The $5,000 Mistake Nobody Talks About
Sarah owns a five-unit apartment building and uses a property manager to handle day-to-day operations. Last year, her PM’s owner statement showed a $4,800 charge for “plumbing work.” She deducted the full amount as a repair on her Schedule E.
Six months later, her CPA reviewed the itemized invoice and realized the work wasn’t a pipe patch—it was a complete repipe of the entire building, replacing corroded galvanized lines with modern PEX plumbing. That’s a capital improvement that should have been depreciated over 15 years, not deducted all at once.
The error cost Sarah nearly $1,600 in overpaid taxes plus penalty interest.
This scenario plays out thousands of times every tax season, primarily among PM-managed investors who rely on their property managers to categorize expenses correctly. The reality? Property managers are operations professionals, not tax strategists. They often group repairs and improvements together, use vague line items, or make categorization decisions that don’t align with IRS requirements.
If you manage your properties yourself, you might catch these distinctions. If you hire a PM, you’re at a significant disadvantage—unless you understand the rules yourself.
Why This Distinction Matters So Much
The difference between repairs and capital improvements isn’t academic. It’s one of the largest tax deduction opportunities available to real estate investors.
Repairs are fully deductible in the year they’re incurred. If you spend $2,000 repainting your rental unit after a tenant moves out, you deduct $2,000 that year.
Capital improvements must be depreciated. That $50,000 roof replacement gets deducted at roughly $1,667 per year over 30 years. You don’t see the full tax benefit until decades pass.
Over a 10-year period, this difference can amount to tens of thousands of dollars in deferred tax benefits—money that could be reinvested in your portfolio.
Getting it wrong cuts both ways: You either lose deductions you should have taken (treating improvements as repairs) or trigger audit risk (treating improvements as current-year deductions).
The IRS Framework: What Counts as a Repair vs an Improvement
The IRS doesn’t make this easy, but they do provide clear guidance through the “BRA” test—Betterment, Restoration, and Adaptation.
Betterment occurs when you improve property beyond its original condition. Adding new features, upgrading quality, or enhancing functionality all qualify as improvements.
Restoration happens when you restore property that’s deteriorated or partially damaged to its original condition. However, if that restoration also betters the property, it’s classified as an improvement.
Adaptation is when you modify property for a new use it wasn’t originally designed for.
Under this framework:
Pure Repairs restore property to its original condition without bettering or adapting it. They maintain value but don’t add new capability.
Capital Improvements add value, extend useful life, adapt to new use, or materially better the property.
Here’s where it gets tricky: The determination often depends on context and specificity that doesn’t appear on a typical owner statement line item.
Real Examples From PM-Managed Properties
Let’s apply this to scenarios you’ve likely encountered:
Example 1: Faucet Repair vs Plumbing Replacement
Fixing a broken faucet: $150. The faucet was working; now it’s restored to its original function. Deduct immediately as a repair.
Replacing all plumbing in a unit: $8,500. Even if triggered by a single leak, replacing an entire system improves the property substantially, extends its useful life, and betters its condition. Capitalize and depreciate over 15 years.
Patching a corroded pipe section: $800. You’re restoring one section to function. No betterment. Deduct immediately as a repair.
Example 2: Roof Work
Patching a roof leak: $600. Restores the roof to its original weather-resistant function. Deduct as a repair.
Replacing 10% of the roof damaged by hail: $2,500. You’re bettering the condition because new sections have a longer remaining life than the old roof. Capitalize as an improvement.
Full roof replacement: $12,000. New roof lasts twice as long as the original. Clear betterment and extension of useful life. Capitalize and depreciate over 39 years (residential) or 15 years (commercial).
Example 3: Paint and Cosmetics
Repainting after tenant move-out: $1,200. Restores appearance and rental-ready condition without improving the property. Deduct as a repair.
Updating all unit interiors with premium paint and new trim: $3,500 per unit. Materially improves the property and justifies higher rents. Capitalize and depreciate.
Example 4: Structural Work
Replacing a few damaged deck boards: $400. Restoration only. Deduct as a repair.
Building a new deck addition: $6,000. Adding new asset and functionality. Capitalize as an improvement.
The De Minimis Safe Harbor: Your Practical Escape Hatch
The IRS provides a practical relief provision: the de minimis safe harbor election. This allows non-AFS taxpayers (which most individual real estate investors are) to expense items under a per-invoice threshold without capitalization.
For tax years 2018 and later, you can elect to deduct items costing less than $2,500 per invoice as repairs rather than improvements, even if they might technically qualify as improvements.
Here’s the catch: It’s per invoice, not per item. A single invoice for a $4,800 building repipe exceeds the threshold. You can’t split it.
