Cost segregation studies can be conducted for several reasons including income tax, financial accounting, insurance purposes, property tax purposes, etc. This post will focus on studies done for income tax purposes, which involves analyzing and reclassifying the total cost of a property then allocating that cost into specific asset categories for depreciation purposes.
Benefits of Cost Segregation Studies for Income Tax Purposes
The primary benefit of a cost segregation study is the acceleration of depreciation deductions, which reduces taxable income and improves cash flow. Reallocating costs into shorter-lived asset categories can impact the tax treatment for depreciation purposes. For example, assets that were once 27.5-year or 39-year assets (assets with a long depreciation life) can now be depreciated over shorter recovery periods. As a result, taxpayers can take advantage of the increased depreciation expense earlier in the property’s life to realize greater immediate tax savings as well as higher tax savings year-to-year.
Cost segregation studies are typically performed on either newly constructed property or acquired property. Specific examples of how cost segregations can be beneficial for each type of property are illustrated below.
Newly Constructed Property
Recently completed construction projects, renovations, remodels, additions, etc. to property that is already in existence. In the example below, the direct costs and indirect costs are used.
Example: Suppose that a newly constructed office building was placed into service on August 1, 2025. A cost segregation study can break down the entire cost of the asset ($10,000,000) into shorter-life asset categories, which may include furniture and fixtures, office equipment, land, outdoor lighting, roof, etc. Instead of the entire $10,000,000 asset being depreciated over 39 years, the assets may be depreciated according to their useful life or by utilizing bonus depreciation or a Section 179 expense. The result is a greater overall tax savings.
Acquired Property
Land, buildings, land improvements, and personal property that the taxpayer may have acquired. Since the property may have been constructed far in the past, the cost segregation ensures that all property in service is properly valued and tax opportunities are being utilized. Reallocating the assets is beneficial so the taxpayer may receive every tax benefit related to the depreciation on the property.
Example: Suppose that a commercial rental property was purchased for $2,000,000. A cost segregation study was completed on August 1, 2025. The study noted that the land was valued at $500,000, and the parking lot could be segregated from the building. With the One Big Beautiful Bill Act, this parking lot (valued at $20,000) may be fully expensed under bonus depreciation. Taking depreciation on this asset separately would immediately reduce taxable income by $20,000.
Other Advantages of Cost Segregation Studies
In addition to lowering taxable income, there are several other advantages of breaking a property down into more specific asset classifications. A few additional benefits include:
- Increased after-tax cash flows – because tax liability is reduced, more cash is available to be reinvested into the business or utilized for other purposes
- Eligibility for bonus depreciation or Section 179 expensing – these favorable tax treatments are typically not permitted to be used on 27.5-year or 39-year assets unless they fall into specific assets categories
- Audit defense – if a taxpayer were to be audited by the IRS, the detail that is needed for cost segregation studies provides substantial evidence to back any claims
- Overall tax planning opportunities – studies conducted can help inform taxpayers and their advisors regarding other potential considerations, including the calculation of gain or loss on disposals, recapture rules, and interest capitalization under 263A, to name a few.
Impact of the One Big Beautiful Bill Act (OBBBA)
The One Big Beautiful Bill Act, also referred to as OBBBA, increased the value that cost segregation studies may bring to taxpayers in several key areas:
Bonus Depreciation
Prior to the OBBBA, bonus depreciation for property placed in service between September 27, 2017 through December 31, 2022, assets were able to be deducted at 100% of their cost in the first year. A phase out began for assets placed into service after December 31, 2022, with the percentage decreasing 20% each year until 0% was reached in 2027. The OBBBA permanently reinstated bonus depreciation to 100% for assets acquired after January 19, 2025.
Why is this important for taxpayers? These assets can be fully expensed in the year of acquisition rather than taking a partial deduction plus MACRS depreciation on the remaining cost of the asset. Further, bonus depreciation may be utilized when the entity is in a loss, unlike Section 179 expensing. This may create what is called a Net Operating Loss (NOL) which may be carried forward to offset income in subsequent tax years.
179 Depreciation
The OBBBA increased the Section 179 expense limit from $1 million to $2.5 million and the phase-out threshold from $2.5 million to $4 million.
Why is this important to taxpayers? The expanded eligibility increases the number of taxpayers who may immediately expense their capital purchases.
Energy-Efficient Commercial Building Property (Section 179D)
The OBBBA disallows the deduction for energy-efficient commercial buildings for construction that begins after June 30, 2026.
Why is this important to taxpayers? If taxpayers are considering conducting a cost segregation study for the purpose of claiming 179D deductions, they should act fast, so they do not miss out on the deduction.
Conclusion
Overall, cost segregation studies are a powerful tax planning tool that may be utilized, now more than in years past, to help taxpayers reduce their tax liability.
Please consult your GYF tax executive to determine if a cost segregation study is appropriate for your situation and to discuss how to maximize the potential tax savings under current law.
