Self Storage- Cost Segregation Basics

[Henry Clark]

 

Would prefer to write a post on how we cleared 8 to 12 inches of snow at 4 locations in 4 hours, but that's not going to happen. Have about 3 inches on the ground in the last 3 hours. The rest is supposed to fall through now, 12:30 pm to 6 am. All of the equipment is filled up. Skid steer engine heater is plugged in. Literally just waiting for snow to fall. So writing a post on Cost Segregation related to Self Storage. This is just the basics. Read a lot of other posts on Cost Segregation, but never saw any detail or summary statements/break downs.

Basics.- Anyone wanting to get real technical, please write a separate detailed post. KISS- Keep it simple.

Cost Segregation- Dissecting an asset into its different cost components as you will see below. (Fence, Storage buildings, electric/lights, roads, etc.)

Why?- This is to take advantage of IRS early depreciation tax write-offs. Example: If we had $15,000 of security equipment, versus depreciating it over x years, we write it off in year one.

Which Assets can we take Early depreciation?- Below are the IRS asset class life's. Any asset with a life of 15 years or less can take Early depreciation. We will be more descriptive in the Self Storage analysis below.

A. 3 year/5 year/7 year/10 year/15 year

B. 20 year/27½ year Residential rental property/ 39 year Nonresidential real property

Benefit?- Making the math easy, so disregard incongruities. Say the above $15,000 had a 10 year life (KISS). Then your depreciation would be $15,000 divided by 10 years (KISS- not bringing in accelerated tax methods of depreciation); then your first year depreciation expense would be $1,500. With early write off, it would be $15,000. In year 1 you get to take an additional $13,500 ($15,000 - $1,500) of excess depreciation. If your tax rate is 30% (KISS), then you saved $4,050 tax/cash ($13,500 x 30%).

Carryforward- If you don't have the applicable income to utilize all of the $13,500 excess expenses, you can carry forward the tax benefit into future years to use.

Recapture- If you sell this property early, then you may have to recapture some of the excess early depreciation taken in prior years.

Cash Flow- Self Storage is usually Cash poor in the first year or two, and then Cash rich in later years. By taking this early depreciation thru Cost Segregation, you are reducing your income tax payments (Cash) in the early years, and you are increasing your Taxable income in later years since you will have less depreciation expense then (when you have more cash to pay taxes).

Date Placed in Service- If your developing a project and want to do Cost Segregation for the Current year, have a discussion with your Tax Accountant as to the date your assets are "Placed in Service" and when you can do the early depreciation write off. Not all projects get completed based on 12/31 tax year.



We will use the following Budget numbers for a Self Storage Development.
We will come back to an existing Self Storage location's "Purchase":


Self Storage Development:

Key- have your vendor or vendors bill you separately by asset type.

Keep in mind, Cost segregation is already performed if you are building a new location and have the Vendor/Vendors bill you separately by asset type. It becomes a Tax accounting exercise after that.

A few discussion points:
a. Land- is not depreciable, thus not part of the discussion.
b. Magnitude of order- Landscaping below is $5,000; and the Concrete Roads are $676,000. Both can be written off with early depreciation. Keep the integrity and conciseness of your documentation at a higher level for your larger magnitude write offs.
c. Buildings- Material, foundation and Erection components cannot be separated and are all classified under the same asset and same life.
Use the below list and expand on it with your Tax accountant, to help with your segregating the costs.

This is an example, for discussion only.
Adjust all of the above to your local market and situation.
	A. Self Storage Project Worksheet
	Drive up Storage
			Notes:
Land	$200,000		4 acres at $50,000/acre
Survey	$7,000		Site, elevation and building layout
Fence	$30,000		Black chainlink
Gate system	$25,000		Automated rolling 20ft
Engineer	$30,000
Dirt work	$15,000
Building demo	$
Electrical- site	$7,000
Electric poles	$
Security	$10,000
Storm drains	$150,000
Water	$5,000
Water line	$30,000
Fire Hydrant	$3,000
Sewer	$7,000
Sewer Line	$7,000
Buildings	$1,180,800		Phase 1 2 acres
Office	$25,000
Office setup	$5,000
Footings
Roads
Gravel
Asphalt
Concrete roads	$676,133		6 inch Cubic yards, framed, poured, sawn,
Retention Pond	$5,000
Landscaping	$5,000
Road Sign	$15,000		For highway 55mph billboard sign
Total	$2,437,933

Self Storage Purchase:

Same situation as above, but we are purchasing a pre-existing Storage location. All of the items below, you should discuss with your Tax advisor, there are more implications, than just the topic of Cost Segregation.

A. Try to purchase the "Assets" and not the Business. This gives you a chance to segregate the assets of the business and gives you a little more IRS credibility on Cost segregation.

B. Try to put in a Non-Compete agreement. This can be amortized/depreciated for tax purposes. Work to move less value out of "Land"- not depreciable or Buildings- Longer lives.

C. Create Assets from the Total purchase price. Example: Accounts Receivable is normally just part of the purchase price and not considered other than cutoff date. Same for existing Lawn mowers, furniture, etc. Create Assets to absorb more of the purchase price so that less of the value goes to the Long Life assets that can't have early depreciation write off. Forget the impact to the Seller, they need to catch that.

D. Whether you purchase the "Assets" or the "Business"; you might still decide to do a Cost Segregation Study. Look at the different line items above and consider their "Order of Magnitude ($)" and then think of the time/Cost it might take for a Cost Segregation study. For example: if you give the same amount of due diligence to establish a value for Concrete Roads ($676,000) versus Landscaping ($5,000); it would actually take more time to do the Landscaping. Make sure you specify the degree to which you do/don't want to capture these segregation items; and the degree to which you want support should you meet an IRS challenge with your Professional.

Well it's lunchtime and I'm going to plow some snow before it gets to deep.