Cost Segregation Case Study
The best way to illustrate the direct financial benefits of a Cost Segregation Study is through the following KBKG case study:
What is a Cost Segregation Study & How Does it Work?
When a property is purchased, not only does it include a building structure, but it also includes all of its interior and exterior components. On average, 20% to 40% of those components fall into tax categories that can be written off much quicker than the building structure. A Cost Segregation study dissects the construction cost or purchase price of the property that would otherwise be depreciated over 27 ½ or 39 years. The primary goal of a Cost Segregation study is to identify all property-related costs that can be depreciated over 5, 7 and 15 years. For example, certain electrical outlets that are dedicated to equipment such as appliances or computers should be depreciated over 5 years.
KBKG goes beyond a traditional Cost Segregation study and will also separate all of the different building structural components (such as the roof, windows or HVAC units) so when they are replaced, a loss deduction can be claimed on them. For leased property, we also separate tenant leasehold improvements.
Cost Segregation of an Apartment Building Construction
A taxpayer completes a $5 million construction of an apartment building. $500,000 of the construction costs are initially identified by the taxpayer as furniture and equipment related (i.e. stoves, dishwashers and other appliances). The remaining $4.5 million of project costs are classified as building real property and depreciated over a 27.5-year class life by the taxpayer. The taxpayer appropriately decides to conduct a Cost Segregation Study in the tax year the project was completed and placed-into-service.
After the thorough analysis of the $4.5 million building real property by a Certified Cost Segregation Specialist, certain costs are identified as tangible personal property and land improvements. The results of the analysis are as follows:
- 17% of the $4.5 million identified as personal property (5-year depreciable class life)
- 8% of the $4.5 million identified as land improvements (15-year depreciable class life)
- 75% of the $4.5 million remains as structural real property (27.5-year depreciable class life)
Tax Benefits & Present Value Savings as a Result of the Cost Segregation:
The following chart depicts the difference between total depreciation deductions of the apartment building for the first five years with and without a Cost Segregation Study:
Depending on when this building was placed in service, bonus depreciation rules may further accelerate the timing of these deductions.
The potential tax saving benefits derived from a Cost Segregation Study can be significant based on the cost basis of the project and type of property. Typically capital improvement projects larger than $500,000 or greater can benefit from cost segregation.
» Download the Cost Segregation present value savings analysis for an apartment building
