What Is Accelerated Depreciation for Commercial Real Estate?

Accelerated depreciation for commercial real estate is a set of tax methods that let an owner deduct the cost of a building much faster than the standard 39-year schedule by separating the building into components, writing off short-lived pieces in the first year, and electing immediate expensing for certain systems. The One Big Beautiful Bill Act, signed into law on July 4, 2025, restored permanent 100 percent first-year bonus depreciation for qualifying property acquired after January 19, 2025, which makes these strategies more valuable than they have been in years.¹ The catch is that acceleration shifts the timing of deductions rather than eliminating tax. Every dollar you pull forward eventually faces recapture when you sell.

The 39-Year Default and What Sits Inside It

Under the Modified Accelerated Cost Recovery System, nonresidential real property depreciates over 39 years on a straight-line basis.² On a $5 million office building (land excluded), that produces roughly $128,000 in annual deductions. The 39-year period is designed for the structural shell: load-bearing walls, the foundation, the roof deck, and similar permanent components.

Everything else inside or around the building can potentially sit in a shorter class. Interior items that serve a specific business use rather than the structure itself often qualify as personal property with 5-year or 7-year recovery periods: specialty lighting, data cabling, removable partitions, dedicated electrical circuits for equipment. Site improvements outside the building carry a 15-year recovery period, which covers parking lots, sidewalks, fencing, landscaping, and irrigation. Qualified improvement property, meaning interior improvements to an existing nonresidential building, also runs 15 years and is eligible for bonus depreciation.³ QIP excludes building enlargements, elevators, escalators, and changes to the internal structural framework.

The 39-year default applies to the entire building unless you actively separate it into these shorter classes. That separation is what unlocks the strategies below.

Cost Segregation Studies

A cost segregation study is the engineering exercise that breaks a building into its component asset classes. Engineers and tax professionals inspect the property, review blueprints and construction invoices, and assign every dollar of cost to its correct depreciation category. Mechanical systems, electrical layouts, plumbing, and interior finishes each receive their own treatment. The result is a defensible reclassification of cost from the 39-year bucket into 5-year, 7-year, and 15-year buckets.

A study does not change the total amount you depreciate. It changes when you depreciate it. A $200,000 parking lot still generates $200,000 in total deductions over its life. But recovering that amount over 15 years instead of 39, and combining it with bonus depreciation, puts far more cash in the owner’s pocket during the early years when loan payments and improvement costs are heaviest.

Bonus Depreciation at 100 Percent

Under the OBBBA, qualifying property acquired after January 19, 2025 is eligible for 100 percent first-year bonus depreciation, permanently.⁴ The full cost of eligible property is deducted in the year it is placed in service instead of being spread across a MACRS recovery period. Paired with a cost segregation study, every dollar reclassified into a 5-year, 7-year, or 15-year class can be written off immediately.

To qualify, property must have a MACRS recovery period of 20 years or less. That reaches the personal property identified in a study (5-year and 7-year), land improvements (15-year), and QIP (15-year). The 39-year building shell itself does not qualify. Both new and used property are eligible.⁵

Acquisition date matters. Bonus depreciation was phasing down under the original Tax Cuts and Jobs Act schedule: 80 percent for 2023, 60 percent for 2024, and 40 percent for property placed in service in early 2025 before the new law took effect. That phase-down still governs property acquired on or before January 19, 2025. Anything acquired after that date gets the full 100 percent with no scheduled sunset.¹

Qualified Improvement Property

QIP is worth calling out because it sits at the intersection of bonus depreciation and Section 179 and covers work most commercial owners will eventually do. Interior improvements to an existing nonresidential building qualify for 100 percent bonus depreciation so long as the work does not enlarge the building or alter its structural framework.³ A full-floor office renovation that replaces flooring, upgrades lighting, and reconfigures interior walls can be deducted entirely in year one.

Section 179 Expensing

Section 179 is a separate election that reaches some building components bonus depreciation historically did not. Owners can expense the cost of roofs, HVAC systems, fire protection and alarm systems, and security systems installed in an existing nonresidential building.⁶ QIP also qualifies. The improvements must be made after the building was first placed in service.

The OBBBA raised the Section 179 ceilings sharply. For tax years beginning in 2025, the maximum deduction is $2,500,000, and it phases out dollar-for-dollar once qualifying property placed in service exceeds $4,000,000.⁷ The prior 2025 figures were $1,250,000 and $3,130,000. Both amounts are indexed for inflation, with projected 2026 limits of roughly $2,560,000 and $4,090,000.

Section 179 has one constraint bonus depreciation does not: the deduction cannot create or increase a net operating loss. It is capped at your taxable business income for the year, and any excess carries forward.⁸ Bonus depreciation has no income limit, which makes it more flexible for owners already sitting on losses. In practice, many owners combine both: Section 179 for specific building systems and bonus depreciation for reclassified personal property and land improvements.

