The One Big Beautiful Bill Act restored 100% bonus depreciation permanently for qualified property acquired and placed in service after January 19, 2025, which means a private real estate or operating asset fund can again pass a large first-year loss through to its investors. For an advisor, the right way to evaluate a depreciation-driven fund for a client is to underwrite the investment on its economics first, then test whether the client can actually use the loss under the passive activity rules, the excess business loss limitation, and the client’s state tax rules, and finally price in recapture at exit.
What Changed With OBBBA and Why Sponsors Are Talking About It
Bonus depreciation lets a business deduct a large share of an asset’s cost in the year it is placed in service instead of spreading the deduction over the asset’s recovery period. The 2017 tax law set the bonus rate at 100% and then scheduled it to phase down: 80% for property placed in service in 2023, 60% in 2024, and 40% in 2025. The One Big Beautiful Bill Act, signed July 4, 2025, reversed the phase-down and set the rate back to 100% with no scheduled sunset for property acquired after January 19, 2025.
Which property qualifies
Bonus depreciation applies to property with a recovery period of 20 years or less under the modified accelerated cost recovery system. In a real estate fund that means the components a cost segregation study carves out of the purchase price: 5-year and 7-year personal property such as equipment, fixtures, and certain finishes, and 15-year land improvements such as paving, fencing, lighting, and landscaping. Qualified improvement property, meaning certain interior improvements to nonresidential buildings, is also 15-year property. The building shell itself remains 27.5-year residential or 39-year nonresidential property and does not qualify.
Why operating asset funds benefit more than office or apartments
The share of a purchase price that qualifies for bonus depreciation depends on the asset type. A cost segregation study on an apartment community might allocate 20% to 30% of the depreciable basis to short-lived property. A flex industrial building with extensive site work can land in a similar range. An express car wash is different: car wash buildings fall into a 15-year asset class under the IRS asset class tables, and tunnel equipment is 5-year property, so the qualifying share can be materially higher. That is why car wash and similar operating asset sponsors lead with the tax story. The larger the qualifying share, the larger the first-year loss relative to the investment.
What the loss looks like on the client’s return
The fund is almost always a partnership, so the client receives a Schedule K-1 showing their share of the fund’s income or loss with depreciation already netted in. A client who invests $100,000 in a fund where 60% of the depreciable basis qualifies for bonus might see a first-year K-1 loss in the range of $50,000 to $60,000, depending on leverage, operating income, and the timing of acquisitions. Whether that loss reduces the client’s tax bill in the same year is the question the rest of this article addresses.
Step One: Underwrite the Investment as if the Tax Benefit Did Not Exist
A depreciation-driven fund should stand on its own as an investment before you consider the tax effect, because the tax benefit is a timing difference and the investment risk is permanent.
Depreciation is a deferral, not a permanent saving
Every dollar of bonus depreciation reduces the client’s basis in the investment. When the fund sells the asset, the gain is larger by the amount depreciated, and the portion attributable to personal property is recaptured as ordinary income while the real property portion is taxed at up to 25%. If the client’s marginal rate at exit is the same as at entry, the net benefit is the time value of the deferral plus any rate arbitrage between ordinary income today and capital gain treatment at exit on the appreciation component. That is real value, but it is smaller than the headline first-year loss implies.
Evaluate the operator, the asset, and the fees first
Ask the same questions you would ask of any private fund: who runs the assets, what is the track record including losses, what are the fees and the waterfall, how much of the sponsor’s own capital is committed, what is the hold period and exit plan, and where are the assets custodied. A fund that only makes sense because of the tax loss is a fund that will disappoint when the loss is used up and the operating returns have to carry the investment.
Model the after-tax return, not the first-year deduction
Build a simple after-tax cash flow model over the expected hold: the client’s capital in, distributions out, the tax value of the year-one loss at the client’s effective rate if it can be used, the tax on distributions and operating income in later years, and the tax on recapture and gain at exit. Compare the after-tax internal rate of return with a liquid alternative on the same basis. This is the number that belongs in the suitability file.
Step Two: Test Whether the Client Can Use the Loss
Most clients cannot deduct a passive real estate loss against wages or portfolio income, and the advisor who does not check this before recommending a depreciation-driven fund will have an unhappy client at tax time.
