Accountant needs fair market values for cost seg study?

Question

I am talking with my accountant about the mechanics of a cost segregation study on two duplexes purchased in 2022. He has asked for fair market values for items that will be included in the study (ex: roof, water heaters, HVAC, cabinets, appliances). This data will be used to prorate the purchase price based on the relative fair market value of each of the components. I know the age of some items, but not all (ex: kitchen cabinets, sink, carpet) items. Two questions:
1) Do you simply estimate the age of unknown items?
2) Where can I source fair market value data of components? Ebay?
3) Is it common for owners to provide the fair market value data?

Note that the accountant is not located in the same city as the duplexes, which may be the problem here. I would appreciate guidance from anyone who has done a cost seg study. Thanks in advance!

Bonnie Griffin Kaake · Answer

@Jeff Costa  and  @Basit Siddiqi   Basit is correct. You may have to upgrade your CPA/tax professional to one who is familiar with how cost seg studies are actually done and the other benefits available to investors. There is not much a CPA can do for you without a good engineering-based study. And, they are taking on the risk if the study is ever audited.

Jeff, there is no way you will know whether "the juice is worth the squeeze" unless you get a quality engineering-based study estimate. The estimates are free and give you all the information you need to make an educated decision. Then, ask yourself what you would do with that extra cash-flow now?

You can usually expect about 6-8% of your purchase price in up-front cash-flow. Even with the change in Bonus from 100% to 80% for a purchase in 2023, you are still getting 100% of what is depreciable to reinvest. You will get 80% in 2023 and the balance of the 20% we can expedite over 5 or 15 years...that is 1/5th and/or 1/15th each year going forward. If you won the lottery, would you want that money up-front or wait for it year by year? Then again, with the lottery, you get less if you take it up front. With cost segregation, you get ALL of it up-front minus a relatively small fee for the study. Maybe you know this but the Treasury Department does not pay you interest on that money if you leave it with them over the 27.5 or 39 years. ;-)

Greg Scott · Answer

@Chris Seveney

Great question.

If one is not a real estate professional, on a small asset, the benefit is questionable.  If they are holding the asset for a shorter period (e.g. 2-5 years) the ROI may even be negative.

I've only done cost seg on large assets as a RE Professional which has resulted in some very large tax refunds.  I don't have to do the math to know we've had a positive ROI from those.

Bonnie Griffin Kaake · Answer

@Jeff Costa   I am curious...why does your tax professional need fair market value? The value of each item is based on the condition of the item/component and what you paid for the property minus land. As @Julio Gonzalez mentioned above, this is a very complex process and mathematically intense to be done right. And, it does require a lot of documentation. Audits are not cheap. The cost of a good "quality" cost seg study has come down considerably in the last few years.

Chris Seveney · Answer

@Greg Scott

I agree I am curious if people actually save money compared to what they spend on the cost seg year over year.

I think where people also get confused is they think they are “saving more” or “getting more” deductions. While you may get a better deduction Most do not 1031 so when you think about it

Let’s say you spent $1,000 on a cost seg that got you $3,000 extra per year.

If you sell in five years your basis is lower, so the chances the $2,000 net savings allowed you to earn that $1,000 back is highly unlikely…

Julio Gonzalez · Answer

@Jeff Costa

While a cost segregation study may seem like a simple concept, it's actually a very complex process that requires significant documentation as well as specific methodologies. If the proper reports and documentation are not completed, you run the risk of failing an IRS audit and the cost segregation not being honored. Here's a link to the IRS website noting specific items that are included in the cost segregation study report. When working with a cost segregation company, they would perform an onsite visit as well as take care of all of the items you listed above. Most cost segregation companies will provide a free cost/benefit analysis quote for your property.

Basit Siddiqi · Answer

Why isin't the study being done by an engineering firm.It seems like the CPA is trying to do the cost segregation study himself.also, it appears that you came to the conclusion that it is not worth it but I am unable to see anywhere in this post that provides support that you should or shouldn't get it done.

Jeff Costa · Answer

Thanks for the feedback everyone! For two small duplexes, it seems the juice is not worth the squeeze.

Chris Seveney · Answer

@Greg Scott

I agree definitely recommend on commercial (we have done many of them) and can have huge benefits. On the small stuff ie single family rentals - I have not see numbers to justify having them done

Greg Scott · Answer

I am most familiar with cost segregations done by firms that specialize in this area.  They have Engineers that break out the building components and accountants that compute the value.  These firms are fairly expensive so often not worth the cost for something like a duplex.

In the past, I had looked into doing cost seg on smaller assets, but my straight line depreciation expense exceeded the cash flow so it didn't make sense to do cost seg, and then have to recapture all that depreciation later at ordinary income.

There is an IRS publication that may help you.  I'd direct you to section B on page 18  https://www.irs.gov/pub/irs-pd...

Accountant needs fair market values for cost seg study?

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