Cost Segregation For Appliances, etc

9 Replies

Can anyone confirm if I am correct in my thinking?  We finished rehab of a 4 unit property and put it into service in 1/2017.  I would like to separate depreciation for the following items that were part of our rehab costs:

  • New appliances- 5 year schedule
  • Carpet- 5 year schedule
  • Vinyl plank flooring- 27.5 year schedule (is this correct?)
  • Landscaping- 15 year schedule
  • Everything else (kitchens, electrical, bathroom upgrades, paint costs, etc)- 27.5 year schedule

Your thoughts are appreciated (pun intended ;))

@Sarah D. First of all I love the 'appreciation' pun ;)

New appliances - 5 year

carpet - depends on how it is affixed 5 or 27.5

Vinyl floor - also should be 5 year

landscaping - some can be applied to 15 year, not all.

Everything else. there are over a dozen categories of items than can be classified as 5-year property.

In short, there is a lot of benefit that you are passing over by not having a proper engineer based study done.

Not only will a proper Cost Segregation study get you 30%+ more benefit, but it is also bulletproof in the event of an IRS audit.

In addition, the IRS dislikes when people and CPAs do guestimates without support or substantiation of their evaluation.

The following is a case excerpt to this point.

A “quality” cost segregation study is “both accurate and well documented[.]” Id. A taxpayer's estimated assumptions, based on guesses without supporting records, cannot form the basis for acknowledgment of a plaintiff's claim. Boddie-Noell Enterprises, Inc. v. United States, 36 Fed Cl 722, 741 (1996), aff'd, 132 F2d 54 (Fed Cir 1997); L.W. Hardy Co. v. United States, 1 Cl Ct 465, 470-71 (1982).

Originally posted by @Yonah Weiss :

@Sarah D. First of all I love the 'appreciation' pun ;)

New appliances - 5 year

carpet - depends on how it is affixed 5 or 27.5

Vinyl floor - also should be 5 year

landscaping - some can be applied to 15 year, not all.

Everything else. there are over a dozen categories of items than can be classified as 5-year property.

In short, there is a lot of benefit that you are passing over by not having a proper engineer based study done.

Not only will a proper Cost Segregation study get you 30%+ more benefit, but it is also bulletproof in the event of an IRS audit.

In addition, the IRS dislikes when people and CPAs do guestimates without support or substantiation of their evaluation.

The following is a case excerpt to this point.

A “quality” cost segregation study is “both accurate and well documented[.]” Id. A taxpayer's estimated assumptions, based on guesses without supporting records, cannot form the basis for acknowledgment of a plaintiff's claim. Boddie-Noell Enterprises, Inc. v. United States, 36 Fed Cl 722, 741 (1996), aff'd, 132 F2d 54 (Fed Cir 1997); L.W. Hardy Co. v. United States, 1 Cl Ct 465, 470-71 (1982).

 What about tile flooring?

What about kitchen cabinets?

Roof?

@Yonah Weiss   Thanks for your thoughts!  A formal study wouldn't make sense given the cost of the study vs the potential tax savings for such a small property.  I suppose I could just depreciate everything at the standard 27.5 years to be safe (except maybe appliances?) and then accelerate the depreciation when the item reaches actual end of life/has to be replaced.

@Cara Lonsdale   I assumed kitchen cabinets fall under 27.5 yr schedule; if you have found differently please let me know.  No tile added by us in the reno.  Roof is in good condition, would need a formal assessment to depreciate it on a different schedule.  For a property of this size the cost of the studies can easily outweigh the potential savings.

Originally posted by @Cara Lonsdale :
Originally posted by @Yonah Weiss:

@Sarah D. First of all I love the 'appreciation' pun ;)

New appliances - 5 year

carpet - depends on how it is affixed 5 or 27.5

Vinyl floor - also should be 5 year

landscaping - some can be applied to 15 year, not all.

Everything else. there are over a dozen categories of items than can be classified as 5-year property.

In short, there is a lot of benefit that you are passing over by not having a proper engineer based study done.

Not only will a proper Cost Segregation study get you 30%+ more benefit, but it is also bulletproof in the event of an IRS audit.

In addition, the IRS dislikes when people and CPAs do guestimates without support or substantiation of their evaluation.

The following is a case excerpt to this point.

A “quality” cost segregation study is “both accurate and well documented[.]” Id. A taxpayer's estimated assumptions, based on guesses without supporting records, cannot form the basis for acknowledgment of a plaintiff's claim. Boddie-Noell Enterprises, Inc. v. United States, 36 Fed Cl 722, 741 (1996), aff'd, 132 F2d 54 (Fed Cir 1997); L.W. Hardy Co. v. United States, 1 Cl Ct 465, 470-71 (1982).

 What about tile flooring?

What about kitchen cabinets?

Roof?

Roof is depreciated over 27.5 (part of structure). However, with the new tax reform, if the property was purchased after 9/27/17, or the roof was replaced after that point, it is eligible for a "179 deduction" 100% of the value.

Vinyl composition tile, 5-year, but not others.

Cabinets can usually be classified as 5-year 

Originally posted by @Sarah D. :

@Yonah Weiss  Thanks for your thoughts!  A formal study wouldn't make sense given the cost of the study vs the potential tax savings for such a small property.  I suppose I could just depreciate everything at the standard 27.5 years to be safe (except maybe appliances?) and then accelerate the depreciation when the item reaches actual end of life/has to be replaced.

If you have already gotten an estimate from a competent firm, you're probably right. However, it really depends on the basis of the property. How much did you buy the property for? and how much did you spend on rehab?

Cost of a study on a small property should not be much. Maybe worth rethinking :)

From my research - Residential rental businesses are not allowed to elect section 179 expense.

The new tax reform allowed it for commercial rental businesses.

Originally posted by @Basit Siddiqi :

From my research - Residential rental businesses are not allowed to elect section 179 expense.

The new tax reform allowed it for commercial rental businesses.

 That's correct. Thank you for pointing that out! 

@Sarah D. You're mostly right here with a few caveats. First off you're right on most of it: carpet is 5 year, appliances are 5 year, landscaping is 15 year, but the vinyl plank could go either way 5 or 27.5 depending on how installed, and for everything else it'll be a mix of 5 and 27.5: lots of the kitchen stuff would be 5 year and the bathroom stuff would be 27.5. The thing is it's all based on the facts and circumstances of the individual assets there's no bright line test there's 6 factors used to determine if something is 5 year or 27.5 year. That's why it requires an engineering analysis to be done properly.

 The biggest issue with depreciation when it comes to rehabs is removing the cost of everything that was torn out from your cost basis. If you start depreciating the new improvements without removing the cost of the replaced items you're technically still depreciating retired assets and the IRS doesn't like that since it's technically tax fraud. 

Let's say you bought that 4 plex for $300K with $100K in the land and $200K in the building. Then you tore out $20K worth of old stuff and put in $50K worth of improvements. Your depreciable cost basis should be $230K, not $250K since $20K was retired. Make sense?

As for just doing everything at 27.5 year that is what most people do but it's incorrect since in the event of audit the IRS could come in and disallow further depreciation of short life assets once their depreciable life is over.

Really the only way to have everything properly depreciated is through forensic engineered cost segregation since everything is entangled with the original property cost.

You'd be surprised how much benefit there can be hiding in a 4plex. I had a client who had 2 4plexes he purchased together and the tax benefit we got him was over 4 times the cost of the study, over 5 times after accounting for the after-tax cost of study.

Of course everything depends on the specific situation, and if you want to see some real numbers for your property just let me know.