Passive Activity Loss Rules Can Trap the Deduction

Large depreciation deductions look powerful on paper, but many commercial real estate investors cannot use them right away. Under Section 469, rental real estate is generally treated as a passive activity, and passive losses can only offset passive income. If depreciation pushes your rental into a loss, that loss cannot reduce W-2 wages, business income, or investment earnings unless you meet an exception.⁹

The first exception is narrow. If your modified adjusted gross income is $100,000 or less, you can deduct up to $25,000 in rental real estate losses against non-passive income. The allowance phases out at 50 cents per dollar of income above $100,000 and disappears at $150,000.⁹ Higher-income investors get nothing from it.

The stronger exception is real estate professional status, which removes the passive limitation entirely. Three tests apply:

More than 750 hours of services in real property trades or businesses during the tax year.
More than half of your total personal services for the year in real property trades or businesses.
Material participation in each rental activity you want treated as non-passive.

Real property trades or businesses include development, construction, acquisition, management, leasing, and brokerage.¹⁰ Hours as an employee usually do not count unless you own at least 5 percent of the employer. On a joint return, only one spouse needs to qualify. The IRS scrutinizes these claims, so contemporaneous logs of hours and activities are essential.

Losses you cannot deduct now are not lost. They carry forward indefinitely and release when you generate passive income or sell the property, at which point suspended losses offset the gain.

Recapture When You Sell

Accelerated depreciation is a timing strategy. On sale, the IRS recaptures the depreciation you claimed, or were entitled to claim, as taxable income. The rate depends on the type of property.

Building structure (Section 1250 property): depreciation taken under the straight-line method is taxed as unrecaptured Section 1250 gain at a maximum federal rate of 25 percent. Because the 39-year shell uses straight-line, this is the rate that applies to most of the recapture on a typical sale.
Personal property and land improvements (Section 1245 property): all depreciation, including bonus depreciation and accelerated methods, is recaptured at ordinary income rates, which can run well above 25 percent for high-income sellers.

This is the tradeoff behind cost segregation. Every dollar moved out of the shell and into a 5-year or 15-year class shifts from the 25 percent recapture rate to ordinary income rates on the back end. Over long holds, the time value of the early deductions almost always wins. Over short holds, the math is closer, and it needs to be run.

Gain above the total recapture amount is taxed at long-term capital gains rates, which top out at 20 percent for most commercial sellers. A Section 1031 like-kind exchange can defer both the capital gain and the recapture by rolling proceeds into a replacement property, though the recapture obligation transfers to the new asset rather than disappearing.

Catching Up on Missed Depreciation

Owners who have been depreciating an entire building over 39 years without a cost segregation study can still capture the benefit retroactively. Rather than amending prior returns, the IRS allows a change in accounting method on Form 3115, which produces a Section 481(a) adjustment.¹¹ The adjustment calculates the difference between what you actually deducted and what you would have deducted under the correct shorter recovery periods, and lets you claim the entire shortfall in the current tax year.

The effect can be substantial. On a property owned for eight years, a study might reveal that 20 to 30 percent of the building’s cost belonged in shorter classes. The Section 481(a) catch-up captures all of those missed accelerated deductions at once. The form is attached to a timely filed return (including extensions), with a copy to the IRS national office. Most depreciation method corrections qualify as automatic changes that do not need advance IRS approval.

State Conformity

Federal accelerated depreciation does not automatically flow through to state returns. Many states decouple from federal bonus depreciation and require their own calculation, typically straight-line over the MACRS period. In those states you add back the disallowed federal bonus depreciation on the state return, deduct under the state schedule, and later reconcile basis when the property is sold. Check your state’s conformity rules before assuming the federal deduction will apply at the state level.

Reporting on the Return

All depreciation, standard or accelerated, is reported on IRS Form 4562. The form requires property to be categorized by asset class, with the cost basis and allowable deduction for each. Section 179 elections go in Part I and bonus depreciation in Part II.¹² If a cost segregation study was performed, the study report supplies the asset breakdowns that populate these sections and serves as the primary defense if the IRS questions the classifications later.

1
Internal Revenue Service. One, Big, Beautiful Bill Provisions
2
Office of the Law Revision Counsel. 26 USC 168 – Accelerated Cost Recovery System
3
Office of the Law Revision Counsel. 26 US Code 168 – Accelerated Cost Recovery System
4
Internal Revenue Service. Treasury, IRS Issue Guidance on the Additional First Year Depreciation Deduction Amended as Part of the One Big Beautiful Bill
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Internal Revenue Service. Additional First Year Depreciation Deduction (Bonus) – FAQ
6
Internal Revenue Service. Topic No. 704, Depreciation
7
Internal Revenue Service. Instructions for Form 4562 – Depreciation and Amortization
8
Office of the Law Revision Counsel. 26 US Code 179 – Election to Expense Certain Depreciable Business Assets
9
Office of the Law Revision Counsel. 26 USC 469 – Passive Activity Losses and Credits Limited
10
Office of the Law Revision Counsel. 26 US Code 469 – Passive Activity Losses and Credits Limited
11
Internal Revenue Service. Instructions for Form 3115
12
Internal Revenue Service. Instructions for Form 4562