Tax Reduction and Cost Segregation – Myths and Facts
Tax tips and tax help to assist taxpayers by describing options
for tax reduction and tax cuts through lawful tax deductions.
Tax reduction and tax deferral are both generated by cost segregation. However, this tool is not well understood by most real estate investors and by many tax preparers. The root cause of limited understanding regarding cost segregation and how it provides tax reduction is limited dissemination of factual data on the subject.
The most prevalent myths include:
- Cost segregation does not provide tax reduction, only tax deferral.
- Cost segregation is too expensive. It only works for properties with a cost basis of $10 to $20 million or more.
- Cost segregation is risky; it is a tax shelter likely to cause an audit.
All three myths are simply incorrect.
Cost segregation provides tax reduction by converting income which would have been taxed at the ordinary income rate (35% maximum) to income taxed at the capital gains rate (15% maximum). During the ownership period, cost segregation generates additional depreciation real estate investors can use to shelter income from the property or other sources. In many cases this income would have been taxed at 35%.
Upon sale, the property owner and tax preparer will collectively allocate the sales price. In most cases, short-life property such as carpet, vinyl tile and paving have depreciated and the market value of these assets (at the time of sale) equals their depreciated cost basis. In this event, the additional depreciation is taxed at the capital gains rate. Hence, the real estate investor gains both tax reduction and tax deferral.
Cost segregation used to cost $20,000 to $50,000 per property and was only financially feasible for properties with a cost basis of at least $10 million. However, fees for cost segregation studies are now much lower. It generally makes sense to order a cost segregation study if the cost basis of improvements is at least $500,000. In most cases, the first year tax reduction is at least two to four times the fee for the study.
The myth about cost segregation studies being a risky scheme is completely inaccurate. A properly prepared cost segregation study is encouraged by the IRS since it generates more accurate accounting. The Audit Techniques Guide is a 100-plus-page manual regarding the background and proper methodology for a cost segregation report.
Both the advisors and appraisers (who perform cost segregation studies) have studied and understand the Audit Techniques Guide. Cost segregation studies are encouraged by the IRS. In private correspondence, IRS staff has indicated a cost segregation study does not increase the change of an audit.
If you are a real estate investor or use real estate in your business, ignore the myths and obtain a free preliminary analysis to determine if you could benefit from a cost segregation study and increase your tax reductions and tax deductions.
Cost segregation produces tax deductions and reduces federal income taxes across the country and in every size market. Below are just a few examples of where cost segregation generates meaningful tax deductions.
- Philadelphia, PA
- Boston, MA
- Denver, CO
- Memphis, TN
- San Francisco, CA
- Tampa, FL
- Hartford, CT
- Atlanta, GA
- Miami, FL
- Orlando, FL
- Allentown, PA
- Harrisburg, PA
- Lancaster, PA
- Greenville, SC
- McAllen, TX
- Tulsa, OK
- Charleston, SC
- Chattanooga, TN
- Palm Bay, FL
- Oxnard, CA
- Madison, WI
- St. Louis, MO
- Columbia, SC
- Lakeland, FL
- Youngstown, OH
- Knoxville, TN
- Detroit, MI
- Columbus, OH
- Des Moines, IA
- Cincinnati, OH
Cost segregation produces tax deductions for virtually all property types.
- Fast food restaurant
- Department store
- Auto dealer
- Convenience store
- Service center warehouse
- Medical facility
Almost every industry, including the following, can generate cost-efficient tax deductions by using cost segregation.
- Automotive parts distributors
- Frozen food manufacturing
- Apparel manufacturing
- Electrical component manufacturing
- Plastic and rubber products manufacturing
- Textile product mills
- Building supply dealers
- Wood product manufacturing
- Golf courses and country clubs
O’Connor & Associates is a national provider of investment real estate consulting services including commercial real estate appraisal, tax deductions, cost segregation, property tax, tax reduction, market research, highest and best use analysis, partial interest valuation, financial modeling, Brazoria county appraisal district, Tips and Tricks for Appealing Your Property Taxes in Galveston, Galveston county appraisal and Federal tax reduction. Appraisal services are provided for all commercial property types including nursing homes, discount stores, truck terminals, tennis clubs, supermarkets, country clubs, medical offices, mini-warehouses, restaurants, vacant lands, skating rinks, community shopping, centers, power centers, car wash facilities and service stations.
Patrick C. OConnor