Cost Segregation give apartment owners tax relief
Below is a MRR and PLR article in category Finance -> subcategory Taxes.
Cost Segregation Provides Tax Relief for Apartment Owners
Summary
Apartment owners often face high costs in maintaining their properties, including maintenance and upgrades. Managing federal and state income taxes can be a significant financial burden. However, an innovative method known as cost segregation can help mitigate these expenses by accelerating the depreciation of property components, thus reducing federal taxes.
Article
Apartment owners frequently encounter significant expenses while maintaining their communities. Even smaller properties require attention to landscaping, renovations, and repairs, like parking lots and fencing. Federal income taxes, along with potential state taxes, add to these financial challenges. Fortunately, cost segregation offers a strategy to lessen this burden by maximizing depreciation benefits.
Increasingly, apartment investors are exploring every possible way to cut costs, especially in a market where occupancy rates compete with single-family homes. One often overlooked strategy involves ensuring that all depreciable items are accurately represented on tax returns.
Beyond typical items like copiers and vehicles, the IRS allows for accelerated depreciation on a wide range of buildings and improvements. There are 130 items that the IRS acknowledges can depreciate faster than the standard 27.5-year schedule for apartment buildings. These items include parking surfaces, landscaping, and certain wall coverings, commonly found in apartment complexes.
Conducting a cost segregation analysis can effectively reduce taxable income and defer capital gains taxes until the property is sold. The taxes recouped on the additional depreciation can be taxed at a lower rate, possibly lessening the impact from the maximum 35% rate originally avoided.
The time value of money also plays a role; delaying taxes even for a few years can be financially advantageous. Given these factors, this approach allows for reallocation of costs into different depreciation schedules?"five-year, seven-year, 15-year, and 27.5-year?"rather than solely attributing value to the land.
According to IRS guidelines, apartment communities depreciate over 27.5 years, which is faster than the 39-year schedule for other property types like offices and retail spaces, providing quicker savings. Items commonly found in apartments?"carpets, linoleum, window treatments, and appliances?"have a five-year depreciation period, as these often require replacement within that timeframe.
Versatility of Cost Segregation
Regardless of whether a community is newly acquired, long-held, or up for sale, a cost segregation analysis can be beneficial. Ideally, this should be conducted as soon as ownership is assumed, whether the property is purchased or newly constructed. Properties built after December 31, 1986, are eligible. Those that already exist may utilize "catch-up provisions" to increase first-year savings with a cost segregation study.
Communities of all sizes can benefit, from those with fewer than 10 units to those covering entire city blocks. Properties with an assessed value of at least $200,000 often see significant federal tax savings after a cost segregation evaluation.
Steps to Prepare for a Study
Working with a consulting firm specializing in cost segregation requires minimal time from the owner. Collaboration with the owner's CPA or tax accountant is recommended to tailor the study to the property's unique financial context.
The original purchase price serves as the cost basis, providing savings on both initial investments and improvements. A thorough report?"combining quantitative measures (such as square footage and quantities of materials) and qualitative assessments (like judging the remaining life of items)?"is created. This report then supports federal income tax returns, leading to potential tax relief.
By using cost segregation, apartment owners can enhance their financial standing and manage tax liabilities more effectively, allowing for reinvestment into their properties and continued growth.
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