Guide · updated October 16, 2026

Who qualifies for cost segregation and bonus depreciation?

Generally, any owner of a rental house can depreciate it once it's placed in service. Whether a cost segregation study helps this year depends on whether you can actually use the deduction. Here are the rules, in plain language, with the IRS sources linked.

Not tax advice. This is general information about federal rules as we understand them, prepared for rental owners. Every rule has exceptions. Your CPA decides how it applies to you.
  1. The short-term rental exception
  2. Real estate professional status (and the spouse case)
  3. Bonus depreciation: the January 19, 2025 date
  4. Older rentals: catch-up with Form 3115
  5. Who it's usually not for
  6. Quick check: you likely benefit if…
  7. Bring this to your CPA
  8. Sources

First, the basic problem: passive losses

Rental activity is passive by default, no matter how much work you put in (IRS Pub. 925, §469(c)(2)). Passive losses generally offset only passive income. Unused losses aren't lost: they carry forward and are generally released when you dispose of your entire interest in the activity in a fully taxable transaction to an unrelated party. Owners with modified adjusted gross income (MAGI) under $100,000 who actively participate can deduct up to $25,000 of rental losses a year; that allowance phases out between $100,000 and $150,000 of MAGI. The allowance is halved for married couples filing separately who lived apart all year, and is zero if they lived together at any time.

So for a high earner, the question is whether one of the exceptions below applies.

1. The short-term rental exception

Under Treas. Reg. §1.469-1T(e)(3)(ii), an activity is not a "rental activity" for passive-loss purposes if:

  • the average period of customer use is 7 days or less, or
  • the average period of customer use is 30 days or less and significant personal services are provided. Cleaning and maintenance needed for lawful use, repairs, and services commonly provided with long-term rentals don't count as significant personal services (Pub. 925).

Average period of customer use is the total days in all rental periods divided by the number of rentals during the tax year.

Once it's not a rental activity, it's tested like any other business: it is passive only if you don't materially participate. If you do materially participate, the losses, including depreciation from a cost seg study and bonus depreciation, are generally nonpassive and may offset W-2, business or other income. You don't need real estate professional status for this. (A short-term rental under this exception also isn't eligible for the $25,000 allowance. It's either nonpassive with material participation, or passive without it.)

Material participation

Treas. Reg. §1.469-5T(a) lists seven tests. Short-term rental owners usually rely on one of these three:

  • More than 500 hours in the activity during the year.
  • Your participation is substantially all of the participation of all individuals, including non-owners like cleaners and managers.
  • More than 100 hours, and at least as much as any other individual, including cleaners, co-hosts and property managers.
  • Spouse hours count. Your spouse's participation counts toward material participation (§469(h)(5)), even if your spouse isn't on the title.
  • Tested every year, per activity. A year with longer average stays or less owner involvement can change the result.
  • Keep hour logs as you go. Contemporaneous records (calendar entries, guest messages, task records) plus stay-length data from your booking platform. Investor-type work, like reviewing statements, generally doesn't count.
  • Excess business loss cap (§461(l)). Total net business losses above an annual threshold are disallowed for the year and carried forward as a net operating loss. IRS Form 461 instructions publish the threshold each year. Very large first-year losses for very high earners can hit this cap.
  • Other limits still apply, including at-risk rules (§465) and personal-use limits (§280A).

See also IRS Chief Counsel memorandum 202151005, which discusses a vacation rental with average customer use of 7 days or less under these same rules.

2. Real estate professional status, including a spouse

Under §469(c)(7), rental real estate activities of a real estate professional are not automatically passive. To qualify for the year, you must meet both tests (Pub. 925):

  • More than half of the personal services you perform in all trades or businesses are in real property trades or businesses in which you materially participate, and
  • You perform more than 750 hours of services in real property trades or businesses in which you materially participate.

You then still need to materially participate in the rental activity. Each rental is a separate activity unless you elect to treat all your rental real estate as one activity (Treas. Reg. §1.469-9(g)). Long-term rentals can work for a qualifying professional, not just short-term rentals. Someone with a full-time W-2 job elsewhere rarely meets the "more than half" test.

The spouse case

This matters for households where one spouse has a high W-2 income and the other works in real estate.

