Common Repairs Versus Improvements Conundrums

By Jason Watson, CPA
Posted Sunday, May 25, 2025

Here are some common expenditures that can leave everyone scratching their heads. Hopefully we can shed some light on the pathway. Here we go-

Water Heaters

The bane of all rental property owners! Given hard water in California and no more gas hookups in New York (electric elements fail often), water heaters will be replaced long before 27.5 and 39.0 years, and as such, what is the appropriate way to handle the new cost?

Step 1. Use the $2,500 de minimis safe harbor. Most water heaters can be installed for less than $2,500 unless you go big and install a tankless or some other fancy water heater, or if the installation is complex (converting from electric to gas or vice versa). Some people suggest having the plumber split the invoice between parts and labor- this gets a little hairy since an asset placed in service, such as a water heater, is bundled with the cost of the unit, transportation and installation. In other words, the IRS might not consider parts and labor to be bifurcated- one cannot exist without the other (inextricably connected). This is certainly a risk-based approach.

Step 2. Ok, let’s say $2,500 isn’t going to work. What about the small taxpayer’s safe harbor? At the risk of repeating ourselves from a previous section, the cost of the water heater plus all other repairs must be under 2% of the unadjusted cost basis of the building (before depreciation, such as the purchase price plus acquisition costs) or $10,000. Therefore, if $2,500 isn’t going to work in step 1, then your rental property building unadjusted cost basis must be at least $125,000 and less than $500,000 ($10,000 divided by 2%) to allow for a full tax deduction of the water heater.

Step 3. Burn the place down, and start over. Sure, this is not ideal and generally frowned upon by law enforcement and insurance adjusters, but we would be remiss not listing it as an option albeit not recommended.

Step 4. Have a drink, and mull over the routine maintenance safe harbor. This one might work, and here’s why- “The routine maintenance safe harbor does apply to certain restorations that would otherwise be improvements, including when you pay amounts to replace a major component or substantial structural part of a unit of property.” This is straight from the IRS blurb on tangible property regulations which summarizes the intersection of IRC Section 263(a), tax court cases and various simplified examples.

However, you have a small hurdle to get over when using the routine maintenance safe harbor. Here is some more verbiage (repeated from above) to mull over as you take a sip-

You reasonably expect, at the time the property is placed in service, to perform the activities:

For building structures and building systems, more than once during the 10-year period beginning when placed in service, or

more than once during the life of the unit of property for property other than buildings.

Could you argue that a water heater will be replaced more than once during a 10-year period of time? Possibly. Perhaps. Maybe. How about more than once during the life of the unit of property with the UOP being the plumbing system, which is 27.5 or 39.0 years. Sounding better, right?

Certain geographies have hard water with a lot of sediment, and if your water heater is not flushed and drained frequently, it might fail twice in a 27.5-year period (you’re better off maintaining the water heater than replacing it with a tax deduction).

Also, keep in mind that the standard is “reasonably expect.” Does it mean you must? No. Does it mean that after 27.5 years, the IRS can come back and say, “sorry Charlie, you only replaced the water heater once, so, that tax return from 20 years ago is being amended?” That would be a neat trick.

Step 5. You listen to the plumber who also does HVAC repair and installations, and they say a water heater is an HVAC item and therefore qualifies for Section 179 as qualified improvement property (QIP). Sure, while a lot of plumbing contractors also do HVAC work, these are separate units of property. HVAC is HVAC, plumbing is plumbing, and electrical is electrical. All different. A boiler that provides both heating and domestic hot water is a topic for another day.

Step 6. Suck it up, and consider the water heater to be a capitalized improvement that is depreciated over time. Some people have considered the water heater an appliance and suggested it is 5-year personal property. We doubt that would fly. A water heater is attached to the building’s plumbing system which is then integrated into the building itself, and is anything but easily removable and personal like a refrigerator.

Where does WCG CPAs & Advisors come down on all this? There are three solid pathways to deducting your water heater replacement as a repair. Step 1 and 2 are a snap, and step 4 has increase yet manageable risk.

Could you leverage a partial asset disposition (PAD) and calculate some losses on the water heater being replaced? For a single-family home, No. The juice is not worth the squeeze. On a multi-family property, perhaps. See our partial asset disposition section on page 296 for more information.

Roof

A roof is an easy one. If you cannot support the replacement as qualified improvement property (QIP) and leverage Section 179 expensing, then it is usually capitalized and depreciated over 27.5 or 39.0 years.

