We’ve done a few episodes about cost segregation and why it’s a great tool for building wealth in real estate. Today, I want to show you just how powerful this tool is by breaking down a cost segregation study I recently completed on one of my properties.
- Listen to the podcast “#108: How Cost Segregation Allows You to Invest in More Real Estate” on the Colorado Springs Real Estate Investing Podcast
- Watch the YouTube video (at the bottom.)
- Read the blog post. Note, the blog is an executive summary. Get the in-depth breakdown from the podcast or video.
Are These Good Returns for a Fourplex?
In February of this year, I purchased a fourplex for $800K. The breakdown of the property is shown below. Keep in mind that these are pro forma rents, so this is the best case scenario for returns.
These returns won’t excite anyone, especially investors who want cash flow. So, why do I think this is a great purchase?
How Cost Segregation Puts Money Back in Your Pocket
As we’ve mentioned before, all property owners are required to take depreciation on real estate holdings. Depreciation on improvements is calculated over a 27.5 year period. An engineering-based cost segregation study looks at the property and breaks down aspects of the property into different categories. It removes the land, which can’t be depreciated, and identifies items with a 5- and 15-year lifespan, which depreciates sooner than if they were lumped into the 27.5 year property.
Thanks to the Tax Cuts and Jobs Act of 2018, assets with useful lives of 20 years or less placed into service after 2017 can be 100% bonus depreciated in the first year in 2022 (it changes in subsequent years).
In my case, the study identified $131K worth of 5 year personal property, like appliances and certain types of flooring. It also found $33K in land improvements, such as driveways and fencing. I was able to take that amount and add it to the regular depreciation schedule for the rest of the property, which allowed me to front-load the depreciation in year 1.
Without the study, I’d take around $25K in depreciation. With the study, I can take about $180K in all. This adds up to a true tax savings of almost $58K! Without it, I’d only be saving $7K in taxes.
- Cost segregation and depreciation are complex topics that require a detailed understanding. The bottom line is: this is a great way to put real money back in your pocket. However, cost segregation is not for everyone or every property.
- Talk to your CPA or tax professional to see if a cost segregation study would be beneficial to you. And remember—start the conversation early. This can be a long process, and you’ll want to give them plenty of time before tax season to consider it!
- If you qualify for Real Estate Professional Status, you may be able to save more money by offsetting passive activity losses against active income.
Reach out to us to learn more. We’ll be happy to give you more information and share CPA referrals.
Chris would be happy to share his write ups and even the cost segregation studies themselves for his condo, home with ADU, and fourplex.