When investors choose to assume greater debt with the replacement property compared to the relinquished property, they have the opportunity to add the additional debt to the tax basis of their investment. This increased tax basis can result in a larger deduction for depreciation expenses, providing investors with a greater tax shelter. It’s important to note that depreciation is an accounting concept that is allowed even if the property is appreciating in value.
Many investors have owned their relinquished property for a significant period and may have paid off most or all of the debt associated with it. In such cases, it is worth considering investing in a conservatively leveraged property to increase the tax basis. By doing so, investors can take advantage of the benefits of a larger deduction for depreciation expenses and potentially reduce their tax liability.