Common Cost Segregation Study Mistakes (And How to Avoid Them)

[Julio Gonzalez]

A cost segregation study can offer a wealth of benefits in the right scenario, but it’s not uncommon for property owners to underestimate their complexity. Taking a DIY approach is not advised unless you have the right experience and expertise.

Otherwise, you may find yourself falling victim to the pitfalls below.

Lack of Documentation

One of the biggest pitfalls of cost segregation studies is inadequate documentation, such as:

• Missing invoices
• Inadequate supporting evidence for your cost allocations
• Improper or incomplete descriptions of reclassified assets

Having insufficient records can create headaches and challenges during IRS audits. In some cases, it can result in penalties or deductions being disallowed.

How to Avoid This Pitfall

• Be consistent with your documentation practices. Use the same processes throughout the study to ensure you have all the information you need.
• Be meticulous about your record-keeping. Keep all reports, invoices, and other pertinent records organized and easily accessible.
• Be thorough with your reporting. Include clear descriptions of the reclassification of assets, your supporting calculations, and the methodology used.

Misclassification of Assets

Asset misclassification is a common error, but it’s one that can cause challenges during an IRS audit and result in incorrect depreciation schedules.

When assets are incorrectly categorized, depreciation deductions may be overstated or understated.

How to Avoid This Pitfall

• Engage a qualified professional. Professionals with expertise in cost segregation will ensure your property components are classified accurately.
• Follow IRS guidelines. The IRS provides detailed guidance on how to properly classify assets. If you’re still unsure of how to classify an asset, consulting with a professional is the next step.
• Review your classifications regularly to ensure they are still accurate and compliant with IRS guidelines.

Conducting a Study Without the Right Expertise

Often, the two mistakes above – insufficient documentation and asset misclassification – arise when you attempt to conduct a cost segregation study without adequate experience or knowledge.

Performing a cost segregation study without the right expertise can increase the likelihood of an audit and undermine its benefits.

How to Avoid This Pitfall

• Work with the right professionals. Build a team of experienced tax professionals, engineers, and accountants who specialize in cost segregation studies. Their knowledge and experience will be invaluable.
• Stay informed. Keep on top of the latest IRS guidelines and follow the best practices to ensure your study follows current standards.

Cost segregation studies are complex. To maximize their benefits and avoid complications, you need the right team of professionals to help you navigate the process and avoid these mistakes.

What other cost segregation pitfalls have you seen or heard stories of?