Depreciation doesn't reset in a 1031 exchange. The schedule from your old property carries over to the new one, and if you trade up, the extra cost - the excess basis - starts a second schedule. You end up tracking both, and the layers pile up with every exchange.
How depreciation works on investment property
Own a rental and the tax code hands you a yearly deduction for the building wearing out. Structures don't last forever, so you get to write off a slice of their cost each year. Land is the exception. It doesn't wear out, so it's never depreciable - only the improvements on top of it are. And you don't set the pace yourself. The recovery period, the number of years you spread the cost over, is fixed by what kind of property you own:
Property type | Recovery period | Method |
|---|---|---|
Residential rental | 27.5 years | Straight-line |
Commercial/non-residential | 39 years | Straight-line |
Qualified improvement property | 15 years | Straight-line (bonus depreciation may apply) |
Land improvements (parking, landscaping) | 15 years | Straight-line or accelerated |
You have to take the deduction even if you'd rather skip it. Under the "allowed or allowable" rule, the IRS reduces your basis by the depreciation you should have claimed, whether or not you actually claimed it. Basis is the number subtracted from your sale price to work out taxable gain, so a smaller basis means a larger gain later.
That's the catch built into depreciation. Every year's write-off trims your taxable rental income now, but it also lowers your adjusted basis - your remaining investment in the property for tax purposes - and a lower basis means a bigger gain when you sell. On top of that, the deductions you took come back as depreciation recapture: the IRS taxes that slice of the gain separately when you exit.
What a 1031 exchange does to your depreciation
A 1031 exchange lets you sell one investment property, move the proceeds into another, and defer the tax you'd otherwise owe. Depreciation comes along for the ride, and it behaves in a way that catches people off guard: it doesn't start over.
Take the recapture first. On an ordinary sale, all the depreciation you've claimed, or should have, gets taxed at 25%. In an exchange, that tax is deferred right alongside your capital gains.
Your basis is what carries forward, and it splits into two pieces. Whatever depreciable basis is left on the property you sold transfers to the replacement and keeps running on its original schedule. If the replacement cost more than that leftover basis, the extra amount starts a second schedule from scratch. Those two pieces have names: carryover basis and excess basis.
Carryover basis and excess basis
Carryover basis is what's left to depreciate from the property you gave up. It resumes right where it stopped, across whatever remains of the original 27.5- or 39-year term.
Excess basis is the gap between the replacement property's depreciable value and that carryover amount. It begins a new schedule on the day you buy.
Put real numbers on it:
| Amount |
|---|---|
Relinquished property - original depreciable basis | $300,000 |
Depreciation claimed (10 of 27.5 years) | $109,091 |
Remaining carryover basis | $190,909 |
Remaining life on original schedule | 17.5 years |
Replacement property purchase price | $600,000 |
Land allocation (20%) | $120,000 |
Replacement depreciable improvements | $480,000 |
Minus carryover basis | $190,909 |
Excess basis | $289,091 |
New depreciation period | 27.5 years |
You now have two schedules running at once:
- Schedule A: $190,909 over the remaining 17.5 years = $10,909/year
- Schedule B: $289,091 over 27.5 years = $10,512/year
- Total annual depreciation: $21,421
Calculating your new depreciation schedules
Nailing down those two schedules takes four numbers:
- The remaining basis on the property you sold - its original depreciable basis minus all the depreciation you've claimed.
- The years left on its recovery period - what's still to run on the original 27.5- or 39-year schedule.
- The replacement's total depreciable value - purchase price minus the land allocation.
- The exchange calculation itself - which sets the carryover basis and flags any boot (cash or other non-like-kind value you receive, which is taxable) or gain you have to recognize now.
Your CPA usually handles this as part of filing Form 8824, the IRS form for like-kind exchanges. The two-schedule result then flows onto Schedule E, where you report rental income and expenses, in every year that follows.
One input carries outsized weight: the land allocation on the replacement property. Land isn't depreciable, so the more of the price you assign to it, the less excess basis you have left to depreciate. Give that allocation a basis you can defend - assessor records, an appraisal, or a comparable sales analysis - rather than a number picked for convenience.
Serial exchanges and stacking depreciation
Every exchange adds a layer. Trade properties a few times over the years and you can end up with several schedules running side by side, each on its own clock. After three exchanges spread across 25 years, your books might carry:
- Carryover Schedule A from Property 1, with 5 years left
- Carryover Schedule B from Property 2, with 12 years left
- Excess Schedule C from Property 2, with 20 years left
- Excess Schedule D from Property 3, with 27.5 years left
Each has its own annual amount and its own remaining life. None of it is unmanageable with good software and a CPA who knows 1031 exchanges, but every deal raises the cost of sloppy records.
Cost segregation after a 1031 exchange
A cost segregation study takes a building apart on paper and reclassifies its shorter-lived pieces - carpet, appliances, some electrical and plumbing fixtures - out of the 27.5- or 39-year category and into 5-, 7-, or 15-year schedules. The write-offs come faster.
After an exchange, a study can reach only the excess basis. The carryover basis stays on its original schedule no matter what. So the benefit grows with the size of the excess basis, which is largest when you trade up to a considerably more expensive property.
Bonus depreciation can push this further - it lets you deduct a large share of qualifying property in the first year - but the percentage has been phasing down, so check the current rate. Where it applies, combining it with cost-segregated excess basis can produce sizable first-year deductions.
What records to keep, and for how long
For each exchange, hold on to:
- Closing statements (HUD-1 or ALTA) for both the sale and the purchase
- Exchange documents from your qualified intermediary, such as the exchange agreement and identification letters
- Form 8824 as filed with your return
- Depreciation schedules showing carryover basis, remaining life, and excess basis
- Land allocation documentation for both properties
- Capital improvement records for the relinquished property
Keep them permanently. Most tax records you can discard after three to seven years, but 1031 records have to survive as long as you own the replacement property, plus three years after you eventually sell it. For serial exchangers, that means holding on to the paperwork from every exchange in the chain, which can stretch across decades.
Depreciation in a 1031 exchange doesn't reset; it restructures. The old schedule carries over, new basis gets its own schedule, and the layers compound with each exchange. This is where a CPA who knows 1031 exchanges earns their fee. Done well, the tracking keeps your annual deductions accurate and your basis records clean for the day you finally sell.
Frequently asked questions
Does my depreciation reset to zero after a 1031 exchange?
No, though plenty of people assume it does. Your carryover basis keeps depreciating on the original schedule. Only the excess basis, if you have any, starts a new one.
What if I exchange into a less expensive property?
Then there's no excess basis, only carryover. If the replacement costs less than the net sale price of the property you sold, the difference is boot, which is taxable, and your depreciation runs off a lower total basis.
Can I depreciate land?
No. Land never depreciates. Only the improvements do - buildings, structures, and certain land improvements like parking lots, landscaping, and fencing. That's exactly why the land allocation matters in every exchange.
Does a cost segregation study make sense after an exchange?
A cost segregation study only accelerates the excess basis, never the carryover, so its impact tracks how large that excess is. Some investors weigh it once the excess reaches $200,000 or more. The study itself typically runs $5,000 to $15,000, and whether the front-loaded deductions justify that cost depends on your excess basis, your tax situation, and how much you value deductions now versus spread over the years.