Cost Segregation Overview
Background
If you own a commercial or rental property, or if you’re a CPA, financial advisor, or real estate broker, you need to know the term Cost Segregation. Cost segregation studies help allocate or reallocate building costs to tangible personal property, following criteria established under Investment Tax Credit (ITC) laws (§ 48).
The IRS itself recognizes the value of cost segregation, stating:
‘The use of cost segregation studies will likely continue to increase.’ (Cost Segregation Audit Techniques Guide – Chapter 1)
Unlock the full tax-saving potential of your property, understanding cost segregation is a must!
How It Works
A Cost Segregation Study identifies and reclassifies personal property from real property assets, accelerating depreciation for tax purposes and reducing current income tax obligations.
Section 1245 property includes non-structural elements, while land improvements can also qualify for shorter depreciation periods. The primary goal of a cost segregation study is to uncover all costs eligible for faster depreciation, maximizing tax savings and improving cash flow.
What Qualifies for Cost Segregation?
- Parking Lots (asphalt)
- Curb, Gutter, Sidewalks
- Storm Drains
- Irrigation Systems
- Retaining Walls
- Trees, Shrubs, Landscaping
- Carpet
- Countertops
- Cabinetry
- Blinds/Window Coverings
- Auxiliary Lighting
- Specialty Plumbing
- Window Treatments
- Wall Coverings
- Removable Flooring
- And more!
What Types of Buildings Qualify?
- Apartment Complexes
- Assisted Living Facilities
- Auto and Truck Dealerships
- Banks
- C-Stores
- Charter Schools
- Data Centers
- Day Care Centers
- Dental Facilities
- Distribution Centers
- Funeral Homes
- Golf Courses
- Grocery Stores
- Hospitals
- Hotels
- Industrial
- Manufacturing Facilities
- Marinas
- Medical Offices
- Motels
- Movie Theatres
- Office
- Residential Rentals
- Restaurants
- Retail Stores
- Self-Storage Units
- And more!
What Type of Items Are Needed for the Study?
Building Costs, Deprecation Schedules or Settlement Statements, the address of the property, in-service date, and other information such as appraisals related to the building.
How will a Cost Segregation Study Affect My Tax Return?
The deduction created from the cost segregation study will directly reduce taxable income. Tax form 3115 allows taxpayers who placed buildings in service in past years to take the deduction on current tax returns. This means buildings placed in service at any time could qualify.
Example: A cost segregation study on an apartment building with a depreciable basis of $2M finds 32% of costs can be reclassified as shorter-life assets (20% 5-yr, 12% 15-yr). With bonus depreciation rules, all short-life assets are fully depreciated in the 1st year, resulting in an increased deduction of $664,727. Assuming a combined 40% federal and state tax rate, this results in tax savings of $251,345!
