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If you own rental property or run a business with equipment, you have probably heard someone say, "Just skip depreciation so you do not pay it back later." That advice sounds simple. It also creates some of the most expensive surprises I see because depreciation is not treated like an optional "coupon" you can choose to use or ignore.
This is exactly why allowed vs allowable depreciation matters. The tax rules distinguish between the depreciation you actually claimed (allowed) and the depreciation you should have claimed (allowable). If you skipped it, your adjusted basis may still be reduced as if you took it. That one detail changes the math when you sell, trade, or dispose of the property.
This guide explains the rule in plain English, how it impacts adjusted basis, why missed depreciation can backfire, and how to fix missed depreciation correctly when you need to catch up.
Internal resources: If you are dealing with IRS notices or collections at the same time, start at IRSProb.com and then schedule online if you want help organizing the facts and choosing a clean path forward.
Allowed vs Allowable Depreciation: The Rule in Plain English
Think of depreciation as the tax system's way of letting you recover the cost of an income-producing asset over time. For rentals, the IRS explains the basics of depreciation, property placed in service, and recovery periods in Publication 527.
Now here is the key distinction:
Allowed depreciation is what you actually claimed on your tax returns and the IRS allowed as a deduction.
Allowable depreciation is what you were entitled to claim under the rules, whether you claimed it or not.
Allowed vs allowable depreciation becomes a problem when those two numbers do not match. The most common cause is missed depreciation. People skip it intentionally because they fear depreciation recapture later, or they skip it accidentally because nobody set it up correctly in the first place.
The IRS discusses how depreciation affects your basis and your gain calculations; the important idea is that allowable depreciation still matters for basis tracking. See the IRS basis adjustment rule in IRC Section 1016.
If you are new to rental property taxation, read our guide on rental property tax deductions and compliance requirements to understand the full picture before diving into depreciation specifics.
Why the Allowed-Versus-Allowable Rule Exists
Here is the easiest way to visualize it.
Your asset has a "tax cost" that you recover over time. Depreciation is the recovery. If you skip depreciation, you are not changing economic reality; you are only choosing not to claim a deduction you were allowed to claim.
The tax rules use an allowed-versus-allowable concept to prevent a double benefit:
- You skip depreciation deductions during ownership, often reducing your tax savings in those years
- Then you sell and claim a higher basis as if you never had depreciation, which reduces your gain
The practical outcome is simple: if depreciation was allowable, your basis can still be reduced anyway. That is the basis reduction for depreciation effect that catches people off guard.
The Real Impact: Adjusted Basis and Basis Reduction for Depreciation
If you want to understand this topic, you need one concept to feel real: adjusted basis.
Picture your asset as a running balance sheet line:
- Start with the purchase price (and certain closing costs)
- Allocate land vs building for real estate
- Add capital improvements
- Subtract depreciation
What you end up with is your adjusted basis.
Now, here is the twist with allowed vs allowable depreciation: even if you did not subtract depreciation on your tax return, your basis may still be treated as reduced by the depreciation that was allowable. That is why missed depreciation can hurt twice: you missed the deduction, and you still may lose the basis.
Clean mental model:
- Depreciation is like a scheduled reduction to basis, whether you press the button or not
- If you do not press the button, you might still lose the basis, but you did not get the deduction
Understanding adjusted basis is critical for tax planning. For more details on how basis affects your tax liability when you sell property, see our article on calculating adjusted basis for property sales.
Why Skipping Depreciation Can Backfire at Sale
At sale, your gain is generally based on:
Sale price minus adjusted basis equals gain.
If your adjusted basis is lower, your gain is higher. If your gain is higher, your tax can be higher. That is the first way this backfires.
The second way is psychological. People skip depreciation to "avoid paying it back." Then they sell and learn that the greater of allowed or allowable depreciation must be considered for certain sale calculations, which can reduce basis and increase gain. The IRS addresses depreciation-related sale concepts (including recapture topics) in their FAQ guidance on depreciation recapture for rentals and business property. See IRS Depreciation Recapture FAQ.
With real estate, part of the gain may be treated as unrecaptured section 1250 gain, which is tied to depreciation. Even if you never claimed depreciation, you can still end up in a situation where the basis is reduced and the gain is larger, creating a bigger tax bill than expected.
Core takeaway: Skipping depreciation can reduce tax savings today and still increase taxable gain later. That is the "lose now, lose later" version of allowed vs allowable depreciation.
If you are planning a property sale and want to understand how depreciation recapture and capital gains interact, read our guide on minimizing depreciation recapture taxes when selling rental property.
Quick Example: Claimed vs Skipped Depreciation
Let's keep this simple and realistic.
You buy a rental property for 400,000. You allocate 80,000 to land and 320,000 to building. Land is not depreciable; the building is.
Assume you own it for 5 years. Under rental property depreciation rules, the building would typically be depreciated over the residential rental recovery period. To keep the math simple, imagine your allowable depreciation over five years would have been 50,000. This is simplified math to show the basis effect, not a calculation of the exact annual MACRS amount.
Scenario A: You claimed depreciation correctly
- Purchase basis in building: 320,000
- Depreciation claimed: 50,000
- Adjusted basis in building: 270,000
Now assume you sell the property. Your gain calculation reflects that lower adjusted basis. You benefited from depreciation deductions during ownership, which likely helped cash flow and reduced taxable income along the way.
Scenario B: You skipped depreciation
On your tax returns, you show zero depreciation.
