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Cost Segregation – A Celebration of Accelerated Depreciation

By February 21, 2018No Comments

Have you recently purchased a building or are you currently in the market to?  If you are looking to take advantage of all the tax deductions a building can provide whether its residential or commercial property, participating in a cost segregation study might be a realistic course of action for you to achieve this goal.  This increasingly popular tax strategy offers facility owners the opportunity to defer taxes, reduce their overall current tax burden, and free up capital by improving their current cash flow.  Virtually every taxpayer who owns, constructs, renovates, or acquires a commercial real estate structure stands to benefit from a cost segregation analysis.

What is Cost Segregation?

Cost segregation is a practice in which tangible personal property or land improvements are identified and segregated from the building’s structural components and depreciated separately. This allows for the depreciable life of these assets, which otherwise would have been lumped together with building costs depreciated over a 39-year or 27.5-year life, to be depreciated over 5, 7 or 15 years, dramatically accelerating depreciation expense. You are then able to front-load your depreciation deductions and reduce your current income tax obligations. Take a look at this simple example.

Before Cost Segregation After Cost Segregation Benefits
5-year property $500,000
7-year property $500,000
15-year property $500,000
39-year property $5,000,000 $3,500,000
$5,000,000 $5,000,000
First-year Depreciation Deduction $128,205 $893,685 $765,480
Accelerated Cash Flows, Years 1-5 $348,343
Total Net Present Value of Accelerated Cash Flow $137,997

Source: https://www.naiop.org/en/Magazine/2015/Summer-2015/Finance/The-Benefits-of-Cost-Segregation-Studies.aspx

Cost segregation studies must be performed by an accredited engineering firm who specializes in this practice. Licensed engineers are needed to schematically reverse engineer the building and break it up into its separate depreciable parts. A cost segregation study can be costly, but a present value calculation of the benefits of the study will help in determining whether the benefits out weight the cost.

If you feel like you’ve already missed out on this great opportunity, don’t worry! You can still choose to participate in a cost segregation study even if your building has already been depreciated over a number of years. If you complete a cost segregation study, you are allowed to take a deduction in the year of the study to “catch up” on the allowable accelerated depreciation.

If you are curious as to how cost segregation can benefit your business, please contact your L&B professional at (858)558-9200.

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