Cost segregation study for a single family short-term rental?

Question

My family owns a single family home and has recently considered renting it on AirBnb. This is a unique property as it is on a lake and has a private dock. It is also a double-wide mobile home so I feel like a cost segregation study would be worth the money if it's not ridiculously expensive since they actually do depreciate unlike a typical home. I'm worried about recouping the investment on it if/when we have to sell it one day. Any advice or experience here would be greatly appreciated. Thanks!

Bonnie Griffin Kaake · Answer

@Bill Brandt @Wilson Hunter @Conner Olsen STR are active investments like a hotel as long as you materially participate in the management of them. If you hire the work out to someone or a company that does more than you do to manage the property, it becomes passive. The difference to you is that with "active" properties you can use the extra depreciation cost segregation brings to you against W2 income as well. If the property is determined to be passive, then the extra depreciation can only be used against passive income. As for recapture on sale, it is always at your ordinary-income tax rate, whatever that rate is. And, a knowledgeable CPA/tax professional can justify using lower values on items that are not worth the same when you sell as when you purchased the property. Think about carpets...do you really think that on a rental property they are worth what you paid when you bought the property and had them rapidly depreciated with cost segregation? NO! The real value associated with cost segregation is the time value of money and what you can do with it NOW rather than leaving it sitting with the Treasury Department for 27.5 or 39 years. Remember too that if you can't use all the depreciation in the first year of a cost seg study, you can roll it forward until it is all used. Why pay more in taxes than you need to pay?

Wilson Hunter · Answer

Neither of those points have to be true necessarily - OP, find and consult a skilled CPA on this topic.

Basit Siddiqi · Answer

STR's normally generate higher revenue than their LTR counter part.A cost segregation will increase your expense in year one.Performing a cost segregation will either do one of two things.1) Allow you to utilize the extra loss against your other income and lower your tax burden.2) Allow you to offset the extra revenue in year one, allow you to suspend the extra losses to offset the revenue in future yearsBest of luck!

Gerald Pitts · Answer

I highly recommend Yonah Weiss for doing a Cost Seg Study. And Ryan Bakke for CPA. They are both the STR go-to experts in this area.

Bonnie Griffin Kaake · Answer

@Landon Evans If the family's purchase price was above $200K, don't hesitate to contact an engineering-based study company. You may be surprised and you could have the peace of mind that any possibility of an audit will be covered at no cost to you. I have done many short-term rentals like Airbnb and Venmo. We also do RV parks with great success. There are so many things that can be covered under cost segregation that you may not be aware of right now. I would have to know more to give you any additional advice or an estimate.

Bonnie Griffin Kaake · Answer

At this time, the IRS's recapture rate is at your ordinary income tax rate up to a max of 25%. Therefore, the higher your ordinary income tax bracket, especially if it is over 25%, you have nothing to worry about. If it is under 25%, you will only pay at your ordinary income tax rate. Too many people are freaking out over the recapture rate and there is no need to be concerned. This is especially true when the property depreciation being recaptured is worth less than when it was purchased and cost segregation was done. Of course, you will have some recapture to pay but you have had use of that cash flow and if used wisely, you should experience at least an 8% return on its reinvestment. Then again, you have choices, you can go take vacations or waste it in Las Vegas too. ;-) Of course, you will want to work with a RE savvy CPA/tax professional. Not all tax professionals are up-to-date on these more complex RE tax matters. Our company provides Continuing Professional Education (CPE) credit classes to tax professionals regarding this complex niche of real estate tax benefits.

Bonnie Griffin Kaake · Answer

In most situations, cost segregation makes perfect sense. Even the Journal of Accountancy and the American Institute of CPAs recommends using it to simplify your taxes now and going forward. There are very few situations when cost segregation does not make sense. 1. If you are going to sell the property within 1-2 years. 2. You pay no taxes or are a non-profit entity. 3. If after consulting with your tax professional, your specific and unique tax situation cannot make use of it. If you are in a low tax bracket and the property was purchased for less than $200K, it may not be worth the cost of a study. Otherwise, you can usually count on about 6% to10% of what you purchased a property for will be returned to you in after-tax cash flow. In other words, about $60K to $100K for a property purchased for $1M. Chris, I am not sure where you are coming up with your numbers but they are far from what we have experienced in our 20+ years of doing over 35,000 cost segregation studies. The higher the cost of the property and the higher the buyer's tax rate, the wider the ratio of study cost to tax and cash flow benefit. This equals very large ROI numbers.

Bill B. · Answer

Two things not to forget. (1) You’ll only be running that depreciation against your rental income, so that’s your savings cap (per year). (2)When you sell you’re going to be taxed at 25% on that depreciation recapture. Keep that in mind if you’re regular tax bracket is lower than that.

Chris Levarek · Answer

@Landon Evans Think like a business. If the cost of the study, nets you insert value here in savings or income on your tax return, what is the acceptable ratio of cost versus income? So for example, say you make $10k depreciation, and you are able to use $10k (important point here), then is it acceptable that the cost is $3k, $5k, $9k. $3k/$10k is is a 70% gain. $5k/$10k is a 50% gain, $9k/$10k is a 10% gain.So at what point does the study not make sense? Just make sure you can actually use the depreciation. If you can't use it against a passive or active income gain, then the discussion above isn't even on the table.

Conner Olsen · Answer

Can you expand on that and give an example? Cost segs are hard for me to wrap my brain around.