But the allowed-versus-allowable rule can still require basis reduction for depreciation. In other words, your adjusted basis may be treated as if you took the 50,000 of allowable depreciation anyway.
- Depreciation shown on return: 0
- Depreciation treated as allowable: 50,000
- Adjusted basis still reduced by 50,000 for gain purposes
If the basis is reduced the same way, your gain can be similar to Scenario A, but you missed the deductions in prior years. That is the backfire.
Want more real-world examples? Check out our case studies on common rental property tax mistakes and how to avoid them.
Where This Shows Up Most: Rental Property Depreciation Rules
Most allowed vs allowable depreciation issues show up in rentals because depreciation is expected and common, and because landlords often have messy records. The IRS rental guide is Publication 527, which covers the basics, including what can and cannot be depreciated.
Typical reasons I see missed depreciation in rentals:
- A preparer forgot to start depreciation when the rental went into service
- The taxpayer did not understand that land is not depreciable
- A property converted from personal to rental use and the basis rules were not handled correctly
- The taxpayer heard a "tip" that depreciation is optional and chose to skip it
If you own rentals, treat depreciation like a required component of the reporting system, not an optional strategy.
Staying compliant with rental property reporting requirements goes beyond depreciation. Learn about essential record-keeping practices for rental property owners to avoid IRS problems before they start.
How to Fix Missed Depreciation Without Refiling Everything
This is the part most people want to know once they realize there is a problem.
If you have missed depreciation, you usually do not fix it by amending every return back to the beginning. In many cases, the more appropriate approach is a method change using Form 3115 change in accounting method. Often, yes, but the right fix depends on the facts and which years are still open.
The IRS treats depreciation as an accounting method. If you used the wrong method, including "claiming zero when you should have claimed something," you may be able to file Form 3115 to correct it. For details, review the IRS instructions: About Form 3115 and the official instructions: Instructions for Form 3115 (PDF).
This is where catch up depreciation (Section 481(a) adjustment) enters the conversation. The Section 481(a) adjustment is essentially the mechanism that lets you take the accumulated missed depreciation in a structured way, rather than going back and amending multiple years.
Important reality check: Form 3115 is not something you "wing." It has procedural rules and documentation expectations. The right approach depends on the facts.
For a detailed walkthrough of the Form 3115 process, including common pitfalls and IRS processing timelines, read our guide on filing Form 3115 for accounting method changes.
If you are wondering whether you should amend previous returns or use Form 3115, read our comparison article on when to file amended returns versus changing accounting methods.
The most important step is confirming what depreciation was allowable in the first place. That requires:
- Correct placed-in-service dates
- Correct basis allocation (land vs building)
- Correct depreciation method and life
- Accurate improvement tracking
Need the depreciation rules for equipment too? For business property depreciation rules (MACRS basics, recovery periods, conventions), see IRS Publication 946.
When Cost Segregation Depreciation Matters (and When It Doesn't)
Cost segregation depreciation can be a smart tool, but it is not required for every property, and it is not the main point of allowed vs allowable depreciation.
Where cost segregation tends to matter
- The property value is high enough to justify the study
- You have substantial component categories that can be accelerated
- You want to optimize depreciation timing and cash flow
Where it often does not matter
- Smaller properties with low basis
- Situations where recordkeeping is too messy to support it
- Cases where the priority is simply fixing missed depreciation and stabilizing compliance
If you are already behind on depreciation reporting, do not jump straight to advanced strategies. Fix the foundation first. Then evaluate whether cost segregation depreciation is worth it.
Considering a cost segregation study? Learn about the benefits, costs, and when it makes sense in our detailed guide on cost segregation strategies for rental and commercial property.
Common Questions (FAQ)
Is depreciation optional?
In practice, taxpayers skip it. But from the IRS perspective, allowable depreciation still matters. That is the core issue in allowed vs allowable depreciation.
What if I did not know I was supposed to claim it?
Not knowing does not change what was allowable. The tax law is still applied based on what should have happened, which is why missed depreciation needs to be addressed correctly.
Do I still face depreciation recapture if I never claimed depreciation?
People use "depreciation recapture" as a general phrase. The more important practical point is that allowable depreciation can still reduce basis, which can increase gain. Depending on the asset and facts, depreciation-related gain treatment can still become relevant. See IRS guidance on depreciation recapture.
For a plain-English explanation of how depreciation recapture works in different scenarios, see our article on understanding depreciation recapture tax rates and rules.
Does the allowed vs allowable depreciation rule apply only to rentals?
No. It can apply to other depreciable assets used in business or income production. Rentals are simply where it is most commonly seen.
Is Form 3115 always the right fix?
Not always, but it is very often the cleanest fix for correcting depreciation methods across multiple years. The correct answer depends on your facts and your compliance history.
What records do I need to fix it properly?
You typically need purchase documents, closing statements, improvement receipts, placed-in-service dates, and a clear understanding of business or rental use. You also want prior returns to confirm what was actually claimed.
Bottom Line
Allowed vs allowable depreciation is one of those concepts that feels technical until it costs real money. Depreciation is not treated as a preference you can opt into. If depreciation was allowable, your basis may still be reduced, even if you skipped the deduction. That can raise taxable gain later, which is why skipping depreciation can backfire.
If you suspect missed depreciation: focus on getting the numbers right, confirming your adjusted basis, and choosing a proper correction path. In many cases, the right solution is structured and fixable, but it is worth doing correctly the first time.
Depreciation is just one piece of effective tax planning. For a broader look at year-round strategies to minimize tax liability, read our guide on tax planning strategies for small business owners and investors.
