A cost segregation study (CSS) allows a taxpayer to accelerate substantial depreciation deductions by identifying costs that can be allocated to shorter recovery periods; primarily 5, 7, and/or 15- year as opposed to 27.5 (residential rental) or 39-year (commercial).
By reallocating these costs to shorter recovery periods, taxpayers can defer substantial tax payments and greatly improve cash flow. Be aware, however, that a cost segregation study does not create new tax deductions, it simply pushes deductions into the early years of ownership. This front-loading of depreciation allows the taxpayer to take advantage of the time value of money. And, as we all know, any amount of money is worth more the sooner it is received.
While property owners and their tax advisors routinely utilize cost segregation following the purchase or completion of a building, there are many additional applications of the practice that apply to the various stages of real estate ownership and development.
The fees associated with a cost segregation study have gone down considerably in recent years, making it possible for smaller property owners to utilize engineering-based cost segregation. The decline in project fees is primarily due to competition. Simply put, there are more providers in the market today. It is also partially due to fewer firms charging on a contingency basis (fees are based on a percentage of client tax savings). According to the IRS, “examiners should closely scrutinize studies performed on contingency fees.” Property owners and their advisors should avoid cost segregation providers charging on a contingency basis because contingency fee arrangements create an incentive for the cost segregation provider to be overly aggressive. Appropriate fees for a cost segregation study will depend on a number of factors, including the size, type and complexity of the property, and the amount of time the study will take. The majority of providers bill on a fixed fee basis.
For those out there who buy purely on price, keep in mind the old adage, “you get what you pay for”. Rarely is the lowest fee associated with the highest value.
There are many things to consider when choosing a cost segregation provider, and the savings produced by these studies certainly afford you the ability to make your decision based on factors other than price. The last thing you want is a cost segregation study that will not stand up to an audit because you chose to save a few bucks.