Cost Segregation Study

Best Bottom Lines, LLC
Understanding The Latest IRS Updates
Relative to Cost Segregation Studies

Release Powerful,
Underutilized Tax-Saving
Strategies for Commercial and
Investment Real properties

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Goal of Cost Segregation Studies
Would you Rather Get Your Money Back Today or in 39 Years?
Would you Rather Get Your Money Back Today or in 39 Years?

Goal = to identify all construction-related costs that can be
depreciated over 5, 7 and 15 years and reclassified from 39,
31.5 and 27.5 years
Traditional depreciation for Real Property is 39 years for
commercial property and 27.5 years for residential rental
property
Personal property is depreciated much quicker and can be
depreciated over 5, 7, 10, and 15 years
Reducing tax lives results in accelerated depreciation
deductions, a reduced tax liability, and increased cash flow

“You must pay taxes. But stop
leaving a tip.”

Major Benefits to The
Property Owners?
Generates Cash Flow and Minimizes Taxes
Look back study for catch-up of depreciation could generate
refund
Free up money for investments which allows for compounded
growth
Benefit to clients includes ability to expense versus
capitalization of real property when conducting demolition or
when remodeling is involved.
Reduces real estate property taxes
Increase Cash Flow for Maximum Bank Financing
Section 179 Benefits
Reduced Insurance premiums


So What Is The Big Deal?

The depreciation for a property with a Cost
Segregation Study allows for significant increase in
deductions within the first five years.

For every $100,000 of cost shifting from 39-year
property to 5-year property, the net present value
of the tax benefit is approximately $16,000*

For $100,000 of cost shifted from 39-year property
to 15-year property, the net present value of the
tax benefit is approximately$10,600*
* Benefits assume a tax rate of 35% and a 5% return on investment

Timing Illustration


CSS Brief History

CS has been around since the 1960’s – it was called Component
Depreciation
There have been over 200 court cases and IRS rulings supporting
the benefits of CS
Initial cases were related to Investment Tax Credit (ITC) and
whether items related to a structure could qualify for a credit.
Congress enacted ACRS 1981 with new shorter lives
40 year life reduced to 15, 18 & 19 years
Simultaneously disallowed component depreciation
MACRS enacted in 1986 reiterated disallowance of component
depreciation

Hospital Corporation of America
Landmark Decision - 109 TC 21(1997)

Court reinstated and expanded a form of
component depreciation
Certain costs related to specific ordinary
use equipment (building support systems
that would otherwise be viewed as
structural) qualify to be depreciated over
life of underlying asset.
IRS acquiesced to Tax Court Ruling - 1999


CSS Brief History

In 1999, the IRS released Legal Memorandum 19921045 in which the IRS agreed not
to contest the (HCA) reclassification of building costs into different asset categories
that result in shorter depreciation lives
– This legal memorandum directs agents to verify that an engineering or
architectural study has been done to identify portions of the building's
system not related to the operation and maintenance of the building
– Without these detailed studies, IRS agents are advised NOT to accept the
reclassifications
– is a “facts and circumstances” assessment
– Use of Cost Segregation Study (CSS) must be specifically applied by the
taxpayer
– Allocations based on “logical and objective” measures
– Not based on non-contemporaneous data, or assumptions without
supporting records
– CSS must be “closely scrutinized” by the field


IRS - Audit Technique Guide

Issued in April 2004
Developed to assist Field Examiners
“WHY” are cost segregation studies performed?
“HOW” are they prepared?
“WHAT” to review and look for?

IRS Cost Segregation Audit Techniques Guide –
Assist Field Examiners
“Why” are CSS performed?
–
“How” they are prepared?
–
“What” to review and look for?
–

What is being said about Cost
Segregation?

“Property Owners Profit from
Change in Tax Law”

“Cost Segregation Studies
fast growing tax strategy”

“Investors find a friend in the IRS”

“It is not unusual for engineering consultants to
classify 20 to 40 percent of construction as
Audit Technique Guide personal property”


Qualifying Property

Any building placed in service since January 1st,
1987
Existing buildings undergoing renovation,
remodeling, restoration, or expansion
Major leasehold improvements to any building
made after January 1st, 1987
Inheritance of commercial and investment real
properties
Preconstruction planning to recommend possible
modification to the building designs to increase
shorter-life asset classification


Cost Segregation for an Existing Building
“Catch Up” – Look Back

If a cost segregation study is conducted on an existing
building,
– The unclaimed depreciation on personal property
components that were previously classified as real
property can be deducted as a Code Sec. 481 (a)
adjustment in the year of change
– The automatic change of accounting rules of Rev.
Proc. 2002-9, apply

