Depreciation of Real Estate: How Property Owners Can Save on Taxes
How Depreciation Can Boost Your Property Returns
If you’ve purchased a property, you may be able to claim tax depreciation on it. This is especially relevant for property owners who invest in real estate as a source of income.
Depreciation can be a powerful tool to reduce your tax burden, boost your overall return, and even improve your cash flow. Key factors include the year your property was built and whether you live in it yourself or rent it out.
Every property owner should at least have a basic understanding of how depreciation works. While it’s primarily intended for owners who rent out their properties, there are also cases where you can claim tax deductions for your primary residence. We’ve broken down everything you need to know: What depreciation is, who can claim it and when, how much you can deduct, and why it’s especially important for your real estate investment.
What Is Real Estate Depreciation and What Does AfA Mean?
If you’ve been exploring the idea of buying property, you’ve likely come across terms like depreciation or AfA. Both refer to the same principle.
Depreciation allows you to deduct the acquisition or construction costs of a property from your taxable income over time. In other words, these costs can be offset against your income, reducing your overall tax burden. Depreciation is a tax incentive designed to encourage investment in property ownership.
It benefits landlords, commercial property users, and even private owners of listed buildings who are undertaking renovations. However, it’s important to note: You can only depreciate the costs associated with buildings, not land. Why? The answer becomes clear when you look at what AfA actually stands for.
As with many terms in the real estate world, AfA only seems complicated at first glance. In reality, it's simply an abbreviation. AfA stands for "Absetzung für Abnutzung," which translates to "depreciation for wear and tear." Depreciation exists to reflect the wear and tear—and resulting loss in value—that buildings experience over time. Since land doesn’t lose value through use, it can’t be depreciated. Makes sense, right?
When Can I Claim Depreciation on Real Estate?
According to the German Income Tax Act, you can benefit from depreciation if your property is used to generate income. So, if you purchase a property and then rent it out, you can deduct the acquisition costs through depreciation for tax purposes. Important note: If you plan to rent the property to family members at a reduced rate, the rent must still be at least 66% of the local market rate. If it's lower, the allowable depreciation will be reduced proportionally.
If you own a listed (heritage-protected) property and invest in renovations, you can also depreciate those renovation costs—regardless of whether you live in the property yourself or rent it out.
When Is Depreciation Not Possible?
If you buy a property and live in it yourself, you cannot claim depreciation on the acquisition costs for tax purposes.
From the government’s perspective, living in your own home is considered a private matter. Since you personally benefit from the property’s wear and tear, depreciation deductions are not allowed in this case.
However, there is an exception: You can deduct certain craftsmen’s invoices (e.g., renovation or repair costs) to a limited extent, even for properties you occupy yourself.
Declining Balance vs. Straight-Line: How Does Depreciation Work?
When it comes to investment properties, depreciation is intended to offset the loss in value of the asset for tax purposes. You might be familiar with a similar concept if you’re self-employed and purchase work equipment or office supplies—you can write off those costs by deducting them from your profits, which lowers your taxable income.
Depreciation on real estate works on a similar principle: over a set period, you can deduct a fixed percentage of the acquisition costs from your taxable income each year. This reduces the income you need to pay tax on and thus lowers your overall tax burden.
There are, however, two different methods of depreciation. Real estate is either depreciated linearly (straight-line) or declining balance (degressive).
With the linear method, you deduct the same amount each year.
With the declining balance method, the depreciation rate applies to the remaining, undepreciated value of the property. Since this value decreases over time, the depreciation amounts are higher in the early years and lower toward the end.
Note: The declining balance method can only be applied to properties built before 2006.
Depreciation Rates for Real Estate
As is common with tax matters, the amount you can depreciate for real estate is determined by fixed rates. Naturally, these rates differ depending on whether you use the linear (straight-line) or declining balance (degressive) method.
Linear depreciation:
The rate depends on the year your property was built.
If your property was constructed after 1924, you can deduct 2% of the acquisition costs each year for 50 years.
For properties built before 1924, you can depreciate 2.5% annually over 40 years.Declining balance depreciation:
This method uses different rates and is a bit more complex.
If you own a property built before 2006, you can depreciate the acquisition costs at 4% annually for the first 10 years.
This is followed by 2.5% annually for the next 8 years,
and finally 1.25% annually for the remaining 32 years.
Double the Depreciation?