The passive activity rules
Losses from a fund in which the client does not materially participate are passive under Section 469. Passive losses offset only passive income. Suspended losses carry forward and are released when the activity is disposed of in a fully taxable transaction. Rental real estate has a small special allowance of up to $25,000 for taxpayers who actively participate, but it phases out completely at $150,000 of modified adjusted gross income, so it rarely helps accredited investors.
Who can use the loss against ordinary income
A client who qualifies as a real estate professional, meaning more than 750 hours and more than half of their working time in real property trades or businesses in which they materially participate, can treat rental losses as non-passive if they also materially participate in the rental activity or have made a grouping election. That is a high bar for an investor in someone else’s fund. A client with substantial passive income from other sources, such as a business they own but do not run or other rental activities that are profitable, can absorb the loss directly. For most W-2 earners the loss is suspended and its value is deferral rather than an immediate deduction.
The excess business loss limitation
Even a client who clears the passive rules faces Section 461(l), which caps the amount of aggregate business losses that can offset non-business income in a year. The thresholds for 2025 are roughly $313,000 for single filers and $626,000 for joint filers, indexed annually, and OBBBA made the limitation permanent. Losses above the threshold become a net operating loss carryforward. For a client contemplating a large allocation to a depreciation-driven fund, this is often the binding constraint.
Basis and at-risk limits
A partner can deduct losses only up to their basis in the partnership interest, and only to the extent they are at risk. Nonrecourse debt at the fund level generally increases basis for real estate but the at-risk rules treat only qualified nonrecourse financing secured by real property as at-risk. Losses that exceed basis or at-risk amounts are suspended separately from the passive rules. The K-1 reports the client’s share of liabilities by type so a CPA can check.
Comparing How Bonus Depreciation Reaches the Investor Across Fund Structures
The structure of the vehicle determines whether any depreciation reaches the client at all. The table below compares the common structures an advisor sees.
| Factor | Private partnership fund (Reg D) | Delaware statutory trust | Non-traded REIT | Interval fund |
|---|---|---|---|---|
| Depreciation passes to investor | Yes, through Schedule K-1 | Yes, as a direct fractional owner | No; absorbed at the REIT level | No; absorbed at the fund or REIT level |
| Bonus depreciation on new acquisitions | Full pass-through of qualifying share | Limited; trusts generally cannot reinvest or improve | Shelters REIT taxable income, reducing taxable dividends | Shelters underlying income only |
| Tax form the client receives | Schedule K-1 | Grantor trust statement or substitute 1099 | Form 1099-DIV | Form 1099-DIV |
| Character of distributions | Often return of capital in early years | Often partly return of capital | Ordinary dividends, partly return of capital | Ordinary dividends, capital gains, return of capital |
| Recapture at exit | Borne by investor on sale | Borne by investor unless exchanged | Handled at REIT level; investor has capital gain on shares | Handled at fund level |
| Liquidity | Illiquid; multi-year hold | Illiquid; multi-year hold | Limited repurchase program | Quarterly repurchase, typically 5% of shares |
| Investor qualification | Accredited investor | Accredited investor | Suitability standards, often lower | Retail |
Step Three: Check State Conformity
The federal deduction does not automatically flow to the client’s state return, and for clients in non-conforming states the tax benefit is smaller than the federal projection suggests.
States that decouple from bonus depreciation
Roughly a third of states either disallow bonus depreciation entirely or require it to be added back and depreciated over a longer schedule. California does not conform to federal bonus depreciation at all. Several other large states require an addback with a multi-year recovery. The result is that a client in a decoupled state gets the federal deduction but must add the bonus amount back for state purposes and take state depreciation over the normal recovery period.
Multistate filing from a fund with properties in several states
A fund that owns assets in several states may generate a filing obligation in each of them for the client, or the fund may file composite returns on investors’ behalf. Ask the sponsor which approach it takes and what the historical practice has been. A client who has never filed outside their home state may not welcome three new nonresident returns.
Ask the sponsor for a state-by-state schedule
A sponsor that markets on the tax benefit should be able to tell you where its properties are, whether it files composite returns, and which states decouple. If the sponsor cannot, that is information about the sponsor’s sophistication as well as about the tax outcome.
Step Four: Price in Recapture and the Exit
The exit is where the deferral ends, and the client’s after-tax outcome depends on how the fund handles it.