If a cost segregation study is performed on a building
that was placed in service in a tax year that ended before
December 30, 2003,
– The IRS will allow a tax payer to file amended returns to
claim the benefits
– Interest is payable by the IRS on the refund

Cost Segregation Studies Includes
New and Previously Acquired Properties

The optimal time to perform a study is the year the property is placed in service
Current IRS procedures allow a taxpayer to recover any missed depreciation on properties
placed in service as far back as 1987 without having to amend prior years tax returns
Cost Segregation is not limited to new construction. In fact, most studies are performed on
acquired properties where land and building is purchased for one negotiated price in a previous
year
MACRS - GDS

39 - Year Property

27.5 – Year Property

15 - Year Property
OR
7 - Year Property
NEW CONSTRUCTION ACQUIRED PROPERTY
Indirect Costs 5 - Year Property
+ Purchase Price
3 – Year Property
General Contractor
Costs Land Cost
+
Direct Costs outside Building and Site
General Contract Implementation Cost

Benefit of Cost Segregation – Cash Flow –
Would You Take the Cash Savings Today?

CSS Illustration No. 1
CSS Illustration No. 1

A taxpayer purchases (or constructs) a strip mall for $4
million (land excluded)
Without a Cost Segregation Study, the taxpayer would
have depreciated $4,000,000 as a 39-year asset over 40
years (straight-line, HY convention)



CSS Illustration No. 1- (continued)
CSS Illustration No. 1- (continued)
Asset Original Original Allocation Allocation
Class Asset Life Allocation Allocation After CSS After CSS
Personal Property 5 yr. 200% db $ - 0.0% $ 1,000,000 25.0%

Personal Property 7 yr. 200% db $ - 0.0% $ - 0.0%

Land Improvements 15 yr. 150% db $ - 0.0% $ 400,000 10.0%

Real Property in yrs. 39 $ 4,000,000 100.0% $ 2,600,000 65.0%

Real & Personal Property $ 4,000,000 100.0% $ 4,000,000 100.0%

Total Cost $ 4,000,000 100.0% $ 4,000,000 100.0%

By segregating assets and applying proper class lives, significant
portion of the building can be depreciated faster
Typically, about 35% of total cost can be reclassified from real
property to personal property for this type of building

Cost Segregation Estimate Benefit Calculation
Tax Savings NPV of

CSS Illustration Continued
Depreciation Depreciation from Change in Deferred

CSS Illustration Continued
Expense Expense With Change in Cumulative
Depreciation Taxes
(35% Tax Rate) (5% Disc. Rate)
Year Without CSS CSS Depreciation NPV
Asset Year
1 2006 $ 98,291 $ 283,889 $ 185,598 $ 64,959 $ 64,959 $ 64,959
2 2007 $ 102,564 $ 424,667 $ 322,103 $ 112,736 $ 107,368 $ 172,327
3 2008 $ 102,564 $ 292,867 $ 190,303 $ 66,606 $ 60,414 $ 232,740
4 2009 $ 102,564 $ 212,647 $ 110,083 $ 38,529 $ 33,283 $ 266,023
5 2010 $ 102,564 $ 209,569 $ 107,005 $ 37,452 $ 30,812 $ 296,835
5-year Total 2010 $ 508,547 $ 1,423,638 $ 915,091 $ 320,282 $ 296,835

6 2011 $ 102,564 $ 149,198 $ 46,634 $ 16,322 $ 12,789 $ 309,623
7 2012 $ 102,564 $ 90,286 $ (12,278) $ (4,297) $ (3,207) $ 306,417
8 2013 $ 102,564 $ 90,286 $ (12,278) $ (4,297) $ (3,054) $ 303,363
9 2014 $ 102,564 $ 90,286 $ (12,278) $ (4,297) $ (2,909) $ 300,454
10 2015 $ 102,564 $ 90,286 $ (12,278) $ (4,297) $ (2,770) $ 297,684
10-year Total 2015 $ 1,021,368 $ 1,933,981 $ 912,614 $ 319,415 $ 297,684

40 2045 $ 4,274 $ 2,778 $ (1,496) $ (524) $ (78) $ 200,039
Over 40 Years $ 4,000,000 $ 4,000,000 $ - $ - $ 200,039

Cash savings of $320,282 can be achieved over the fist 5 years w/ CSS
Although cash savings / tax savings over the tax life of the building does not exist, net
present value of the earlier tax savings or deferred taxes due to accelerated
depreciation results in net present value of $200,000!


