Is a cost seg worth it?

Question

Hello all, I was considering a cost seg but my CPA is telling me that is it not worth it given the cost of my property. This seems out of line with what I see on social media so I was hoping to get some other folks thoughts. Below are some specific details... Thanks in advance!

I have a home I purchased in North Georgia in 2/2021. I acquired the property with an FHA loan and it was my primary for a year; purchase price was $350k. I lived in it for a year and since then it has been operating as a STR. I had it appraised earlier this year and the appraisal came back at $595k. I really need extra funds for another primary in the new year, so I am hoping that my CPA may just not be as educated on this topic, although it is worth noting the firm I use does focus on real estate investors so I was a bit surprised when he said a cost seg was not worth it.

Nate Meeker · Answer

@Michael Rendon The purchase price is what matters, the appraisal doesn't impact taxes. That is only good to have if you are considering doing a cash out refi.

Chris McCormack · Answer

It’s probably worth looking to another CPA who’s well versed in real estate and cost segregation. The cost seg estimates are free and a qualified tax planner would be able to see whether you’re able to capitalize on the benefits. Have you received an estimate from a cost seg expert?

Julio Gonzalez · Answer

@Michael Rendon Your property definitely has the potential to benefit from a cost segregation study. Determining whether to do a cost segregation study or not has a lot variables. What was the purchase price of your property? Are you in an area where land is very valuable leaving you with less to depreciate? Some other factors to consider - How long are you planning to hold this property? If less than two years, cost seg probably isn't a good route. Are you planning to do any renovations? If so, I always recommend getting the study done prior to rehabbing.  What is your ROI and the amount paid for a cost seg study? Do you have a current need for that cash flow generated from the tax savings? Could you go reinvest it in another property to build even more income? Would you have net income or net loss without the cost seg study? Are your real estate investments active or passive? Are your losses locked up against your passive income? There are a lot of factors to consider when get a cost seg study to determine if the benefits outweigh the costs. If you are able to get REPS status, that would help tremendously. Have you obtained any detailed cost/benefit analysis quote? Most cost segregation study companies provide the quote for free. Is it a reputable company and will the documentation provided from the study hold up in an audit? If you need any help or have any questions, feel free to reach out!

Angel Maldonado · Answer

You mentioned that the property is a STR, you might ask whether it is being reported as active or passive income. Most STR properties qualify as active income but if your CPA has it listed as passive it might not be worth a cost seg because the accelerated depreciation pushes a loss that would be suspended to future years.

I agree with Basit that your CPA should easily be able to explain why the cost seg isn't worth it.

Best,

Basit Siddiqi · Answer

It should be easy for him to explain why it is or not worth it.Cost of Cost Segregation study = $XXXIncrease in Depreciation from study = $XXXThe extra depreciation will decrease your taxable income by $XXX

John Morgan · Answer

@Michael Rendon

Not worth a cost seg study unless your property is worth at least 1 or 2 million. You can cost seg some things on your own like floors, driveway, fence over the applicable years.

Greg Scott · Answer

Your CPA may be 100% right.

Here's how to break it down:

1) Can you use the extra depreciation?  This depends on your specific situation.  Your ability to reduce your taxes may already be maxed out.  If this is the case then accelerating depreciation does you no good whatsoever.  In fact, it can be detrimental

2) How much benefit will it bring you?  Obviously, you would never want to pay more for the Cost Seg analysis than the total tax savings.   So, your CPA can help you understand how much you might save by doing the Cost Seg.

3) What are you willing to pay for a Cost Seg?  There several Cost Seg approaches.  The most defensible in an audit are expensive.  The cheapest, you had better have a lot of back up data or hope you don't get audited.  Once you have answered question #2 and #3 you can make a business decision on whether or not it is worth it to pursue one.

For reference, here is the IRS guidelines on Cost Seg https://www.irs.gov/pub/irs-pdf/p5653.pdf

Is a cost seg worth it?

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