5 Tax Tips for Self-Storage Facility Owners
June 12, 2023
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5 Helpful Self-Storage Tax Tips
Taxes: It’s a word not many people are happy to hear, including real estate investors. However, as the owner of a self-storage facility, there’s much you can do to eliminate stress during tax season.
By understanding and applying tax strategies to your self-storage business, you can claim advantageous deductions, increase cash flow, and reinvest your hard-earned revenue into future real estate endeavors instead of watching it circle the tax drain.
In this article, we break down five self-storage tax planning tips to help you navigate the next tax season.
#1 Keep Diligent Records
Improper bookkeeping is the number one way self-storage facility owners lose out tax savings opportunities. When you or your accountant can’t easily track business expenses, revenue, and profits, it becomes almost impossible to apply the correct deductions and depreciation schedules.
To maximize your tax savings and organization, try to maintain neat, accurate records with all the necessary income statements, balance sheets, profit/loss reports, and other documents you’ll need when it comes time to file your taxes. Using accounting software or the financial reporting tool on your storage unit software is one way to do this.
Paying close attention to your business finances and researching new tax rules can also help you answer questions your tenants might have from time to time. If you’re ever asked, “Are storage units tax deductible?” you can happily inform tenants that they are.
#2 Get a Cost Segregation Study
One tax strategy proven particularly effective for self-storage owners is cost segregation. In case you’ve never heard the term, let’s review what cost segregation is and how it works.
What is Cost Segregation?
As you likely know, large assets like buildings depreciate—or lose value—over time. The IRS allows owners to take tax deductions each year to account for this loss in value. A typical commercial building depreciates over 39 years, which means the depreciation deductions are relatively small each year.
Cost segregation is a system that allows accelerated depreciation through the Modified Accelerated Cost Recovery System (MACRS). Rather than depreciating your entire property over 39 years, you can divide it into its individual components and depreciate each one more quickly, typically over five-, seven-, or 15-year periods. For example, fencing and asphalt can be depreciated over 15 years, while appliances, lighting, security systems, and locks are depreciated over five years. Shorter depreciation periods = greater deductions up front = lower taxable income = less tax you have to pay on your rental income to the federal government.
Using Cost Segregation
So how do you get started? First, you’ll need a formal cost segregation analysis or study. You’ll need to hire a cost segregation professional to collect data about your facility and its assets, visit it to verify asset conditions, classify and value those assets, and then prepare a detailed cost segregation report.
Remember that all depreciation deductions are recaptured when you sell the facility, so this strategy only defers tax. The reason why cost segregation is still usually worth it is because it gives you access to money you can reinvest in the short term to make even more money. Cost segregation studies do cost a few thousand, however, so talk with your CPA to double check that segregating your assets will at least offset the study fee.
#3 Use Bonus Depreciation
Bonus depreciation is another way to save money during tax season. Bonus depreciation allows you to make immediate deductions in the first year of owning certain types of property rather than waiting out a longer depreciation period (e.g., seven or 15 years). Like cost segregation, this strategy allows you to deduct more in less time, decreasing the taxable income you’re required to report and reducing tax liability in turn.
There are some regulations to know before using bonus depreciation. First, it only applies to certain assets that were put in service between September 28, 2017, and December 31, 2022. You can no longer deduct the full amount of these assets in year one, but you can deduct at least 80% until the end of 2023 (after which the deduction percentage is 60%, then 40%, and so on at the beginning of each new year).
Learn more about bonus depreciation by researching its individual steps and consulting with your CPA or another tax professional. You might also find it helpful to review the full IRS depreciation guide.
#4 Look for Energy-Efficiency Deductions
Energy-efficiency deductions are a group of landlord tax write offs available thanks to the Energy Policy Act (EPA). Section 179D of this act rewards self-storage owners and other building owners for making energy-efficient investments. For instance, if you install energy-efficient or motion-sensitive lighting in your storage units, you could potentially claim it as an energy-efficient improvement and deduct the cost of the new lighting from your taxable income.
Energy efficient commercial building property (EECBP) must specifically be a part of the interior lighting systems, HVAC systems, or the building’s envelope to qualify for the deduction. The maximum full deduction is $1.80 per square foot, but partial deductions of up to $0.60 per square foot are also allowed.
Be sure to review the IRS guidelines for applying this deduction with your CPA to ensure you’re following all procedures and rules.
#5 Take Depreciation Deductions for Major Improvements
Lastly, just like residential and other commercial property owners, self-storage owners can take depreciation deductions for major improvements to your facility. According to tax law, improvements (e.g., roof replacements) must be written off on your tax return as depreciation deductions. Regular maintenance and repairs, on the other hand, are part of your facility’s operating expenses.
It can sometimes be difficult to decide whether to categorize an expense as an improvement or a repair. Inside Self Storage recommends using the ratio test: If the expense amounts to more than 35% of a building system (or 40% for roofs), that expense is an improvement and can be depreciated rather than deducted. For example, if you have 100 individual storage units at your facility and you replace the roofs of 40 or more of them, you can categorize it as an improvement. If you only replace 10 roofs, however, the expense is considered a repair.
If you dread tax season every year, you aren’t alone. Millions of U.S. small business owners feel the same way. But the good news is that any of these five tips can not only help make the process a little less stressful, but also help you capitalize on valuable tax savings in the process.