Again, What is the Big Deal?
FASTER CASH FLOW!
The depreciation for a property
with a Cost Segregation Study
allows for significant increase in
deductions within the first five
years.

For every $100,000 of cost shifting
from 39-year property to 5-year
property, the net present value of
the tax benefit is approximately
$16,000* (NPV = $16.00
per $100 invested)

For $100,000 of cost shifted from
39-year property to 15-year
property, the net present value of
the tax benefit is
approximately$10,600*
(NPV = $10.60 per $100 invested)
* Benefits assume a tax rate of
35% and a 5% return on
investment

Why are the CPA and Engineer
Important in the CSS Process?
First element of a quality Cost Segregation Study according to the IRS Audit Techniques Guide is:
Provider who marries the science of engineering with the principles of tax and accounting to arrive at financial
solutions that results in increased cash flow, minimized tax payments and increased ROI. A firm that meticulously
follow the IRS guidelines and go beyond the standards and basic requirements outlined by the IRS
“Prepared by an individual with expertise and experience.”
Select CPAs and engineers familiar with engineering, construction, architectural and estimating processes
and techniques are essential for a quality CSS process.
Select CPAs and engineers with appropriate tax background and knowledge of over 200 court cases, many
revenue ruling and revenue procedures dealing with cost segregation area are essential for a quality CSS.

Additional Considerations

I think Audit should be first

I would also add preconstruction
Must understand abandonment issues
Knowledgeable on issues involved with §1031 & §1033 exchanges and how they interact with Cost
Segregation
Must have expertise in Form 3115 Change in Accounting Method filing procedures
Understanding how Cost Segregation can affect estate taxes, passive loss situations, IRS §179
deductions, Net Operating Loss situations, §168(k),
partnership §754 step-up elections and other tax situations
Experience in lease review and identification of
“qualified leasehold property”
Does the CSS include time for audit support


Tax Planning & Other Benefits

Insurance Premiums
•
Demolition Loss –
expense vs capitalize Recapture
•
Estate Planning
Closing Costs (doc stamps)
•
Strategies
Property Tax Benefits (RE vs. Tangible PP)
1031 Exchange •
Strategies
Preconstruction recommendations
•
Real Estate
Professional Lessor
•
Passive Taxpayer &
Lessee
•
Multiple Entities

1031 Exchanges Planning With CSS


Why do I need an Engineering
Expertise for a CSS?
3 Words: Mechanical, Electrical, Plumbing
3 Words: Mechanical, Electrical, Plumbing
Cost segregation study (CSS) is an IRS-sanction technique allowing businesses
to accelerate depreciation on their facilities
Although the IRS does not prescribe one specific methodology, the IRS’ Cost
Segregation Audit Technique Guide does not enumerate several and elevates
the Detailed Engineering Approach From Actual Cost Records as “the most
methodical and accurate approach”
– This approach consists of carefully examining all contemporaneous
construction and accounting records
– Estimates or “take-offs” are used to supplement the actual cost detail when
the existing detail is not sufficient for the purposes of the study
– A professional firm comprised of accountants, engineers, and architects
with prior cost segregation experience, is required to perform this kind of
cost segregation study
Methodology without the engineering expertise will not withstand IRS scrutiny in
accordance with the IRS Audit Technique Guidelines
Without the contractor/engineering expertise coupled with the tax law guidance,
there will likely be valuable tax benefits left on the table
Determining 1245 property value on existing
properties must be properly documented and
appraised and indicated according to the IRS
Audit Technique Guidelines


Detailed Engineering Approach

Identify the specific project/assets that will be analyzed
Obtain a complete listing of all project costs and substantiate the
total project costs
Inspect the facility to determine the nature of the project and its
intended use
Photograph specific property items for reference.
Review “as-built” prints, specifications, contracts, bid documents,
contractor invoices and other construction documentation.
Identify and assign specific project items to property classes
Prepare quantitative take-offs for all materials and payment
records to compute actual unit costs

“It is the most methodical
and accurate approach.” Audit Technique Guide


Qualifying Property

Property Types
Property Types
Airports Gas stations
Research facilities
Golf resorts
Apartment buildings Retail centers
Grocery stores Hospitals
Resorts
Assisted Living Facilities Hotels Restaurants
Automobile dealerships Industrial facilities
Service stations
Automotive service centers Laboratories Shopping centers
Banks Manufacturing facilities
Sports facilities
Casinos Marinas Storage facilities
Cinemas Medical facilities
Warehouses
Day care centers Mixed-use facilities
Department stores Nursing homes
Distribution centers Office buildings
Fitness centers
Funeral homes


Which Properties Benefit Most?

