Depreciation in Real Estate Partnerships: What GPs and LPs Need to Know

In this episode of the Major League Real Estate Podcast, Nate Sosa and Thomas Castelli break down one of the most important tax concepts in real estate syndications: depreciation. With K-1 season in full swing, they walk through how depreciation works inside a partnership, how losses are allocated, what passive loss rules mean for limited partners, and why basis and capital accounts matter when trying to use those deductions. The episode is a practical refresher for both operators and investors trying to better understand what they are seeing on their tax forms.

What Depreciation Really Is

Tom starts by going back to the basics. Depreciation is a non-cash expense that reflects the gradual wear and tear of a building over time. From a tax perspective, it gives real estate owners a deduction even though no cash is leaving their bank account when that deduction is taken.

In larger multifamily and commercial deals, investors often accelerate depreciation through a cost segregation study. Instead of depreciating the entire property over 27.5 years for residential property or 39 years for commercial property, a cost seg study breaks out specific components into shorter asset lives—often five-, seven-, or 15-year property. That creates larger deductions sooner, especially when bonus depreciation is available.

Why LPs Usually Cannot Use the Losses Right Away

A major point in the episode is that depreciation is valuable, but limited partners usually cannot use those losses against W-2 or active business income.

For most LPs, the losses from a syndication are passive. That means they can offset other passive income, but if there is no passive income to absorb them, the losses are suspended and carried forward. Those losses are not lost—they can be used later against future passive income or when the property is sold.

This is why many investors still value depreciation, even if they do not get an immediate year-one tax benefit. The timing may be delayed, but the deductions still matter.

Why GPs Often Care More About Current-Year Losses

On the GP side, the conversation is often different. Operators may have acquisition fees, asset management fees, development income, or other earnings they want to offset. That is why many sponsors ask whether more depreciation can be allocated to the GP group.

The answer is: sometimes, but not automatically. The key issue is whether the GP actually has enough basis and enough economic risk in the deal to support the allocation.

Capital Accounts and Basis: Why They Matter

Nate and Tom explain that many investors look at the capital account section of the K-1 without really understanding what it means. At a basic level, capital accounts and basis help determine how much loss a partner can absorb.

A partner’s basis generally starts with their capital contribution. It can increase through additional contributions, allocated income, and certain debt allocations. It decreases through losses and distributions. If losses exceed basis, the excess losses are suspended at the partnership level until there is enough basis to use them.

This becomes especially important in syndications where LPs may have contributed cash and GPs may not have. If the GP did not contribute meaningful capital, that can limit how much depreciation they can actually take.

Why Debt Matters in Real Estate Partnerships

One of the reasons real estate is unique is because certain debt can increase basis. Qualified nonrecourse financing, which is common in real estate, may give partners additional basis and allow them to take more losses than their capital contribution alone would support.

That said, Nate makes the point that debt does not solve every allocation issue. Just because a GP guarantees debt or is involved in the financing does not automatically mean they should receive all the depreciation. The IRS still looks at the real economics of the deal and who is actually bearing the economic risk of loss.

Why Special Allocations Are So Complicated

The episode also covers why special depreciation allocations can be difficult to do correctly. Many operators want to direct more losses to the GP group, but partnership tax law does not allow partners to simply allocate deductions however they want.

Those allocations must have substantial economic effect. In other words, the tax allocation must follow the real economic arrangement of the deal. If someone is receiving losses for tax purposes, they also need to bear the actual economic consequences tied to those losses.

This is where deficit restoration obligations, qualified income offsets, and other partnership provisions can come into play. But as Nate and Tom explain, these are not casual drafting choices. They can create real obligations for partners later if the deal underperforms or liquidates unexpectedly.

Why the Operating Agreement Is So Important

One of the clearest practical takeaways from the episode is that syndicators need tax professionals reviewing their operating agreements before deals close. Too many agreements contain conflicting language about profit allocations, liquidation waterfalls, and tax allocations.

That creates confusion and can lead to real tax problems later. The operating agreement is what drives the partnership economics, and if it is not aligned with the tax rules, the deal may not produce the results the sponsors expected.

Bonus Depreciation Is Back—But That Does Not Solve Everything

Nate and Tom also highlight that 100% bonus depreciation is back for qualifying property acquired and placed in service after January 19, 2025. That is a major planning opportunity for syndicators and investors because it allows even more front-loaded deductions.

But bonus depreciation does not override the passive activity rules, basis rules, or partnership allocation rules. Investors still need enough basis to use the losses, and LPs still need passive income or a future disposition event if they cannot use the losses right away.

How GPs and LPs Can Maximize the Benefit

For syndicators, the best way to maximize depreciation is usually straightforward: do a cost segregation study, make sure the operating agreement is properly structured, understand who has basis, and work with tax professionals who know partnership rules.

For LPs, the key is tracking passive losses carefully and understanding how those losses fit into their broader tax picture. If an investor also qualifies as a real estate professional through their own portfolio, that can change the analysis significantly. But for most passive investors, the value comes from carrying those losses forward and using them later.

Final Thoughts

The biggest message from this episode is that depreciation is one of the most powerful tools in real estate—but it is not as simple as “buy property and get a deduction.” In partnerships, the tax benefits depend on the structure of the deal, the economics of the operating agreement, the capital contributed, the debt allocated, and whether the investor is active or passive.

For both GPs and LPs, understanding those moving parts is the difference between getting the tax benefit you expected and being surprised when the K-1 shows up. Interested in working with tax experts? Schedule a discovery call with our firm.

Disclaimer: This podcast summary was generated from the transcript and may contain some errors or miss key points from the audio recording. Any mention of third-party vendors, products, or services does not constitute an endorsement or recommendation. You should conduct your own due diligence before engaging with any vendor.