Cost Segregation (depreciation) Studies

Frequently Asked Questions

What is Cost Segregation?

The principle goal of a cost segregation study is to increase cash flow from constructed buildings, purchased properties and renovations by accelerating depreciation expense deductions. Through this analysis, the components of a building are reclassified into proper class “lives” according to government legislation, case law, and IRS revenue rulings/procedures. Substantial tax savings can be achieved by accelerating depreciation deductions.

Why have I not heard about Cost Segregation before?

Though it has been around, in its current form, since 1987; Cost Segregation was, for some time, almost solely offered by Big 5 accounting firms and a handful of large real estate consulting companies who serviced only the largest of clients. There were very few qualified practitioners and, for small to medium size taxpayers, the service was cost prohibitive. Within the last few years, however, Cost Segregation has become available, at a very reasonable cost, to smaller companies and individual property owners.

How does SourceCorp's Cost Segregation work?

SourceCorp consultants will gather documentation, such as construction plans, contractor invoices, depreciation schedules, etc. From these documents, we will identify the qualifying items and associated costs to be reclassified into shorter-life categories. One of our consultants will visit the property to compare what was actually built against the plans, and take photographs of the property. Results are aggregated and presented in a report, along with relevant case law data, definitions, photo documentation, and calculation details.

Is this all legal?

Absolutely. Over 1000 IRS revenue rulings and court cases provide the necessary guidelines for proper conduction of Cost Segregation studies. The IRS has also recently issued an Audit Techniques Guide that defines a quality Cost Segregation study.

What sort of benefit might I expect?

The benefit of a Cost Segregation study lies in the timing of tax payments. Assuming a 35% Federal tax rate, an 8% discount rate, half-year convention, and no bonus depreciation, for every $1,000,000 of property reclassified from 39 years has a cumulative present value of tax deferral equaling approximately:

$195,000 for 5-Year Property
$178,000 for 7-Year Property
$108,000 for 15-Year Property

In other words, the benefit is approximately $.19 for every dollar reclassified to five years from thirty-nine years.

Does this increase my chances of being audited?

No. The chances of getting audited are not automatically increased.

What sort of documentation do I need?

At the front end of a Cost Segregation study, SourceCorp only has to know certain basic information, such as the capitalized cost, property location, placed-in-service date, etc. to provide an estimated benefit. Once engaged, the more information available, the better. The following list is fairly comprehensive:

New Construction:

The date of acquisition or “placed in service date”
The capitalized costs
Complete set of plans
Contractor’s final application for payment or similar document
A complete list of all change orders with a brief description of each
A copy of the specifications (If readily available)
Rent roll or similar document (For multi tenant buildings only)
A list of owner incurred costs above and beyond the General Contractors costs. (examples include architectural and engineering fees, permits, testing and materials paid for directly by the owner)

Purchased Properties:

The date of acquisition or “placed in service date”
The capitalized costs
Depreciation schedule
Plans, site plans and surveys (If available)
Square footage of buildings and site
Appraisal (If available)
Rent roll or similar document (For multi tenant buildings only)

A site visit is an essential part of a good study; sufficient information can be collected, from such a visit, to accurately perform a Cost Segregation study in the event that construction drawings and cost information are not available.

How long does a Cost Segregation study take?

For small to medium size projects, SourceCorp Tax Benefit Group typically issues the final deliverable three to six weeks from the point that all information is received. Naturally, the time of year matters a great deal, consultant workload is much heavier in the periods just before filing deadlines. Upon receipt of an engagement letter, a specific schedule for completion is assigned to each project based upon client needs, time of year and, of course, IRS deadlines.

What if my project is still under construction?

No problem here. In fact, this situation is good for both sides. SourceCorp consultants will work with construction personnel to document costs and other information to streamline the process as much as possible.

Could I not just use my own architects/engineers?

For a few reasons, this is probably not a good idea.

First of all, our architects, engineers and CPA’s are specialists, in this field, with decades of Cost Segregation experience. They know the ins and outs not just of the construction project, but also of the accounting side– documentation, tax law, etc. Architects and engineers alone are typically not familiar with the many subtleties involved in a comprehensive study.
Secondly, SourceCorp’s combination of construction industry professionals, in house CPA’s and full time research staff provide you with the assurance that your study will be fully compliant with the latest changes the tax law and court cases.
Lastly, our team is experienced in defending our work in the event of an audit, the first forty hours of which is free of charge.

Will I need to file an amended return?

No. IRS Revenue Procedure 96-31 allows a taxpayer to file a form 3115 Automatic Change in Accounting rather than an amended tax return. This form can be used to fix depreciation as far back as 1987. SourceCorp can prepare the 3115 for you, if you wish.

No amended return? Even if my building was acquired or constructed in a prior year?

That’s right. IRS provisions will allow you to “catch up” on missed depreciation by filing a 3115. No need for an amended return.

What if there is a 1031 exchange associated with my property?

In some situations (certainly not all) this can reduce the benefit if the tax basis is decreased. We recommend speaking to SourceCorp consultants about the specifics of your property; together we can devise the best plan of attack for you.

I am interested in learning more. Do you charge for estimates?

No. We would very much like to hear from you. Let us discuss your property and tax situation, in order that we might maximize your tax savings.

Do I need all the documentation available for the initial estimate of benefits?

No. While more information will result in a more accurate estimate, we can utilize information collected from similar projects to estimate benefits for your situation; of course, more detailed information produces a more accurate estimate.