Property Type Percentage Reallocated
Reso rts 38%

Restaurants 34%

Residential Rentals
Personal Property
34%

Leaseho ld Impro vements 33%
Real Property
Ho tels 33%

Nursing Ho mes/A ssisted Living 32%

Labo rato ry/Research 31%

B anks 31%

M edical/Surgical 29%

Wareho uses 27%

Ho spitals 27%

Day Care Centers 27%

A uto Dealerships 26%

Fitness Centers 25%

Department Sto res 25%

Office B uildings 25%

P o st Office 24%

M arinas 24%

A uto Service Centers 23%

Sho pping Centers 21%

Industrial 19%

Distributio n Centers 18%

A irpo rt Hangers 18%

M anufacturing & P ro cessing 18%


Cost Segregation Recent Results

Project: Apartment Complex – 12 Complexes
Cost: $18,100,000
5 Year Tax Savings: $1,585,222

Project: High-End Office
Building
Cost: $5,234,125
5 Year Tax Savings: $625,678

Project: Hotel
Cost: $7,123,456
5 Year Tax Savings: $812,145


Look Back Example

CSS Look back Example
CSS Look back Example
A taxpayer purchased (or constructed) a strip mall for $4
•
million (land excluded) in 2000
Without a Cost Segregation Study, the taxpayer has
•
been depreciating $4,000,000 as a 39-year asset over 40
years (straight-line, HY convention)


Look Back Example – continued

CSS Look Back Example
Cost Segregation Estimate Benefit Calculation

CSS Look Back Example
Depreciation Depreciation
Expense Expense With Change in Overpaid Taxes

(continued)
(continued)
(35% Tax Rate)
Year Without CSS CSS Depreciation
Asset Year
1 2000 $ 98,291 $ 283,889 $ 185,598 $ 64,959
2 2001 $ 102,564 $ 424,667 $ 322,103 $ 112,736
3 2002 $ 102,564 $ 292,867 $ 190,303 $ 66,606
4 2003 $ 102,564 $ 212,647 $ 110,083 $ 38,529
5 2004 $ 102,564 $ 209,569 $ 107,005 $ 37,452
6 2005 $ 102,564 $ 149,198 $ 46,634 $ 16,322
6-year Total $ 611,111 $ 1,572,836 $ 961,725 $ 336,604

IRS Owes The Property Owner $336,604!
What could you do with the new found money of $336,604 that was
•
trapped in the walls of your investment?
Make additional investment
Reduce mortgage debt
Address maintenance items

Examples of Pre-Construction
Benefits
Pre-Construction Planning: In the design phase, CORE can help
make the building more tax efficient by identifying business
components from the structural components
Example: Law Firm uses hinges for $1MM decorative lobby
shelving versus attaching shelving with a permanent adhesive

Total property is able to be moved from
–
39-year depreciation to 5-year
depreciation for a tremendous savings
Example: Hospital installs $1.8MM floating floor system versus
permanent attached flooring

Structurally as sound, cash savings from
–
more attractive depreciation schedule
substantial

Insurance Savings Alone May Pay for
Cost Segregation Study

There are a number of benefits to your insurance program after completing
a Cost Segregation study:
– Lower premiums. By providing the insurance underwriter with a Cost
Segregation study, they can better understand your risk, their
company’s exposure and accurately rate your insurance
There is no more guess work on the underwriters behalf and that
guess work usually works in their favor in the way of higher
premiums to you
– In the wake of the recent natural disasters affecting the insurance
market, most insurance policies are changing from blanket policies to
stated value
Each location will carry a stated value on the policy and in the
event of a claim that is the maximum you can collect
A Cost Segregation study will provide you with the piece of mind
that you are insured to full value
Cost segregation studies allow property owners to accurately
insure their business property, leading to a more cost effective
use of your insurance dollar


Additional Benefits from CSS
Demolition/Rehabilitation
Ability to identify components of a building
prior to demolition and/or rehabilitation which
can be reclassified as personal property
versus real property
Allows the owner to write off these items
versus capitalizing the assets which generate
a substantial tax savings
For example, if a property owner has a $5-
million property that they are going to
demolish:
– The total cost would typically get
applied to the land with the property
owner having no ability to depreciate or
recoup the $5-million investment
– A cost segregation study, prior to the
demolition, identifies $1,500,000 of
personal property
– The property owner will now be able to
write off the $1,500,000 as abandoned
personal property

Real Estate Investment Trusts
(REITs) Benefit
Increase non-cash expense to reduce income and thus minimize
dividend distribution, allowing increased cash flow for additional
acquisitions
REIT dividends have 3 components:
– Ordinary Dividends
– Long-Term Capital Gains Dividends
– Return of Capital Dividends
Due to the favorable tax treatment of Return of Capital Dividends
(taxed at the long-term capital gains rate of 15% or 25% and tax
payment is deferred until the sale of the share), investors typically
prefer dividends with the greatest percentage of Return of Capital
Cost Segregation increases the Return of Capital component; thereby,
increasing the Taxable Equivalent Yield
DIVIDEND GROWTH IS INCREASED
– A significant source of dividend growth is acquisitions
REIT must pay out a minimum of 90% of taxable income as
dividends, and many REITs pay out over 100% of taxable
income.

