Depreciation: Form 4562
The main concept is that the IRS allows the investor to depreciate the value of a residential property buildings value over several decades. To quantify this effect, a linear depreciation of a house price over 27.5 years corresponds to an annnual 3.6% depreciation expense. This is a sizeable amount compared to the cap rate of a property which is in the 2% - 9% range.
To fill this form, you will need the purchase price, and month of purchase, as well as documents sent by your local tax authority (county or city) which shows the assessed value of the property. This form allows you to depreciate up to two residential properties, you will need to file several such form for every 2 properties you own.
The amount that is to be amortised consists of the building value, excluding land. It is therefore lower than the purchase value. This value is called the basis for depreciation. It is obtained by multiplying the property purchase price by the ratio of the assessed building value over the the assessed total (land + building) value. This ratio is usually between 90% and 70%, but the IRS instructions specify that assessed value should be used for its computation.
The method used to obtained the annual depreciation amount is called the MACD Depreciation over 27.5 years. It can be computed using online calculator. Only part III needs to be filled for the purpose of residential property depreciation.