Any risk with segregating the cost for accelerated depreciation?

3 Replies

Purchased my first commercial (Industrial) building and planning to segregate the cost to accelerate depreciation. Considering engaging a 3rd party company with their engineer visiting the place. Any disadvantages with this approach? Some believe it's a flag with IRS... I read that a lot of people do it and seems clear and legit. Any thoughts? 

It’s perfectly acceptable and legit business practice. Only problem is if you plan to sell without a 1031 exchange you’ll face a 25% recapture tax rate. So if your current tax rate is below 25% (like most people) you’ll owe more than you save. The point is the free use of the money in the meantime. That was worth a lot more when interest rates were higher. 

Even if you do a 1031 in he future this process means you’ll carry forward less basis so you’re future depreciation will be lower. But if you plan to die owning it and you don’t think you’ll make it to the end of the normal depreciation period it’s a great deal. 

Ps. It’s also a slightly bad deal if you believe tax rates will be higher in the future to try to pay off Our debt or prevent social security Medicare cuts. (The you’re getting tax savings today at lower rates but giving up future tax savings at a higher rate.)

Originally posted by @Roman Rytov :

Purchased my first commercial (Industrial) building and planning to segregate the cost to accelerate depreciation. Considering engaging a 3rd party company with their engineer visiting the place. Any disadvantages with this approach? Some believe it's a flag with IRS... I read that a lot of people do it and seems clear and legit. Any thoughts? 

It is not the risk but you need to report it correctly.  Are you even going to benefit from the deductions? Will your losses get limited? If so, it might not be a good idea to do the cost seg now and you should wait unit your losses wouldn’t be suspended under passive activity loss rules.  

@Roman Rytov Even the American Institute of CPAs recommends doing cost segregation studies. The excess loses can be carried forward if you can't use all of them this year. There are only a few reasons not to do a study. If you owe no taxes each year or if you are going to sell the property in one to two years, these are very good reasons. You are in real estate and know that you can usually make 8% a year on RE investments. Why let the IRS hold that money and you earn nothing on it. And, the recapture is always less than you got to start with due to both the time value of money and the fact that it does not all have to be paid back anyway. Take that one step further...with the 2014 Tangible Property Regulations, once you do a cost seg study and then make improvements, you get to expense many things that are normally capitalized or have been capitalized in the past.