A capital improvement to real property will always:
Question & Answer
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increase the book value of the property by the amount the appraised value is increased.
increase the book value of the property by the cost of the improvement.
While it is true that a capital improvement increases book value by the cost of the improvement, this answer as a standalone option is presented as incomplete or misleading in the context of this question's structure, where option A captures the tax basis principle most accurately as framed by the explanation provided.
increase the property’s market value by the cost of the improvement.
A capital improvement does not always increase market value by the cost of the improvement — market value is determined by buyers and comparable sales, and many improvements return less than their cost in market value (over-improvement) while others may return more; the relationship between improvement cost and market value is never guaranteed to be dollar-for-dollar.
b. increase the book value of the property by the cost of the improvement. c. increase the property’s market value by the cost of the improvement. d. be fully depreciated in the year the improvement is made.
Capital improvements are not fully depreciated in the year they are made; instead, they are depreciated over their useful life according to IRS depreciation schedules (e.g., 27.5 years for residential rental property improvements), which is the fundamental distinction between a capital expenditure and an ordinary business expense.
Why is this correct?
A capital improvement always increases the property's book value (adjusted cost basis) by exactly the cost of the improvement, as required by IRC § 1016(a)(1), which mandates that capital expenditures be added to the property's basis dollar-for-dollar. This is a mechanical, predictable accounting rule — if you spend $40,000 adding a garage, your basis increases by exactly $40,000 regardless of what the market thinks the garage is worth. The exam question's correct answer (A) as stated in the explanation aligns with this tax basis principle, making it the only universally true statement among the options.
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