Tax strategy for real estate investors: cost segregation studies

There are tax advantages that accompany the possession of rental properties – in particular deductions that will reduce your taxable income.

Investors can deduct all the expenses associated with the management and maintenance of their owner’s property, insurance and mortgage interests and travel equipment.

A depreciation is a major deduction is depreciation, CPA Kristel Espinosa told Business Insider-and there is an “easy strategy to maximize this damping deduction,” she added.

Depreciation is the loss of the value of an asset, and investors can claim the value of depreciation as a tax deduction for the entire planned life of the property, which the IRS determined is 27.5 years for residential buildings and 39 years for commercial buildings. To calculate the annual depreciation on a rental, you divide the value of the property (not counting the value of the land) of 27.5 or 39, depending on the type of property.

A cost segregation study can help investors speed up damping deductions and, therefore, increase cash flow. It reviews all the external and internal components of a building, some of which can be crafted much faster than the building structure.

“An architecture engineer goes in fact on the property or examines the plans and essentially says:” You could decompose this building into smaller components. There are scores, there are floor coverings, there is electric “,” said Espinosa.

Some of these components may have tax lives that are much shorter – five, seven or 15 years – than standard deadlines of 27.5 or 39 years. The cost segregation study can see that $ 100,000 in interior lights can be depreciated over five years, for example, and an additional $ 100,000 can be amortized by more than seven.

“There is a rule for tax purposes which says that if you have property of less than 20 years in life amortiss Bonus depreciationwhich is 60% for 2024.

“This percentage changes every year, but, as you can see, you can now take this huge damping deduction instead of having to wait for the 39th birthday to get this depreciation,” she said. “You can take a big piece in these first two years and put yourself in place in a position of loss because the deduction is so important and not to have to pay a tax – and this loss generally behaves. If you do not need all the loss during the current year, this loss behaves in the following years, so that these losses can house the rental income of these goods for the coming years.”

The timing is important, she added: “Acting before bonus damping is completely entirely in the process of 20026.”

How investors save seven tax figures in “Segs costs”

The hiring of a professional to carry out a cost segregation study will cost thousands of dollars, but the tax savings can easily prevail over the cost.

“Last year, we helped one of our customers probably save 1.8 million dollars in taxes simply by making a SEG cost – and the SEG cost only cost them $ 10,000,” said Espinosa, whose company operates from Irvine, California. This was not an extreme case for its customers, which includes high income employees in high tax sections which generally have large portfolios and commercial buildings.

The savings of a COST SEG study can vary considerably depending on the purchase price, the type and reallowing of the depreciation of a property. As a rule, “a cost segregation study generally reclassifies from 20% to 40% of the cost of a building in shorter amortization periods,” said Espinosa. “This can generate first -year tax savings from $ 50,000 to $ 150,000 + per million dollars in construction cost, depending on the results of the study and your tax situation.”

It gives the example of a 15 million dollars commercial building. A SEG cost can reclassify 3 to 5 million dollars in five, seven or 15 years of assets, she said. Assuming that $ 5 million is eligible for bonus depreciation, multiply this by 60% to obtain $ 3 million in depreciation deductions.

“Take the $ 3 million in deductions and multiply it by their tax rate of 37% and this represents 1.11 million dollars in federal tax economy only,” said Espinosa. “There are even more advantages if you live in a state with high income taxes.”

Small investors can also see large tax savings, it added: “Even a property of $ 2 million can bring $ 100,000 to $ 300,000 in federal deductions.

Not all properties will benefit from the realization of a SEG cost. The strategy generally works better with commercial properties, as there are more components than a residential house.

Although there is no IRS rule limiting the number of cost segregation studies you can do, you will want to use them strategically, said Espinosa: “Focus on new properties or major renovations. Avoid double diving on already classified assets.”

She advised to keep engineering reports and tax declarations to defend herself against audits and work with CPAs and cost segregation specialists for specific studies.

“The segregation of costs is powerful but requires careful execution.”