Most business owners and executives are always looking for new ways to reduce corporate taxes. However, beyond traditional tax planning it can be difficult to find a method for having a significant impact on taxes. It may surprise many to learn that a cost segregation study can offer just that. Cost segregation studies identify costs related to real property that can be reallocated to short-life deprecation schedule. The shortened depreciation schedule means access to tax savings at a faster rate. While these studies can be complex, the benefit that commercial real estate owners and others have realized is quite simple. To help our clients, prospects and others, understand the benefit of a cost segregation study, JLK Rosenberger provided summary information below.
What is a Cost Segregation Study?
The purpose of a cost segregation study is to identify assets and their costs related to a real estate purchase or reconstruction and classify those assets for federal tax purposes. Certain costs previously subject to a 39-year depreciable life can instead be classified as personal property or land improvements with a five, seven, or 15-year rate of depreciation using accelerated methods. By accelerating a buildings’ depreciation, property owners are able to receive tax benefits much more quickly. The best time to conduct a study is when a property is constructed, purchased or acquired.
Cost segregation studies must be engineering-based, typically involving professional engineers (among others) to review all the costs associated with the building or building improvements. The role of the CPA is to provide review the information and provide itemized details for asset reclassification purposes. The study examines a wide range of building components, such as electrical installations, plumbing, mechanical (HVAC) components and finishes. It also involves a physical inspection of the property, analysis of architectural and engineering drawings, and review of cost data, including the contractor’s application of payments, material components, change orders, owner-incurred costs, and other indirect disbursements. Costs are broken out into their appropriate categories: Direct costs related to personal property and real property. Indirect costs include architect fees, interior design fees, engineering costs, and other miscellaneous construction costs.
As a result of a cost segregation study, a business owner can depreciate property over the shortest permissible period of time. For instance, the study may identify electrical or plumbing costs related to the operation of machinery and equipment, which is generally depreciated over five years or seven years depending on the MACRS Class Life. This reallocation of costs increases cash flow by reducing the overall tax burden. The tax savings created by depreciating more assets as personal property usually more than make up the expenses paid to perform the study. In a typical cost segregation study, between 15% and 45% of a building’s costs can be reclassified to shorter-life assets, depending on the type of facility. For a $1 million project, this can equal between $30,000 and $90,000 in increased cash flow.
The tax savings which can be realized from a cost segregation study are often significant. If your company has recently purchased or constructed commercial, residential rental property, or made leasehold improvements, then JLK Rosenberger wants to help. For additional information on cost segregation studies, call us at 949-860-9902, or click here to contact us. We look forward to speaking with you soon