Renovation Costs as Depreciation for Rental Property

[Whamcloud]

Hi everyone,

I'm glad this forum is back up and running – it's been a valuable resource for me in the past.

I bought a fixer-upper rental property a year ago. It needs a major overhaul, including new heating, insulation, windows, bathrooms, etc. The location (close to my home) and price were too good to pass up. It's a four-unit apartment building which had one rented unit (rented until Christmas) and a garage that still brings in income.

I've read that renovation costs are typically considered expenses, but I believe I saw somewhere that they must be claimed as depreciation if they exceed a certain amount €30,000(?) in the first 3(?) years.

Can anyone clarify this for me?

• Is my understanding correct? Would renovations costing more than €30,000 in the first three years qualify as depreciation?

• Does the timing matter? Would waiting until the 3-year mark allow me to claim any renovation exceeding €30,000 as an expense?

• How does expense claiming work? Similar to the UK system, is there a limit on how much I can deduct based on rental income, or can I claim the entire amount against my regular salary?

Thanks in advance for your help!

[Escafusa]

Did you buy the whole building? Is just one of the flats still occupied?

[Fraufruit]

It's a four-unit apartment building which had one rented unit (rented until Christmas) and a garage that still brings in income.

[Whamcloud]

Did you buy the whole building? Is just one of the flats still occupied?

I own the whole building; it came with one tenant who has moved out. Just a garage is rented at the moment.

We could of course rent all 4 apartments before renovation if it had a big advantage.

[Escafusa]

We could of course rent all 4 apartments before renovation if it had a big advantage.

But wouldn't you need to get them out again before renovating? That could be tricky.
If the heating system needs to be replaced, even if you do it in the summer months, the tenants would presumably still be without hot water for a while. Renovations are always much easier if the property is empty.

[PandaMunich]

I bought a fixer-upper rental property a year ago. It needs a major overhaul, including new heating, insulation, windows, bathrooms, etc. The location (close to my home) and price were too good to pass up. It's a four-unit apartment building which had one rented unit (rented until Christmas) and a garage that still brings in income.

I've read that renovation costs are typically considered expenses, but I believe I saw somewhere that they must be claimed as depreciation if they exceed a certain amount €30,000(?) in the first 3(?) years.

Can anyone clarify this for me?

• Is my understanding correct? Would renovations costing more than €30,000 in the first three years qualify as depreciation?

If those 30,000€ are more than 15% of the "building part" of the purchase price, then yes, those count as "anschaffungsnahe Herstellungskosten" (= additional building costs that happened close in time to the purchase date), which means that you have to add them to the building cost and only get to depreciate them over 50 years (if the building is from 1924 or earlier, over 40 years).

"Anschaffungsnahe Herstellungskosten" are laid down in § 6 (1) Nr. 1a EStG: https://dejure.org/gesetze/EStG/6.html

Please read:

• https://www-finanztip-de.translate.goog ... r_pto=wapp

• https://www-vermietet-de.translate.goog ... r_pto=wapp

• https://www-sis--verlag-de.translate.go ... =wapp.html

• Does the timing matter? Would waiting until the 3-year mark allow me to claim any renovation exceeding €30,000 as an expense?

Yes.

Please note that here, the start of the 3 year period is not the date of the purchase contract (like it is when calculating the "more than 10 year holding period" of § 23 EStG that you need to not have to tax the profit you make swlling the property), but rather the date defined in the purchase contract as the date on which the "Übergang der Nutzen und Lasten" happened, which is usually defined as the day you paid the purchase price.
Please read (this is a Haufe article, they don't allow them to be google-translated, just copy the text into DeepL.com to get it translated into English): https://www.haufe.de/finance/haufe-fina ... 99279.html

• How does expense claiming work? Similar to the UK system, is there a limit on how much I can deduct based on rental income, or can I claim the entire amount against my regular salary?

There is no limit.
But if you have too high losses from your rental, the Finanzamt will ask for a Totalüberschussprognose, i.e. a calculation spanning the next 30 years, to check whether after 30 years, you will in total have turned a profit.

