How to Choose a Cost Segregation Company

[Julio Gonzalez]

Cost segregation has been a very popular tax strategy for real estate owners as it can provide significant tax savings. A cost segregation study is a strategic tax planning tool that separates the assets that have a shorter useful life and can be depreciated over 5, 7 and 15 years from the residential rental property or nonresidential real property that are depreciated over 27.5 and 39 years, respectively. By accelerating your depreciation schedules, you reduce your taxable income which in turn increases your operating cash flow.

With the increased popularity, it has created an increase in cost segregation companies and technologies all trying to offer quick and inexpensive reports. Be aware that not all of the companies have the qualifications to perform these studies. Additionally, the IRS has recently increased the scrutiny regarding cost segregation studies. Here’s an article that goes into more detail on this.

So how do you make sure you are choosing a reputable, qualified and experienced cost segregation firm? Let’s dive into it.

Potential consequences of working with an unqualified firm:

• Missed opportunities: Firms that are inexperienced may overlook numerous components that are eligible to be reclassified as they lack the knowledge or don’t perform a thorough analysis.This reduces the amount of potential deductions which also reduces your potential tax savings!
• IRS audits and penalties: Studies that are poorly conducted may be full of unsubstantiated assumptions and errors that can lead to expensive audits and large financial penalties from the IRS.
• Long-term issues: Dealing with IRS audits and having to correct inaccurate studies can be a drawn-out, stressful and expensive process. It can often take years to resolve and may require you to hire professional assistance (even if the cost segregation firm claims they offer audit assistance).

Here are some qualifications that you should look for when hiring a firm:

• In-house engineers: The best firms have specialized engineers on staff, not just hired contractors. Someone from the company should perform a site visit of the property to do a thorough analysis and ensure eligible components are identified accurately.
• Licensure and experience: The firm should have licensed tax specialists and engineers and this is recommended by the IRS.
• Experience with your specific type of property: Not every property is treated the same whether it be office buildings, self-storage, restaurants, gas stations, mobile home parks, residential properties, multi-family, or car washes. Be sure that the company specializes in your specific type of property.
• IRS and industry compliance: Be sure that the firm has a long-standing track record of IRS-compliant cost segregation studies. Also ensure they are up-to-date on the most recent construction accounting practices, audit procedure and tax regulations.

While price is a consideration for everyone, remember that the cheapest option is not usually the best option. And when it comes to your taxes, more experienced firms are typically able to provide greater tax savings.

There are some red flags to look out for when researching and interviewing cost segregation companies.

• If it sounds too good to be true, it probably is: If firms are offering unusually low fees or unrealistic savings, be wary.
• Lack of transparency: Firms should be open about their qualifications, pricing and processes. If they seem evasive, be wary.
• Don’t trust a website: Websites are very easy to create these days and just because it looks professional doesn’t necessarily mean it’s a qualified or reputable firm. Be sure to get references!
• Insufficient documentation: A cost segregation study report is typically very comprehensive and often over 100 pages long including supporting evidence and detailed calculations. If the report is much shorter, the company may have cut corners or you may be lacking proper documentation.

What other things do you look for when selecting a cost segregation company?