The German new construction market is struggling in 2023 due to rising interest rates, increasing construction costs, and insolvencies among developers. As a result, investors are increasingly favoring existing properties. In response, the Growth Opportunities Act introduces a declining balance depreciation (AfA) for newly built residential buildings and apartments. The AfA rate is now set at 3% annually, with 6% of the investment costs deductible in the first year.
This regulation applies to construction start dates between October 2023 and September 2029. Interestingly, the declining balance AfA can also be used for residential buildings located in EU or EEA member states. However, implementation is still pending, as the draft law requires approval from the Federal Council.
A swift agreement appears unlikely at present, but once enacted, the regulation could apply retroactively—potentially providing a strong incentive for investors to buy.
How Long Can You Depreciate a Property?
The duration for which you can depreciate a property depends on its year of construction and is independent of the depreciation method used. Properties built before 1925 can be depreciated over 40 years, while those completed after 1925 are depreciated over 50 years.
In the final calculation, however, this makes no difference: in both cases, you can fully depreciate the purchase price over the respective period for tax purposes.
Purchase Price? Acquisition Costs? What Can I Depreciate on Real Estate?
At first glance, many assume that the purchase price and acquisition costs are the same. However, that’s not entirely accurate. The purchase price is only part of the acquisition costs of a property. In fact, you can also deduct additional incidental costs beyond the purchase price. These include broker fees, notary and land registry fees, as well as property transfer tax. All of these together make up the acquisition costs you can write off for tax purposes when buying real estate. However, you need to distinguish between acquisition costs for the building and for the land. Remember—the land itself cannot be depreciated.
If you want to learn more about additional purchase costs, we recommend checking out our related podcast episode. 👇
Why Depreciation Matters for Your Real Estate Investment
When purchasing a property as an investment, one key factor stands out: your return. Various elements influence this return, including the purchase price, rental income, and property appreciation.
Depreciation of acquisition costs also plays a crucial role by providing tax relief, which lowers your expenses and thereby enhances your overall return. If you face negative cash flow early in your investment, depreciation can help offset some of those losses. For investors, depreciation is a significant advantage and an essential consideration when acquiring real estate.
Of course, there are additional strategies to further optimize the cash flow of your real estate investment. 🎧👇
Benefits Regarding Historic Buildings
For listed (historic) properties, landlords can fully write off 100% of renovation and maintenance costs. If you buy a listed property for personal use, you can still deduct up to 90% of these renovation and maintenance expenses. These are the special features of the monument depreciation (Denkmal-AfA).
This does not apply to the depreciation of the purchase price. Here, depending on the year the building was constructed, you can still write off between 2% and 2.5% of the acquisition costs annually.
Buy, renovate, sell — this approach is especially attractive for listed properties due to these favorable depreciation rules.
What is the “Ehegattenschaukel”?
The Ehegattenschaukel is an interesting tax-saving strategy based on the clever transfer of assets between spouses. It involves the sale of a rental property owned by one spouse to the other. It is important to note that the Ehegattenschaukel should not be confused with the Güterstandsschaukel, which is an alternative to gifts subject to gift tax.
The term “Ehegattenschaukel” is colloquial and simply describes the smart use of existing tax laws by spouses. The core procedure of this tax strategy begins when one spouse sells a rental property to the other at market value after holding it for at least ten years. This holding period ensures that no speculation tax applies, and transfers between spouses are exempt from real estate transfer tax.
The acquiring spouse then depreciates the property again over its remaining useful life, depending on the building’s age. Because the purchase price is higher, the depreciation amount correspondingly increases. The process can theoretically be repeated multiple times, which is where the “swinging” effect of the Ehegattenschaukel comes from. Ideally, this “swinging” occurs in intervals of about ten years, provided the property’s value appreciates.
Each sale between spouses requires a notarized purchase agreement. While this incurs notary fees, these costs are typically offset quickly by the increased depreciation benefits.
FAQ Depreciation
Double the Depreciation?
The German new construction market is struggling in 2023 due to rising interest rates, increasing construction costs, and insolvencies among developers. As a result, investors are increasingly favoring existing properties. In response, the Growth Opportunities Act introduces a declining balance depreciation (AfA) for newly built residential buildings and apartments. The AfA rate is now set at 3% annually, with 6% of the investment costs deductible in the first year.
This regulation applies to construction start dates between October 2023 and September 2029. Interestingly, the declining balance AfA can also be used for residential buildings located in EU or EEA member states. However, implementation is still pending, as the draft law requires approval from the Federal Council.
A swift agreement appears unlikely at present, but once enacted, the regulation could apply retroactively—potentially providing a strong incentive for investors to buy.