Cost segregation is a tax planning strategy used by real estate rental owners to accelerate depreciation deductions on their properties. The primary goal of cost segregation is to identify and reclassify components of a property, such as building improvements, personal property, and land improvements, into shorter depreciable lives for tax purposes.
When you purchase a commercial or rental property, the IRS requires you to depreciate the entire cost of the property over a specific number of years (27.5 years for residential rental properties and 39 years for commercial properties). However, not all components of the property have the same useful life. Some assets, like carpets, lighting fixtures, or equipment, may have shorter depreciable lives, typically between 5 to 15 years.
By segregating these shorter-lived assets from the overall property cost, you can depreciate them faster, which leads to more substantial tax deductions in the earlier years of ownership. This results in a reduced taxable income and, consequently, lower income tax liability for the property owner.
To carry out cost segregation, a qualified professional, conducts a thorough study of the property, identifying and categorizing various assets based on their depreciable lives as per IRS guidelines. The resulting cost segregation study provides a breakdown of assets into different classes, allowing the property owner to take advantage of accelerated depreciation.
It's essential to note that cost segregation is typically more beneficial for property owners with significant tax liability and higher-value properties. Additionally, it's essential to comply with IRS guidelines and work with professionals experienced in cost segregation studies to ensure accuracy and compliance.
Overall, cost segregation can be a powerful tool for property owners to enhance cash flow, increase tax savings, and improve the return on their real estate investments.
While cost segregation can be an incredible tool, it's essential to work with experienced tax professionals who specialize in this area. They can help you navigate the complexities of the tax code and ensure that you comply with all relevant regulations while optimizing your tax benefits.
At Formations, we have partnered with Cost Segregation Authority, a team of dedicated experts who have assisted numerous self-employed rental property owners in harnessing the full potential of cost segregation.
Interested to learn more how this strategy can be tailored to suit your unique circumstances? Click here to let us know!