  • One spouse must qualify alone. On a joint return, Pub. 925 says: "don't count your spouse's personal services to determine whether you met the preceding requirements." The 750 hours and the more-than-half test can't be combined across spouses.
  • Material participation can combine. Pub. 925 continues: "you can count your spouse's participation in an activity in determining if you materially participated."
  • Result: if one spouse qualifies and the rentals are materially participated in, the rental losses on the joint return aren't treated as passive and may offset the other spouse's wages, subject to the limits above.

3. Bonus depreciation: the January 19, 2025 date

After P.L. 119-21 (§70301), §168(k) allows permanent 100% bonus depreciation for qualified property acquired after January 19, 2025. Qualified property has a recovery period of 20 years or less, which covers the 5-year and 15-year components a cost seg study identifies. Used property qualifies only if you didn't use it before you acquired it and didn't buy it from a related party, such as certain family members or a controlled entity (§168(k)(2)(E)(ii)). The 27.5-year building portion doesn't qualify for bonus.

  • Acquisition date follows the binding contract. Property isn't treated as acquired after January 19, 2025 if a written binding contract for it was entered into on or before that date. IRS Notice 2026-11 explains how the date is determined, including contingencies and cancellation periods.
  • Contracts on or before January 19, 2025 fall under the prior phase-down: 40% if placed in service in 2025 and 20% if placed in service in 2026.
  • An election lets taxpayers use 40% instead of 100% for property placed in service in the first tax year ending after January 19, 2025.

Only depreciable property counts: rental or business property (§167). Land is never depreciable, and a personal residence isn't depreciable (Pub. 946, Pub. 527).

4. Older rentals: catch-up with Form 3115

If your rental was placed in service in an earlier year and never had a study, a CPA may be able to claim the missed depreciation in a single year through a change in accounting method on Form 3115, with a §481(a) adjustment. The bonus percentage that applies follows the original acquisition and placed-in-service dates, not today's date. Your CPA decides whether a method change or an amended return is the right tool.

5. Who it's usually not for

  • Primary residence or heavy personal use. A home you live in generally isn't depreciable, except a portion that is rented out or used exclusively for business. If personal use exceeds the greater of 14 days or 10% of fair-rental days, §280A limits deductions to rental income.
  • High-income long-term rental owners with no passive income who aren't real estate professionals. Losses are usually suspended and carried forward, so there's no current-year benefit.
  • Owners planning to sell soon. On sale, depreciation on 5-year personal property is generally recaptured as ordinary income (§1245). 15-year land improvements are generally §1250 property: depreciation beyond straight-line, such as bonus, is generally recaptured as ordinary income, and the rest, like building depreciation, can be taxed at up to 25% (unrecaptured §1250 gain). Bonus speeds up deductions; it doesn't remove tax on a sale.
  • A property manager who outworks you. If a full-service manager, co-host or cleaner puts in more hours than you, material participation usually fails and the losses stay passive.
  • Longer average stays without significant services. Then it's a rental activity and passive by default.
  • Little taxable income for the deduction to offset, or land that makes up most of the price.
  • States that don't follow federal bonus depreciation, including Indiana (Indiana DOR Information Bulletin 118) and California. The state benefit is generally spread out over later years rather than lost. Other states also decouple; check yours each year.

6. Quick check: you likely benefit if…

Check what applies. This isn't a determination, just a way to see if it's worth a conversation with your CPA.

Check the boxes that apply.

7. Bring this to your CPA

  • Purchase contract date, closing date and placed-in-service date
  • Average guest stay for the year, from your booking platform
  • Your hour log (and your spouse's), plus who else works on the property and roughly how much
  • Whether you or your spouse might meet real estate professional status
  • Your other passive income and any suspended losses carried forward
  • Personal-use days
  • How long you plan to hold the property
  • Your state's treatment of bonus depreciation
  • Ask: does the excess business loss limit (§461(l)) or the at-risk rules affect me? If it's an older rental, is a Form 3115 catch-up right?

Forward our CPA packet (PDF) so your CPA can see what the report includes.

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Sources

Not tax advice. General information about federal and state rules, not tax, legal or accounting advice, and no guarantee of any tax result. Rules change and depend on your facts. Elite Properties LLC prepares remote cost segregation reports for CPA review; we don't prepare returns or determine your eligibility. Your CPA decides tax treatment.