Cost Segregation Study and Tax Deductions
A person in business attire holds a tablet and drops a coin into a piggy bank. Stacks of coins rise in order, with digital icons and upward graph overlays, symbolizing financial growth, savings, and benefits from cost segregation studies.
A cost segregation study is one way to boost cash flow

If your business is planning to buy, build, or substantially improve real property, a cost segregation study can help you accelerate depreciation deductions, reduce your taxes, and boost your cash flow. Even if you’ve invested in real property in previous years, you may have an opportunity to do a lookback study and catch up on the deductions you missed.

How it works

Generally, commercial real property (other than land) is depreciable over 39 years, and residential real property is depreciable over 27.5 years. A cost segregation study identifies real estate components that are properly treated as personal property depreciable over, say, five or seven years, or land improvements depreciable over 15 years. By allocating a portion of your costs to these shorter-lived assets, you can accelerate depreciation deductions and substantially reduce your tax bill. And if these assets qualify for bonus depreciation, the tax savings can be even greater.

In some cases, assets that qualify as personal property are apparent. Examples include furniture, fixtures, equipment, and machinery. But often, property eligible for accelerated depreciation is less obvious. For example, building components that ordinarily would be treated as real property depreciable over 39 years may be classified as five- or seven-year property if they’re essential to special business functions.

An example: A manufacturing company built a $20 million factory and placed it in service in June 2021. To accommodate its manufacturing processes, the design called for a reinforced foundation, specialized electrical and plumbing systems, and other structural components closely related to manufacturing functions.

A cost segregation study supports the allocation of $6 million of the factory’s cost to these components, which are depreciable over seven years rather than 39 years.

As a result, the company increases its depreciation deductions by approximately

$774,000 in Year 1, $1.05 million in Year 2, and $895,000 in year three (not counting any available bonus depreciation).

Recovering deductions

Suppose you invested in a building several years ago but allocated the entire cost to real property. Depending on how much time has passed and the documentation you have available, it may be possible to conduct a lookback study and reallocate a portion of the cost to shorter-lived personal property. Applying to the IRS for a change in accounting method may allow you to claim a catch-up deduction for the extra depreciation deductions you missed over the years.

Disclosures

Cerity Partners LLC (“Cerity Partners”) is an SEC-registered investment adviser with offices across the United States. Registration as an investment adviser does not imply any level of skill or training.

The information provided is not intended as personalized investment, tax, or legal advice. There is no guarantee that any opinions, projections, or views expressed will materialize. You should consult a qualified professional before making financial decisions.

Information is subject to change without notice and is believed to be reliable but is not guaranteed. For Cerity Partners’ registration status, please visit the Investment Adviser Public Disclosure website at www.adviserinfo.sec.gov.

For additional details about our services, fees, or potential conflicts of interest, please request our disclosure statement, including Form CRS and ADV Part 2, using the contact information provided.

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