What's a Depreciable Basis?

The IRC §168 starting point in plain English. How depreciable basis is built from purchase price, land value, and capitalized settlement costs.

What's a Depreciable Basis?

What you'll learn. What "depreciable basis" means in the tax code, the simple formula that builds it, and three common ways property owners get it wrong.

The one-line definition

Depreciable basis is the dollar amount that flows into the depreciation schedule — the starting figure the IRS lets the property owner write off over the asset's recovery period.

For most rental real estate, the formula is short:

Depreciable basis = Purchase price + capitalized settlement costs − Land value

Every cost-seg estimate, every Form 4562 line, every depreciation deduction on Schedule E starts here.

Where the term comes from

The Internal Revenue Code uses basis as the umbrella term for "the amount of money you have invested in an asset for tax purposes." It is defined under IRC §1011 and §1012 as cost (with adjustments). Depreciable basis is the slice of that total cost that is eligible to be depreciated under IRC §167 and §168 — which excludes land, by long-standing rule.

Building the number, step by step

Step 1 — Purchase price

The total amount paid for the property at closing. This includes the cash paid, the loan amount taken on, and any seller credits absorbed into the deal. If the property was acquired through a 1031 exchange, the basis carries over from the relinquished property — that's a CPA conversation.

Step 2 — Add capitalized settlement costs

Treasury Regulations §1.263(a)-2 and §1.263(a)-4 require certain acquisition costs to be added to basis rather than deducted in the year paid. The common ones for a rental purchase:

• Title insurance and title search fees
• Transfer taxes and recording fees
• Survey, appraisal, and inspection costs (when paid by the buyer)
• Legal fees tied to the acquisition

Settlement costs that do not capitalize: prepaid property taxes, prepaid insurance, mortgage points (those amortize separately), and HOA initiation fees that are unrelated to the purchase.

Step 3 — Subtract land value

Land is not depreciable — it doesn't wear out. The land/building split is a separate exercise; the land vs. improvement value tutorial walks through it.

The most common defensible method is the county appraisal district ratio: apply the appraisal district's land/total ratio to the actual purchase price. For Texas properties in Montgomery, Harris, Dallas, or Travis counties, our calculator pre-fills both numbers automatically when the property owner uses the address lookup.

A worked example

A property owner buys a Houston rental on April 15, 2026 for $520,000. Closing disclosure shows $8,500 in capitalized settlement costs. The Harris County appraisal district shows a land value of $90,000 against a total appraised value of $450,000 — a 20% land ratio.

• Purchase price: $520,000
• Plus settlement costs: $8,500
• Land allocation (20% of $520,000): $104,000
• Depreciable basis: $424,500

That $424,500 is the number that feeds into the depreciation schedule. Without cost segregation, it depreciates straight-line over 27.5 years (residential rental). With cost segregation, a portion reclassifies into 5-year, 7-year, and 15-year property and depreciates faster.

Three common mistakes

1. Forgetting to subtract land

A property owner who depreciates the full $520,000 over 27.5 years is over-depreciating by roughly $3,800 per year. On audit, that depreciation gets reversed — with interest and potentially penalties.

2. Capitalizing the wrong settlement costs

Prepaid property taxes are not part of basis. Prepaid insurance is not part of basis. Putting them into basis under-depreciates today (because they would have been deductible immediately) and overstates basis at sale.

3. Using a stale tax-assessor ratio

The appraisal district allocation is most defensible in the year of purchase. A 2018 ratio applied to a 2026 purchase invites scrutiny if land values have shifted materially since then.

How the calculator computes it

When the property owner enters purchase price and land value (Step 2 of the calculator), the engine builds depreciable basis exactly as above. If the property owner enters improvement value instead, the engine uses that as the depreciable basis and treats the residual as land. Either path arrives at the same starting figure.

Run a screening for a 2026 purchase →

What basis is not

Basis is not market value. Basis is not loan balance. Basis is not the figure on the property tax bill. Basis is what the property owner paid for the asset for tax purposes, adjusted for capitalized acquisition costs and reduced by the land allocation. Track it carefully — it follows the property until disposition and drives every gain or loss calculation at sale.

Sources

• IRC §1011 — Adjusted basis for determining gain or loss
• IRC §1012 — Cost basis
• IRC §167 — Depreciation; §168 — MACRS recovery periods
• Treas. Reg. §1.263(a)-2 and §1.263(a)-4 — Capitalization of acquisition / facilitative costs
• IRS Publication 551 — Basis of Assets

Disclaimer. This tutorial describes general federal tax concepts. TaxProtestTx (Nought Labs LLC) is a feasibility-screening tool, not tax advice or a cost segregation study. Calculator output cannot be relied on under Treasury Circular 230. Consult a qualified CPA, EA, or attorney before filing. Results are not guaranteed.