Depreciation

Depreciation (AfA) - Depreciation is the tax-deductible write-off of the building value of a rental property, which allows owners to deduct the calculated annual loss in value of the building from their rental income as business expenses, thereby reducing their tax burden.

How does depreciation work for real estate?

The Income Tax Act assumes that a building loses value due to use and aging. Landlords can claim this loss in value for tax purposes by deducting a fixed percentage of the building’s acquisition costs annually as business expenses. AfA reduces taxable income from renting and leasing and thus the income tax payable.

A key principle: Only the building portion is eligible for depreciation, not the land value, since land is not subject to wear and tear. The so-called purchase price allocation between the building and land portions is therefore one of the most important levers for tax optimization of an investment property. The Federal Ministry of Finance provides a guide for purchase price allocation, which is regularly used by tax offices. In practice, we recommend specifying the allocation in the purchase agreement itself.

Since the reform of the Annual Tax Act of 2022, the following rates apply to the amount of depreciation:

• Straight-line depreciation of 2 percent (useful life of 50 years): Applies to buildings completed before January 1, 2023. For a building portion of 200,000 euros, this amounts to 4,000 euros annually, which is deductible as income-related expenses.
• Straight-line depreciation at 3 percent (useful life of 33 years): Applies to buildings completed on or after January 1, 2023. Here, the annual depreciation increases to 6,000 euros for the same building value.
• Declining-balance depreciation at 5 percent: Introduced in 2023 for new residential buildings, this method allows for significantly higher depreciation in the early years, as the percentage is always based on the respective remaining book value. This option is particularly attractive to investors seeking significant tax relief in the short term.

In addition, there is the special depreciation under Section 7b of the German Income Tax Act (EStG), which allows for an additional depreciation of five percent of the construction costs over four years for the construction of new affordable rental housing, provided certain construction cost limits are met. This special depreciation can be claimed in addition to the regular straight-line depreciation.

Comparison of Straight-Line, Declining-Balance, and Special Depreciation

The choice between straight-line and declining-balance depreciation depends on the individual tax situation and the planned holding period. Straight-line depreciation offers consistent annual depreciation amounts and thus predictable tax savings over the entire useful life. Declining-balance depreciation shifts the tax savings to the early years: In the first year, five percent of the building’s value is depreciated; in the second year, five percent of the remaining book value, and so on. While the total amount over the entire term does not increase, there is a significantly greater tax relief in the first ten to fifteen years.

A one-time switch from declining-balance to straight-line depreciation is possible and may be advisable if the declining-balance depreciation falls below the straight-line amount. A switch back is not permitted.

Practical Tip for Property Owners in Nuremberg and Franconia

For investors in the Nuremberg metropolitan region, the allocation of the purchase price is particularly relevant, as land prices vary significantly depending on the neighborhood. In Erlenstegen or Schmausenbuck, the land portion is significantly higher than in Muggenhof or Nuremberg-South, which reduces the depreciable building portion. We recommend having the allocation verified by an expert and transparently documented in the purchase agreement to avoid future disputes with the tax office.

For older apartments in Nuremberg’s Old Town or in Wilhelminian-style neighborhoods like Gostenhof, a shorter remaining useful life can also be substantiated through an expert appraisal, leading to higher annual depreciation amounts. Our network of tax advisors and experts in the region can advise you on the optimal depreciation strategy.

Frequently Asked Questions

Can I claim depreciation on owner-occupied residential property?

No, depreciation for buildings is available exclusively to landlords who generate income from renting and leasing. Depreciation is not possible for owner-occupied residential property. An exception applies in cases of mixed use: If part of the property is rented out and part is owner-occupied, depreciation can be claimed on a pro-rata basis for the rented portion of the building.

What happens to depreciation when the property is sold?

The depreciation claimed up to the time of sale reduces the tax-deductible acquisition cost. If the property is sold within the ten-year speculation period, the capital gain is calculated taking into account the depreciation already claimed. The gain is therefore higher because the acquisition cost is reduced by the depreciation amounts. After the speculation period expires, the capital gain is tax-free for private individuals.

How do I calculate the purchase price allocation between the building and the land?

Ideally, the purchase price allocation is specified in the purchase agreement based on the ratio of the building value to the land value. We determine the land value using the standard land values published by the Appraisal Committee of the City of Nuremberg. The building portion is calculated as the difference from the total purchase price. Alternatively, an expert appraisal can substantiate the allocation. We recommend coordinating the allocation with your tax advisor before the purchase.

Can modernization costs be depreciated in addition to regular depreciation?

Yes, but the tax treatment of modernization costs depends on whether they are construction costs or maintenance costs. Maintenance costs (e.g., replacing an old heating system with an equivalent one) are immediately deductible as business expenses-the tax office recognizes the costs in the year of payment. Construction costs, on the other hand (e.g., a first-time attic conversion that permanently expands the living space), must be capitalized and depreciated over the depreciation period. The distinction is often contentious in practice and should be discussed with a tax advisor. A special case involves construction costs incurred shortly after acquisition under Section 6(1)(1a) of the German Income Tax Act (EStG): Expenses exceeding 15% of the building’s purchase price within the first three years after acquisition must be treated as construction costs-a common pitfall with affordable renovation properties in Nuremberg’s older building stock.

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