To benefit from this election, you must:
1. Adopt a written accounting policy (your CPA can help draft this)
2. Apply it consistently year to year
3. Attach a statement to your tax return
This election offers significant relief for investors. That $2,400 plumbing repair invoice stays deductible. The $4,800 building repipe still requires capitalization, but borderline items stay simple.
Why PM-Managed Investors Face Extra Risk
When you self-manage, you control the categorization of expenses. You see invoices as they arrive and understand the nature of the work.
When you hire a PM, you receive a summary owner statement each month showing charges by category. The detail often looks like:
- Maintenance: $2,400
- Repairs: $1,600
- Utilities: $350
You don’t know if that $2,400 “maintenance” charge includes a $150 caulk replacement and a $2,250 window installation—two items with completely different tax treatments.
PMs aren’t intentionally misleading. They’re simply categorizing from an operational standpoint. To them, both are work orders that keep properties functional. To the IRS, one is deductible this year and one isn’t.
This categorization gap creates two risks:
Risk #1: Over-Deduction. You deduct improvement costs as repairs. Your taxable income appears lower than it should. The IRS notices during an audit and assesses back taxes plus penalties.
Risk #2: Under-Deduction. Your CPA, reviewing your owner statement months later, assumes the PM categorized correctly and misses repair deductions you should have taken. You overpay taxes without realizing it.
How to Protect Yourself: The Owner Statement Review Process
The first defense is scrutiny at the source. When you receive your PM’s owner statement:
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Ask for itemized detail. Don’t accept summary line items. Request invoices or detailed work orders for all charges exceeding $500.
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Distinguish by nature. Review each invoice for language indicating scope:
- “Repair of…” or “fixed…” typically indicates repairs
- “Replacement of…”, “new…”, or “installation of…” suggest improvements
- “Entire unit” or “building-wide” language indicates likely improvements -
Flag ambiguity. If a work order doesn’t clearly indicate scope or includes multiple items, ask your PM for clarification before year-end.
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Document everything. Create a spreadsheet of repair vs improvement categorizations. This becomes your CPA’s roadmap and your audit defense.
Many forward-thinking PM-managed investors now use tools like DoorVault’s Knox AI to automate this review. Knox analyzes owner statements and flags charges that may be miscategorized, comparing them against IRS guidelines and common tax errors. For someone managing multiple properties with different PMs, this saves dozens of hours of manual review and significantly reduces categorization errors.
The Math of Getting It Right
Consider a $10,000 expense facing miscategorization:
Scenario A: Treating an improvement as a repair (over-deduction)
- Improper deduction: $10,000 (Year 1)
- Correct treatment: ~$333/year depreciation (Year 1 only)
- Tax error in Year 1: $9,667 in overstated deductions
- At 37% marginal tax rate: $3,577 in underpaid taxes
- Add penalty interest over 3 years: ~$800
- Total cost of error: $4,377
Scenario B: Treating a repair as an improvement (under-deduction)
- Improper depreciation: ~$333 (Year 1)
- Correct treatment: Full $10,000 deduction (Year 1)
- Missed deduction in Year 1: $9,667
- At 37% marginal tax rate: $3,577 in overpaid taxes
- Total cost of error: $3,577 in Year 1 alone
Both directions carry financial consequences. The first invites audit risk; the second costs you money upfront.
Working With Your CPA: What They Need
When tax season arrives, don’t hand your PM’s owner statement directly to your CPA. Instead:
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Provide categorized detail. Create a summary listing each significant expense with:
- Invoice date and amount
- Description and scope
- Your initial classification (repair vs improvement)
- Any ambiguous items flagged for discussion -
Include invoices. Attach supporting documentation for charges exceeding $1,000.
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Discuss your de minimis election. Confirm that your CPA has a written policy on file and will apply it consistently.
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Ask about depreciation schedules. If improvements were capitalized, ensure your CPA has them documented on Schedule C or Form 4562 correctly tied to the property and useful life.
Your CPA will appreciate the organized presentation. It reduces their time digging for details and ensures they’re making classification decisions based on full information, not summaries.
A Final Word: Prevention Is Cheaper Than Remediation
The best time to classify an expense correctly is when it occurs, not during a tax audit.
Build this into your PM relationship. Whether through quarterly reviews, detailed owner statements, or automated verification tools, ensure you understand what you’re being charged for before those charges hit your tax return.
For PM-managed investors particularly, this discipline separates those who maximize their tax position from those who overpay. It’s one of the few remaining areas where you can significantly influence your real estate tax outcome through careful attention and documentation.
DoorVault helps PM-managed investors verify owner statements, track portfolio performance, and prepare taxes with AI-powered intelligence. Start free at doorvault.app.