How recapture works on a fund interest
When the fund sells a property, the partnership recognizes gain, and the portion attributable to depreciation on personal property is recaptured as ordinary income under Section 1245. The portion attributable to real property depreciation is unrecaptured Section 1250 gain taxed at a maximum of 25%. The remainder is Section 1231 gain, which is generally treated as long-term capital gain. These items are reported on the K-1 in the year of sale and flow to the client’s return.
Why 1031 exchange does not apply to fund interests
Section 1031 like-kind exchange treatment is available for real property but not for partnership interests. A client who owns a fund interest cannot exchange it into another property to defer recapture. Some funds structure exits to give investors the option of exchanging at the property level, but that requires specific planning and is not the default. Do not assume an exchange is available.
Suspended losses are released at disposition
If the client’s passive losses were suspended in early years, a fully taxable disposition of the entire interest releases them, and they offset the gain and recapture recognized in the same year. For many clients this is the mechanism that makes the investment work: the loss was not usable when generated, but it shelters the gain at exit. Make sure the client understands that the timing of the tax benefit may be years after the year of the deduction.
Practical Considerations for the Advisor
K-1 timing and the client’s filing calendar
Partnership K-1s frequently arrive after the March 15 partnership deadline and sometimes after April 15. Clients who invest in depreciation-driven funds should expect to extend their personal returns. Ask the sponsor for its historical K-1 delivery dates and the name of its fund administrator, and build the expectation into the client conversation before the subscription.
Cost segregation study quality
The size of the first-year loss depends on the cost segregation study. Ask who performs it, whether it is an engineering-based study, and whether the sponsor has been through an examination on a prior study. An aggressive study produces a bigger loss and a bigger audit exposure.
Coordinating with the client’s CPA
Bring the client’s CPA into the conversation before the subscription, not at tax time. The CPA can confirm the client’s passive income position, the excess business loss headroom, the state conformity picture, and the basis tracking that will be needed at exit. A depreciation-driven fund recommended without the CPA’s input is a coordination failure waiting to surface.
The QC Capital approach to depreciation-driven investing
QC Capital sponsors express car wash and integrated car care investments and multi-tenant flex industrial properties in Southeast markets, structured as Regulation D Rule 506(c) partnerships for accredited investors. Car wash buildings and equipment fall into short recovery classes, so QC Capital’s car care funds generate meaningful first-year depreciation, and QC Capital’s approach is to present that as a feature of an operating investment rather than the reason to invest. Fund assets are custodied at Charles Schwab, investors receive reporting through an InvestNext portal, and QC Capital states that it maintains a GP commitment in every acquisition. Advisors evaluating a QC Capital fund for a client can request the offering documents, the cost segregation approach for each asset type, and historical K-1 delivery timing.
Frequently Asked Questions
Is 100% bonus depreciation permanent after OBBBA?
Under the One Big Beautiful Bill Act, 100% bonus depreciation applies to qualifying property acquired and placed in service after January 19, 2025, with no scheduled phase-down. Congress can change the law again, so “permanent” means no sunset is currently written into the statute.
Can bonus depreciation from a real estate fund offset my client’s W-2 income?
Generally no. Losses from a fund in which the client does not materially participate are passive and offset only passive income, unless the client qualifies as a real estate professional and materially participates. Suspended losses carry forward and are released when the client disposes of the entire interest.
What is the excess business loss limitation for 2025?
Roughly $313,000 for single filers and $626,000 for joint filers, indexed annually. Business losses above the threshold cannot offset non-business income in the current year and become a net operating loss carryforward. OBBBA made the limitation permanent.
Do REIT or interval fund shareholders get bonus depreciation?
No. Depreciation is taken at the REIT or fund level and reduces the entity’s taxable income, which can make part of the distribution a return of capital, but the shareholder does not receive a deductible loss. Only direct ownership or a partnership interest passes depreciation through to the investor.
How is bonus depreciation recaptured when the fund sells?
Gain attributable to depreciation on personal property is recaptured as ordinary income. Gain attributable to real property depreciation is unrecaptured Section 1250 gain taxed at up to 25%. Any remaining gain is generally long-term capital gain. All of it is reported on the K-1 in the year of sale.
If you are evaluating a depreciation-driven fund for a client and want the offering documents and cost segregation approach for QC Capital’s car care or flex industrial offerings, you can reach the team through the QC Capital contact page.
