Who Performs a Cost Segregation Study?

A cost segregation study is a valuable tax planning strategy for real estate owners. It involves identifying and reclassifying certain components of a building that are typically depreciated over a long period, such as 39 years for commercial properties or 27.5 years for residential rental properties. By separating these components into shorter depreciation recovery periods, often 5, 7, or 15 years, the study accelerates depreciation deductions. This accelerates depreciation deductions, reducing current taxable income and increasing cash flow. Implementing a cost segregation study requires specialized expertise to ensure accuracy and compliance with tax regulations.

Key Professionals Involved

A cost segregation study involves a collaborative effort from various professionals. Engineers play a central role due to their specialized knowledge in construction and building systems. They meticulously analyze blueprints, construction documents, and often conduct on-site inspections to identify and categorize building components, such as electrical systems, plumbing, interior finishes, and land improvements. This detailed analysis allows engineers to determine which assets qualify for accelerated depreciation based on their function and depreciable life.

Certified Public Accountants (CPAs) are essential to the cost segregation process, focusing on the tax implications and compliance aspects. CPAs ensure that the reclassification of assets adheres to Internal Revenue Service (IRS) regulations and integrate the study’s findings into the property owner’s tax returns. They understand how accelerated depreciation impacts overall tax liability and cash flow, and ensure the proper application of tax law, including relevant IRS codes and revenue procedures.

Many specialized cost segregation firms house both engineering and tax professionals. This integrated approach ensures seamless coordination between the technical analysis of building components and the application of tax law. This collaboration is important for developing a defensible cost segregation report.

Required Expertise and Qualifications

A cost segregation study requires technical knowledge and tax acumen. A deep understanding of construction methods, building systems, and asset classification is necessary. This technical expertise allows professionals to accurately distinguish between structural components (typically depreciated over 27.5 or 39 years) and personal property or land improvements that qualify for shorter recovery periods. Engineers, for instance, can differentiate between electrical components serving the building’s overall function and those specifically supporting business equipment, which may have a shorter depreciable life.

Expertise in relevant tax law includes IRS codes, revenue procedures, and court cases. Professionals must be familiar with guidance such as Revenue Procedure 87-56, which provides class lives and recovery periods for various assets, and the IRS Cost Segregation Audit Techniques Guide (ATG).

Professionals should also have experience defending their reports in an IRS audit. A defensible methodology, including detailed documentation, photographic evidence, and clear explanations for asset classification, is important. This involves adhering to the IRS’s preferred methods, such as a detailed engineering approach from actual cost records or a detailed engineering cost estimate approach, rather than less reliable “rule of thumb” methods. Professional credentials, such as a Professional Engineer (PE) license or a Certified Public Accountant (CPA) license, demonstrate competence.

Working with a Cost Segregation Specialist

Engaging a cost segregation specialist involves detailed information exchange from the property owner. The initial step is a consultation to determine the property’s eligibility and estimate potential tax benefits. During this phase, the specialist will assess the property’s characteristics, acquisition cost, and the owner’s tax position to provide a preliminary analysis. This initial assessment helps both parties understand the potential return on investment for undertaking the study.

Once engaged, the specialist requires documentation from the property owner. This includes property settlement statements, purchase or lease agreements, construction invoices, and available blueprints or architectural drawings. For properties that have undergone renovations or new construction, contracts, payment requests, and detailed cost breakdowns are also essential. This information allows the specialist to thoroughly analyze the property’s components and associated costs.

A critical part of the process often involves a site visit, where the specialist physically inspects the property to identify and categorize assets. If a site visit is not feasible, the specialist may rely on available data and detailed documentation to estimate component values. Following the data collection and analysis, the specialist prepares a comprehensive cost segregation report. This report details the methodology used, the classification of each component, the calculations supporting the reclassification, and relevant tax law citations.

The final report is then provided to the client and their tax preparer. The tax preparer uses the findings to adjust depreciation schedules on the property owner’s tax returns, potentially filing an amended return (Form 3115, Application for Change in Accounting Method) if the property was placed in service in a prior year. Many specialists also offer post-study support, including assistance with audit defense, which provides assurance that the study’s findings can be substantiated if questioned by the IRS. The entire process, from initial consultation to report delivery, can take several weeks to a few months, depending on the complexity of the property.