Please read (this is a Haufe article, they don't allow them to be google-translated, just copy the text into DeepL.com to get it translated into English): https://www.haufe.de/finance/haufe-fina ... 08527.html

[Whamcloud]

Thanks a bunch, MunichPanda, for the thorough explanations and links! That's incredibly helpful.

I have one follow-up question. The property is currently vacant, and I'm thinking about renting out some or all of the units at a discounted rate – something fair for the tenants given the condition and the limited lease term. Honestly, I'd be content if it just covers the costs.

My concern is that if I set the rent too low, the taxman might claim I'm only collecting partial rent ("teilentgeltlich") and only allow partial claim of the expenses. It seems like it could be subjective, especially since the 50% threshold seems quite low. Just want to be cautious.

Also, how does renting some of the apartments affect the income requirement? Is the 50% threshold applied per apartment or for the entire building? For instance, if I leave two units empty, would that still meet the requirement?

Basically, I want to avoid any potential complications.

Thanks again for your assistance!

[PandaMunich]

The property is currently vacant, and I'm thinking about renting out some or all of the units at a discounted rate – something fair for the tenants given the condition and the limited lease term.

It is nearly impossible to do valid limited period rental contracts: https://www-advocado-de.translate.goog/ ... r_pto=wapp
--> you run the risk of these rental contracts automatically turning into unlimited rental contracts and you then being stuck with these tenants and also with the limits on how much you can raise their rents: https://www-finanztip-de.translate.goog ... r_pto=wapp

My concern is that if I set the rent too low, the taxman might claim I'm only collecting partial rent ("teilentgeltlich") and only allow partial claim of the expenses. It seems like it could be subjective, especially since the 50% threshold seems quite low.

They go by the "ortsübliche Miete" (= usual rent at that location), i.e. by the rent as laid down by the Mietspiegel (only if there is no Mietspiegel, do you get to the other ways of finding out the "usual" rent): https://www-stb--web-de.translate.goog/ ... r_pto=wapp

But you should know that the "warm rent" is the one that counts, i.e. the rent including all utility costs: https://www-hausundgrund-de.translate.g ... r_pto=wapp

• It is important for landlords to know that it goes by the warm rent.
  This has also been confirmed by a court judgement.
  In fact, the difference between cold and warm rent can have a decisive influence on the respective percentages, as a simple example shows:
  
  In the tenancy agreement, a basic rent of EUR 650 plus operating costs of EUR 200, i.e. a warm rent of EUR 850, has been agreed.
  The standard local cold rent is 1000 euros and the standard local warm rent is 1200 euros.
  While the basic rent is only 65% of the standard local rent, the warm rent is already 70% of the standard local rent.
  This means that the 66% limit has been exceeded.

Also, how does renting some of the apartments affect the income requirement? Is the 50% threshold applied per apartment or for the entire building?

It is per apartment.
Just read the law, § 21 (2) EStG, it says Wohnung (= apartment) in there: https://dejure.org/gesetze/EStG/21.html

• (2)
  1If the fee for the rental of an apartment for residential purposes is less than 50% of the local market rent, the transfer of use must be divided into a "for profit" and a "pro bono" part.
  2If the fee for long-term apartment rental is at least 66% of the local market rent, the apartment rental is considered in its entirety as "for profit".

You seem to be stuck on the 50%, you should read the definition of "auf Dauer", which got translated as "long-term" in the above § 21 (2) EStG.
Please read (it's Haufe, so copy the text into DeepL.com to translate it): https://www.haufe.de/personal/haufe-per ... 97242.html

• No. 28
  The conclusion of a tenancy agreement for a fixed term is not in itself an argument against a long-term tenancy.

Especially since in your case, these rental contracts will be more long-term than you think...

**************************************************************************************************************************************

Please note that if you let space for non-living purposes (e.g. as an office, or if you let a garage, if it is not let together with a flat), there is no "66%/50% rule" like the one above: https://www.haufe.de/finance/haufe-fina ... 60453.html
--> if you charge too little rent there, the Finanzamt will always cut your rental expenses accordingly.