Tax Mechanics
Missed Depreciation on Your Rental Property? Here's How Form 3115 Fixes It
Form 3115 (Application for Change in Accounting Method) allows rental property owners to recover all missed depreciation in a single tax year through a Section 481(a) catch-up adjustment, without filing amended returns for each prior year. The IRS requires this method when correcting depreciation errors going back more than two years.
By Rich Arzaga, CFP®, CCIM
The Real Estate Whisperer® Financial Planning
| 4 min read
A client forwarded me an email from her CPA last fall. The subject line read: "You've never depreciated your rental." She'd owned the property for eight years. Eight years of a deduction she had legally earned and never claimed. The CPA's next sentence was the important one: "The good news is we can fix all of it this year."
Why Depreciation Gets Missed
Depreciation isn't intuitive. Unlike a repair bill or a mortgage interest statement, there's no form that arrives in your mailbox each January reminding you to claim it. It's a calculated deduction based on the cost basis of the building (not the land), spread over 27.5 years for residential rental property, and 39 years for all other property.
Some property owners skip it because they think it complicates their taxes at sale. Others simply didn't know it existed. A few had CPAs who weren't real estate specialists and set up the return incorrectly from year one.
Depreciation is one of the most powerful deductions in the tax code, and one of the most frequently missed.
The "Allowed or Allowable" Trap
Here's the part that surprises most people: the IRS doesn't care whether you took the deduction. Under the "allowed or allowable" rule, they reduce your cost basis as if you did, which means when you sell, you'll owe tax on depreciation recapture for deductions you never actually received.
Not correcting the error doesn't make it go away. It makes it worse.
How Form 3115 Works
Form 3115 is an IRS-approved mechanism for changing your accounting method, in this case, from incorrectly not taking depreciation to correctly taking it. The cumulative missed depreciation gets claimed in a single year as a Section 481(a) adjustment.
This is filed with your current year's return, not as a stack of amended returns for each prior year. One filing. One deduction. All the missed years addressed.
One Form 3115. One year. Every year of missed depreciation, recovered.
Who Should File Form 3115
You're a candidate if you've owned rental property for two or more years and: (1) depreciation was never claimed, (2) the building's cost basis was calculated incorrectly, or (3) you took only partial depreciation.
This is a specialized filing. Not every CPA is comfortable with it. Look for a tax professional with real estate experience, and ideally one who has filed Form 3115 before. A straightforward situation can often be resolved in a single tax season.
Frequently Asked Questions
- What is Form 3115 used for in real estate?
- Form 3115 is used to change your accounting method with the IRS. For rental property owners, it's most commonly filed to correct missed or miscalculated depreciation, allowing you to claim all the missed deductions in a single current-year return.
- How far back can I recover missed depreciation?
- There is no statutory time limit on how far back you can recover missed depreciation using Form 3115. The cumulative amount is claimed as a Section 481(a) adjustment in the year you file the correction.
- Do I need to amend prior tax returns to fix missed depreciation?
- No. That's one of the key benefits of Form 3115. Rather than filing amended returns for each prior year, you claim all missed depreciation as a single catch-up deduction on your current-year return.
- Will the IRS penalize me for previously missing depreciation?
- The IRS does not penalize you for not claiming depreciation, but they will reduce your cost basis as if you had, creating a larger taxable gain at sale. Correcting the error through Form 3115 is encouraged, not penalized.
About Rich Arzaga, CFP®, CCIM
Rich Arzaga is the founder of The Real Estate Whisperer® Financial Planning and creator of The Real Estate Income Lab® and The 5% Real Estate Performance Gap®. He provides comprehensive, flat-fee financial advice that brings investment real estate together with retirement, investments, taxes, insurance, estate planning and the rest of a client's financial life.
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