Opportunities and Applications for Cost Segregation
Are you using cost segregation, an IRS-approved strategy, to reduce the amount of taxes you owe? Cost segregation identifies and reclassifies personal property assets to shorten the depreciation time for taxation purposes, which reduces current income tax obligations. Personal property assets include a building’s non-structural elements and exterior land improvements costs. I became aware of this through my CPA when he connected me to an expert named Charles Waterloo.
My first thought was, “Is it worth it?” I learned from Charles that the benefit of a Cost Segregation Study is that it can shorten the life of assets under accelerated depreciation methods. When a commercial property is placed into service, the general depreciation method would be over 39.5 years utilizing the straight-line method. (NMS Certified Public Accountants, 2019) However, there are other options.
Cost segregation is a process of taking the building and breaking down the individual components of the building into four categories, which are: (1) personal property, (2) land improvements, (3) building, and (4) land. The components that qualify as personal property and land improvements qualify for shorter useful lives under accelerated depreciation methods. For instance, it doesn’t make sense to depreciate furniture over 39.5 years. You’ll likely replace it more often than that, even if you own the building for that long. Tangible personal property generally falls under five and seven-year useful life, while land improvements are classified under a 15-year property. (Sobel Co, n.d.)
A cost segregation study involves someone (preferably a construction engineer or other qualified individual) visiting your building where they’ll walk the property and take measurement and photos. After the visit, cost breakdowns are calculated. On average, this process can yield tax savings of anywhere from $20,000 – $100,000 over a five-year period.
Is a Cost Segregation Study Beneficial?
Various factors help determine whether a cost segregation study will be beneficial for a particular business owner. Some of these determining factors include:
- How much did it cost? The higher the initial cost, the greater potential for tax benefits.
- What type of business is it? Some industries, such as restaurants, have special rules for even shorter depreciation.
- How long will you own the property? If you anticipate selling the property in the near future, there may be less benefit.
- What’s your tax rate? The higher the tax rate, the greater the tax savings. (Pruske, 2017)
I invite you to watch the webinar with Charles Waterloo, founder of the Waterloo Company, where he broke down the benefits of cost segregation to see if this is an opportunity for you. The webinar recording is available here!
Editor’s Note: This article is intended as informational only and is not intended as professional tax advice. The ICS recommends that readers consult with their own tax professionals or attorneys regarding the use of any tax strategies.