Commercial construction projects can be impacted by the tax implications for those who invest in and those who develop them. Typically, we encounter these opportunities at the pre-development stage, design and construction stage, newly-constructed stage, or after-the-fact when projects have been in service for a length of time. Benefits can include increased cash flow through accelerated depreciation, anticipated disposition or expensing opportunities, as well as energy tax incentives
In the pre-development scenario, accurate cash-flow projections and pro-forma assumptions are critical to the successful outcomes for these projects. While depreciation is often included in the developer’s pro-forma process, accelerated depreciation is not typically a part of the front-end decision to move ahead or not move ahead with a development. Estimating the impacts of accelerated depreciation is an inexpensive and effective way to understand how cash flow, ROI and provision for income tax could be enhanced and become more attractive when the impact of cost segregation is included.
For those commercial projects that are already designed, but not yet completed, the cost segregation professional’s review of materials and finishes, along with the design of mechanical and electrical installations, could impact the developer’s/client’s cash flow by substitution of assets (wood-laminate flooring for ceramic tile, for example) or redesign of mechanical and electrical systems (like separation of hot water production for business equipment or separation and identification of task or indirect lighting in lieu of primary lighting) that qualify as personal property rather than real property. These substitutions or re-designs would accelerate depreciation and subsequently free up cash that could be used for other purposes. For newly-constructed projects, the benefits can be substantial, given that many incentives may apply depending on the timing and type of construction. Bonus depreciation will be with us through 2019.These benefits can be applied to new structures and new improvements.
Improvements to existing structures might include various Qualified Improvement Property designations which have various rates of recovery – all subject to bonus depreciation. For properties already placed in service, the look back opportunity presents a way to bring forward benefits that were not identified at acquisition or at the time the project was constructed (the same as for newly-constructed projects), providing greatly-increased cash flow over normal depreciation for the first five to six years after the cost segregation study is completed. Improvements that have been installed since the project was acquired or constructed are also subject to many of the same potential benefits as those for newly-constructed projects. The EPAct 179D energy tax deduction also applies to eligible properties that were placed in service between 2006 and 2016 (and beyond, pending future approval by the federal government). Also, the IRS permits Partial Asset Disposition (PAD) in the year of disposition. This allows you to write off the remaining tax basis of retired/replaced assets.
The primary message here is to make us aware of the variety of tax benefiting opportunities that are present in the commercial construction arena, beyond what is typically seen when a property transaction is identified. Engaging contractors, developers and even owners in tax opportunity conversations can often be very productive, regardless of what stage we might find their project.