010 for a client that knows the depreciation on his rental properties is not right. The CPA that prepared them has me uncertain on how to correct them. There are 2 properties however the Schedule E only shows 1 property with expenses and income for both properties listed under the 1. Depreciation was taken in 2007 for the property listed, none taken in 2008. Depreciation was taken in 2009 and 2010 however the amounts are incorrect. The depreciation schedule I requested reports using a 29 Yr SL. Obviously it should've been 27.5 Yrs.

I know I need to use Form 3115 to change the method on the 1 property listed on the Sch E. The problem I am having is knowing how to fix the other property. Can I amend the last 3 yrs adding the other property and separating the expenses to reflect it being in service and taking depreciation? Does Form 3115 need to be used for this property also. I have never dealt with Form 3115 before, does it allow me to take past unclaimed deprecation off on the current taxes? Any input would be great. I don't want raise a lot of red flags with the IRS but had the CPA figured depreciation correctly, my client would've saved over $2600 over the past 3 yrs.

“I know I need to use Form 3115 to change the method on the 1 property listed on the Sch E. The problem I am having is knowing how to fix the other property. Can I amend the last 3 yrs adding the other property and separating the expenses to reflect it being in service and taking depreciation?”----> I guess you are in very complex situation;Form 3115 needs to be filed for the year in which the underclaimed depreciation was discovered. Since you are changing depreciation methods, you should assume the IRS still views asset-recovery-period changes as accounting-method changes(New Temp. Regs. Sec. 1.446-1T(e)(2)(ii)(d)(2)(i) states that a change in the recovery period of an asset being depreciated under Sec. 168 (ACRS or MACRS) will be deemed an accounting-method change requiring IRS consent). A change in a depreciable asset's recovery period( from 29 yr to 27.5 yr) is accounting-method changes under the Fifth Circuit's decision.So, you need to file Form 3115, because a change in asset recovery periods is an accounting-method change. You ALSO need to file amended return for 2007-2010.I guess you need to file an amended return to recover the lost depreciation expense in 2008.Before the court held that a change in a depreciable asset’s usefuel life were not accounting-method changes. However, you should also be wise to consider that the IRS could change its position on the issue, voluntarily or otherwise, at any time. Needless to say, the other rental property needs to be depreciated also; you need to file an amended returns for the previous years to claim 27.5-year depreciation .The property’d be subject to unrecaptured depre rule, 25% tax rate rule, I mean. The IRS assumes that a rental property loses value every year. By not taking depreciation, you lose out on the tax savings. Even if you elect not to report depreciation(intentionally/unintentionally) on your tax return, the IRS assumes you've taken it anyway. When you sell your property, you will have to pay tax on recaptured depreciation even if there is no recapture amount to take. In this way, the IRS makes taking depreciation on investment property mandatory.


“ Does Form 3115 need to be used for this property also. I have never dealt with Form 3115 before, does it allow me to take past unclaimed deprecation off on the current taxes? “---->Correct. As said above, as long as you are changing depreciation methods and the IRS still views asset-recovery-period changes as accounting-method changes, Form 3115 needs to be filed. I guess you do not need to file the Form 3115 for the other rental property.

Forgot to mention that the property that was left off was gifted to the client in 2005. It was built in 1990 for $80k. Do I need to amend clear back to 2005 or am I fine to just start in 2007 using the original date and basis to calculate.

“Forgot to mention that the property that was left off was gifted to the client in 2005. It was built in 1990 for $80k. Do I need to amend clear back to 2005 or am I fine to just start in 2007 using the original date and basis to calculate?”---->Then I assume that the rental pty. was placed in service in 1990( I mean at least after 1990, then it is subejctt o S/L depr(27.5 years) under MACRS ). The donee of the rental pty needs to depreciate the pry after 2005 when it was gifted to him in 2005; so, you must file amended return back to 2005, 6,7,8,9, and 2010. To figure the basis of the rental pty. He received as a gift, you must know its adjusted basis to the donor just before it was given to him, I mean its FMV at the time it was given to him, and any gift tax paid on it