Is Cost Segregation Going Away? A Look at Current Tax Law

Cost segregation is a tax strategy that helps commercial property owners accelerate depreciation deductions on their buildings. This process reclassifies certain components of a property, such as interior finishes, electrical, and plumbing, from longer depreciation schedules to shorter ones, typically 5, 7, or 15 years, instead of the standard 27.5 or 39 years for real property. For property owners seeking to optimize their tax position, understanding the longevity and stability of this strategy is important. As of current tax law, cost segregation is not going away.

The Current Status of Cost Segregation

Cost segregation is a well-established tax strategy rooted in long-standing IRS regulations and tax court precedents. It is a fundamental method of depreciation based on property classification. This approach allows property owners to reclassify assets within a building that have shorter useful lives than the building structure itself.

The Modified Accelerated Cost Recovery System (MACRS) is the depreciation system used in the United States. It categorizes assets into classes with set depreciation periods. Cost segregation studies identify assets within a building that qualify for shorter recovery periods under MACRS, such as those typically falling into 5-, 7-, or 15-year categories, rather than the 27.5 years for residential rental property or 39 years for non-residential real property. This reclassification results in accelerated depreciation deductions.

Specific tax code sections underpin cost segregation’s validity. For example, Section 1245 refers to tangible personal property, including machinery and fixtures. Section 1250 deals with real property, like the building structure. By reclassifying tangible personal property from real property, cost segregation allows for faster depreciation. This consistent application over decades has solidified cost segregation as a legitimate and enduring tax planning tool.

Understanding the Source of the Question

The question of whether cost segregation is “going away” often arises from misunderstandings about its relationship with temporary tax provisions, particularly bonus depreciation. Cost segregation classifies property for depreciation, while bonus depreciation is an incentive allowing businesses to deduct a larger percentage of qualifying assets in the year they are placed in service. While bonus depreciation rates have fluctuated and begun to phase out, this does not diminish cost segregation’s underlying validity.

The Tax Cuts and Jobs Act of 2017 initially allowed for 100% bonus depreciation, which began phasing down in 2023. This phase-out, reducing the bonus depreciation percentage by 20% each year until it reaches zero in 2027, led some to believe cost segregation was losing effectiveness. However, recent legislative developments, such as the One Big Beautiful Bill Act, permanently restored 100% bonus depreciation for qualified property placed in service after January 19, 2025. This demonstrates that while specific incentives can change, the core methodology of cost segregation remains.

Broader tax reform discussions also contribute to this confusion. Proposals for changes to depreciation rules can create uncertainty, but unless enacted into law, they do not alter the current tax treatment of assets. Cost segregation is fundamentally about correctly classifying property for depreciation purposes, a principle that predates and operates independently of temporary tax incentives.

Strategic Implications for Property Owners

Cost segregation is a stable and ongoing tax strategy. Property owners should consider its integration into their overall tax planning. Evaluating properties for a cost segregation study can be beneficial for new acquisitions, newly constructed buildings, or properties that have undergone significant renovations. Even for properties purchased years ago, a “look-back” study can be performed to claim catch-up depreciation deductions.

Engaging qualified professionals is important due to the intricate nature of property classification and tax regulations. Specialists, including engineers and tax advisors, possess the expertise to accurately identify and classify property components, ensuring compliance with IRS guidelines. Professionals certified by organizations like the American Society of Cost Segregation Professionals (ASCSP) adhere to industry standards and provide reliable results that withstand audit scrutiny. Their detailed analysis involves reviewing construction documents, performing site inspections, and applying engineering cost estimation techniques.

Cost segregation applies across various commercial real estate sectors, including residential rentals, retail spaces, and industrial properties. While benefits vary based on property type and individual circumstances, the strategy’s broad utility makes it a valuable tool for many property owners. Cost segregation should be viewed as an integral part of a comprehensive tax strategy, allowing property owners to improve cash flow, reduce taxable income, and potentially reinvest savings.