What about this QIP thing? If your rental property has tenants or guests who stay 30 days or less, then they are considered transient. Subsequently, the rental property is not considered residential. IRC Section 168(e)(6) defines qualified improvement property, and allows you to use Section 179 expensing on roof and HVAC expenditures, among other things, on non-residential properties.

Therefore, if you have a rental property that is either commercial or has an average guest stay of 30 days or less, and you operate the rental property like a business with continuous and regular participation with a profit motive, the roof expenditure is likely eligible for a Section 179 deduction. You would report the roof as an asset on your tax returns, but classify it as qualified improvement property.

Could you use a safe harbor such as small taxpayer or routine maintenance? Perhaps. Small taxpayer might work on a smaller, less expensive roof. Routine maintenance gets tricky since you need to reasonably expect to replace the roof more than once in a 27.5 or 39.0 period- might be tough one to support. Once? Sure. More than once? Hmmm.

HVAC

Your heating ventilation and air conditioning system is similar to a roof. It is unlikely to be under $2,500, so the de minimis safe harbor is out. However, the small taxpayer safe harbor and the qualified improvement property (QIP) paired with Section 179 expensing are the two most prominent pathways to deducting this expenditure.

In a commercial setting or multi-family rental property, there might also be a partial asset disposition and subsequent loss on the replaced property. See our partial asset disposition section on page 298 for more information.

Mini-Split Air Conditioner

Many rental property owners will convert an attic or garage into living space, and need to heat and cool the area. You might also use a mini-split in an ADU environment. Mini-splits are aptly named because they are small, and the air handler and compressor are separate units (i.e., split).

Replacing a mini-split is similar to the HVAC decision tree above with a twist (see appliance argument below). However, installing a new one, and especially when combined with an overall renovation of the attic or garage, or construction / installation of a new ADU, it is likely going to follow the depreciation schedule of the building.

Having said that, if you are bouncing along with a nice short-term rental and guests are giving good reviews but would like a little air conditioning from time to time (think mountain town or southern California beach), adding a mini-split air conditioner might be expensed either through the de minimis safe harbor (under $2,500) or through Section 179. A decent mini-split will probably exceed $2,500, however.

The hurdle with Section 179 is that you would either need to argue that the rental property is non-residential (average guest stay of 30 days or less, or commercial) or that a mini-split air conditioner is an appliance (personal property) and not a full-on HVAC system (real property). The IRS might claim that it is attached to the building, but then again so is a microwave or cooktop. You would be splitting hairs for sure. Is that a bad pun? Absolutely.

A window unit is easy cheesy lemon squeezy as it is certainly portable and therefore personal property, and is likely $2,500 or less.

Hot Tubs

As anyone will tell you, a hot tub adds value to your short-term rental with more bookings and with higher nightly rates. No one asks how often the hot tub is drained or serviced- they just want it and are willing to pay for it.

The conundrum is how to handle the $12,000 expenditure. We can all agree that the hot tub will be capitalized as an asset associated with the rental property, but under what classification? Some argue that if you build a deck and attach it to the building, it is no longer a land improvement but rather a building improvement, and changes from 15 years to 27.5 or 39.0 years for depreciable life. Does this argument by extension apply to hot tubs that are cut into the deck and attached, and therefore become part of the building? Perhaps (likely).

In contrast, you pour a cement slab and crane a hot tub onto it, and suddenly this changes things? Again, another perhaps.

Practically and most frequently, hot tubs are considered 15-year land improvement property similar to driveways, fences and sidewalks. This, in turn, makes hot tubs eligible for bonus depreciation and Section 179 expensing where your rental activity is considered a business (regular and continuous involvement with a profit motive). But! Section 179 is unavailable to real property, right? Only personal property, yes?

So, the question then becomes- is it real property, under Section 1250, or is it personal property, under Section 1245? The tax code is a little weak on this specific question. However, if you review real estate appraiser opinions including cost segregation experts, and if you also consider real estate attorneys and agents who deal with the nuances of property transfers all day long, they mostly agree that if the hot tub is above ground (cement slab install) it is personal property. If the hot tub is in-ground, or if the hot tub is built into an attached deck such that if the hot tub is removed, there would be a big hole, then it is real property.

You can use bonus depreciation either way, but Section 179 expensing hinges on the install.

What about a detached gazebo with an above-grade deck surrounding the hot tub making it built-in? Oh geez. Grayest of the grays, right? Recall that losing a reasonable argument is fine, but pitching an unreasonable argument is bad news. Arguing that the gazebo hot tub with a big hole left behind if removed is personal property is reasonable. You might lose, but it is a reasonable argument in our opinion.