By utilizing this tax strategy, owners of commercial property (and/or leasehold improvements) can redirect their Federal and State tax dollars back to their business. Cost segregation is available to commercial property owners with real estate holdings over $250k (and/or leasehold improvements over $100k).
So…what is cost segregation?
In a nutshell: It’s the correct and most accurate method of depreciating commercial real estate.
Cost segregation is the process of identifying and reclassifying costs in a commercial building from 39 year (or 27.5 year) property to much shorter 5, 7 and 15 year property.
Cost seg is an IRS approved tax strategy allowing owners of commercial property to increase their cash flow and decrease their tax liability by deferring tax payments. A cost seg study front-loads depreciation deductions into the early years of property ownership, thus capitalizing on the time value of money. A deduction today is always worth more than that same deduction years later.
- For example: The carpeting in a commercial building can be reclassified from 39 year property to 5 year property using cost segregation. In other words, this carpeting would be fully depreciated over 5 years rather than over 39 years.
In general, a cost segregation study can yield a tax savings of 6%-12% of the cost of any given property. A one million dollar property could yield a tax benefit around $60k to $120k or more.
So why isn’t every owner of commercial property utilizing cost segregation?
Many property owners are simply unaware of this tax strategy…hence this blog. Cost segregation is a combination of tax law/knowledge and engineering principles (cost estimating, construction, and blueprint comprehension). Most accounting firms do not specialize in this area and therefore do not provide this service.
A good cost segregation firm will work hand in hand with the property owner’s accounting firm to make the final application of the study a turn key solution. A completed study does not replace the important role an accountant plays in preparing tax documentation or determining tax liability.
Who qualifies for a cost segregation study?
The landmark court case between Hospital Corp of America vs Commissioner made cost segregation available to any commercial property owner who has:
- Purchased or constructed a commercial building or facility after 1986
- Renovated, remodeled, expanded or restored an existing facility
- Paid for office or facility leasehold improvements
- Purchased commercial residential property such as an apartment complex/building
Cost segregation can benefit owners of apartment complexes (rental residential properties), assisted living facilities, auto dealerships, banks, casinos, car washes, fitness centers, gas stations, grocery stores, hospitals, hotels, medical facilities (doctors, dentists, etc.), office buildings, storage facilities, restaurants, retail centers and more.
If you were given a check for a million dollars and had to choose to either cash it now or in 39 years, what would you do? Most people would cash it now because the time value of that money is worth more in today’s dollars than 39 years from now. This is the same idea with cost segregation. By not doing a cost segregation study, commercial property owners are basically giving the IRS an interest free loan of money they could be using TODAY for their own benefit! They could pay down debt, purchase more property, invest it, or take a vacation.
“Cost segregation is a lucrative tax strategy that should be used in almost every major purchase of commercial real estate.” -Wall Street Journal
If you own commercial real estate and could use a few more deductions to bring down that hefty tax bill, a cost seg study may be the answer you are looking for. Obtaining a projection of savings is easy and free and the first step to determining the benefits that may be in store for you.
After all, wouldn’t it be nice to pay yourself instead of the IRS?