What is a Cost Segregation Study and How Can You Benefit From It?

Authored by Mona Stocki, Cost Segregation Director, CLA

If you purchased, constructed or improved any kind of real estate in the last 10-15 years, you might be able to benefit from a cost segregation study. Cost segregation allows taxpayers to reduce their taxes and increase cash flow by accelerating the depreciation on certain building components. With rising material costs, labor shortages, and time delays affecting the construction industry, well executed cost segregation studies can offset upfront costs by reducing taxes in the year a property is placed in service.  

Typically, non-residential real property depreciates over 39 years for federal income tax purposes. A cost segregation analysis identifies the components of a building and separates the applicable costs into their proper asset classifications, essentially “slicing the pie”. This generally results in significantly shorter tax lives for these components, such as 5-year, 7-year, and 15-year property that is depreciated at an accelerated rate in the year the building is placed in service. In addition, taxpayers may be able to benefit from 100% bonus depreciation on certain assets through 12/31/2022.  

Examples of items that can generate accelerated depreciation deductions include asphalt paving, flooring, light fixtures, data and communication ports, and cabinetry, to name a few. For purchased or rehabilitated properties, there are further opportunities for tax savings. A purchased property can be segregated several years after it was placed in service by the new owner, allowing them to capture additional depreciation from prior years. What’s more, these additional deductions can typically be claimed on a current year tax return, thus avoiding the time and cost associated with amending returns. 

Additionally, the CARES Act of 2020 authorized Qualified Improvement Property (QIP) to be depreciated over a 15-year tax life and eligible for 100% bonus depreciation. QIP means improvements to an interior portion of a building that is nonresidential real property, as long as that improvement is placed in service after the building was first placed in service by any taxpayer. Examples of these assets include drywall, plumbing, electrical fixtures, and other similar assets. It is even possible that a single property can benefit from both a cost segregation and QIP study. 

With the construction industry positioned for substantial growth, cost segregation can be a powerful strategy in helping residential and commercial property owners enhance tax savings on their investments. Contact your CLA advisor to learn how cost segregation can benefit your organization.