Success Stories Across Real Estate Asset Classes

Cost segregation is a strategic tax planning tool designed to defer federal and potentially state income taxes, while increasing cash flow, by accelerating depreciation deductions on qualifying building components.

A cost segregation study examines the costs associated with acquiring, constructing, and improving properties, which would typically be depreciated over 39 years for non-residential real estate or 27.5 years for residential real estate.

This analysis identifies and reclassifies the building components into appropriate asset categories, effectively “slicing up the pie.” This reclassification often results in significantly shorter useful tax lives for these components, such as 5-year, 7-year, and 15-year property, allowing for accelerated depreciation in the year the building is placed in service or in the year of a method change. State conformity to federal bonus depreciation rules varies.

A real estate portfolio can encompass a wide variety of asset classes, each with specific areas and available tax planning strategies. Here are some real-world examples of situations that yielded accelerated depreciation and reductions to taxable income, which should drive home our point.

Success story #1: 288-unit multi-family apartment complex

Fact pattern — Client A purchased a multi-family apartment complex, that consisted of 288 units across 21 buildings, for $39 million. The property was designed to accommodate a diverse range of tenants. The complex is classified as residential real property that would normally be depreciated over a 27.5-year class life.

Need — As part of the accounting and tax planning review for this acquisition, CLA suggested a cost segregation study to accelerate the depreciation deductions.

Outcome — After a thorough review of the $39 million acquisition, CLA’s cost segregation team was able to reclassify close to 30% of the building components into shorter recovery periods of 5, 7, and 15 years. This analysis generated an additional $6.7 million of accelerated depreciation expense, reducing taxable income and improving future cash flows.

Success story #2: Self-storage facilities

Fact pattern — Client B, a real estate syndicator, spent approximately $10.5 million to acquire five self-storage facilities as part of its geographic expansion strategy. The commercial properties were scheduled for a 39-year recovery period.

Need — Client B wanted to accelerate depreciation and increase cash flow for the current tax year. Clients are often surprised that self-storage facilities have components that are eligible for shorter recovery periods, and thus accelerated depreciation. CLA recommended a cost segregation study as part of its tax planning review.

Outcome — By reviewing the acquisitions, fixed asset registers, and capitalized improvements during the year, CLA was able to reclassify assets with a 39-year recovery period to shorter recovery periods, such as 7 years and 15 years. The adjustment resulted in a current year reduction of taxable income by $1.3 million, almost all of the taxable income for the period.

Success story #3: Office building

Fact pattern — Client C acquired an office building for over $1.2 million. At the time of purchase, Client C was not in a taxable position, so a cost segregation study would not have been beneficial.

Need — In a subsequent period, during the CLA’s tax planning review, Client C projected that they would be in a taxable position and sought ways to reduce taxable income. Enter CLA’s cost segregation team! CLA suggested a cost segregation study to accelerate depreciation deductions through a method change on the upcoming tax filing.

Outcome — By reviewing the tax depreciation schedule and reclassifying assets from a 39-year recovery period to shorter periods such as 5, 7 or 15 years, and performing a repairs analysis, Client C was able to accelerate an additional $145,290 in depreciation expense for the current tax year.

Tax planning considerations

It is important to note, effective January 1, 2023, the amount of allowable bonus depreciation decreases by 20% each subsequent year. For example, the 60% rate in 2024 is scheduled to decrease to 40% in 2025 and 20% in 2026.

Some of the provisions of the Tax Cuts and Jobs Act of 2017 (TCJA) will sunset at the end of 2025. This means absent congressional action, on January 1, 2026, certain parts of the tax law would revert to pre-TCJA treatment. President-elect Trump and the Republican-controlled Congress have indicated support for the extension of these sunsetting provisions, including the restoration of 100% bonus depreciation on qualifying property.

How CLA can help with cost segregation, fixed asset, and repair studies

Faster depreciation through cost segregation, fixed asset, and repair studies can lead to significant tax savings. Our consultation and analysis have lowered taxable income across real estate types and industries.