Contrary to popular misconception, the concepts of estate planning and cost segregation are not mutually exclusive. In fact, a cost segregation study can enhance the estate planning process by lowering the tax burden of the property owner. Rather than trying to describe this, we will use an example to explain how they work together.
In the example, we assume that a husband and wife own property jointly. They acquired this property by a purchase for $10,000,000 10 years ago and have been depreciating this property under MACRS 39-year class. At this point in time, a cost segregation study is performed for adoption in 2011 with the following results.
5-year property equals 18% or $1,800,000.15-year property equals 15% or $1,500,000.
39-year property equals 67% or $6,700,000.
The basis property is $5,000,000 for the husband and $5,000,000 for the wife.
The husband dies in 2013 and a valuation is done on the property, as is required by law. The new valuation has the building at $12,000,000.
The basis of the husband is stepped up to $6,000,000 as it passes through the estate to the wife. Therefore, even though the valuation is for $12,000,000, the depreciable basis is only $11,000,000. The placed in service date remains the same for the wife’s original assets, but a new placed in service date is used for the portion that passes through the estate.
At this point, a second cost segregation study can be performed as the property has been revalued. The results are shown in the table below on the line for 2013.
Let us further assume that the wife dies in 2017. The valuation placed a new value on the property of $15,000,000. As the entire property has gone through the estate, the valuation and the depreciable basis are the same and a third cost segregation study is done.
Please note that because the property went through the estate no depreciation recapture was required even though the owners were allowed to step up the basis of the property.
The above discusses just one example of how cost segregation can be used in the estate planning process. Of course, there are other applications, such as the issues associated with partnerships and the implications of §754.
The two key benefits of using cost segregation in the estate plan are the acceleration of depreciation and the ability to avoid potential recapture. Both have a significant and positive impact on cash flow.