Cost Segregation Asset Class
Lives for Restaurants

The crux of cost segregation is determining whether an asset is I.R.C.
– §1245 property (shorter cost recovery period property, 5 or 7 years) –
e.g., depreciable personal property, such as equipment – or
– §1250 property (longer cost recovery period property, 39, 31.5 or 15
years) – e.g., buildings and building components, which generally are
not §1245 property
The Director for the Retailers, Food, Pharmaceuticals and Healthcare
Industry chartered a working group to address the most efficient way to
approach cost segregation issues specific to the restaurant industry
– The group produced a special section related to the required cost
segregation study for such purposes

Cost Segregation and 1031 Exchanges
- Best of Both Worlds -

Most valuable tax deferral strategies for real estate are:
– Cost Segregation (Accelerated depreciation of real estate)
– 1031 Exchanges (Deferral on the disposition of appreciated property)
How To Best Utilize Both Strategies
– Real Estate Investors and their advisors must understand issues in
utilizing both strategies
Real vs. Personal Property
– Real and personal property under section 1031 is determined by state
law
– In contrast, the definition of real and personal property for cost
segregation studies is determined under federal law
– Property such as wall coverings, carpeting, special purpose wiring or
other installations affixed to the building can be considered real
property under state law and like kind for section 1031 purposes, but
be considered personal property in cost segregation studies
– Real estate owners can benefit from both the gain deferral under
section 1031 for real estate exchanges and the enhanced cost
recovery deductions of cost segregation study

IRS Determination/Tests -
Structure or Personal?
Factors that now govern whether property is permanent or can be reclassified
Factors that now govern whether property is permanent or can be reclassified
in accordance with IRS Audit Technique Guidelines:
in accordance with IRS Audit Technique Guidelines:
Permanency test - Sec. 1.48-1 (c)
Is the property capable of being moved?
Has it been moved?
Is the property designed or constructed to remain
permanently in place?
Are there circumstances which tend to show the
expected or intended length of affixation - i.e. may
or will be moved?
How substantial of a job is removal of the property
& how time consuming?
Is it readily movable?
How much damage will the property sustain upon
removal?
What is the manner of affixation of the property to
the land?

IRS Determination/Tests -
Structure or Personal?
Appearance and Function Test
Appearance and Function Test
The appearance test:
– Whether the structure looks like a building
– Generally only requires that the structure enclose
a space within its walls and usually be covered
by a roof
The second part of the test requires that the
building function as a building:
– The courts primarily focused on whether the
structure provides working space for employees
that is more the merely incidental to the primary
function of the structure
– Both the quantity and qualify of human activity
inside the structure may be considered in this
regard

Items To Be Reclassified in a Cost
Segregation Study

Site Improvements
(landscaping/parking)
Light Fixtures
Branch wiring
Special Plumbing
Flooring
Millwork
Millwork Window Coverings
Partition Walls
Cabinetry
Furnishings
Shelving
Wall Coverings


Qualified Property
Partitions
Partitions
Property to include:
Accordion-style room
–
dividers
Decorative lattice millwork
–
used to separate areas
These items are not permanent structures
therefore do not affect the operation nor
maintenance of the building
1245 property

UNIQUE ASSETS TO IDENTIFY


Qualified Property

Primary and Secondary Electrical Distribution Systems
Primary and Secondary Electrical Distribution Systems
– Main panels
– Motor control centers
– Transformers
– Main distribution panel switchgear
– Related wiring and conduit
The courts conclude that the portion of the cost of
the primary and secondary electrical distribution
systems which is equal to the percentage of the
electrical load carried to those systems allocable
to the property equipment, as stipulated
constitutes the 1245 qualification class property
and is depreciable over an accelerated life


Qualified Property

Branch Electrical Wiring and Connections, and Special Electrical
Branch Electrical Wiring and Connections, and Special Electrical
Equipment
Equipment
– Controls
Battery packs
–
Battery chargers for emergency power
–
equipment
Illuminated emergency and entrance signs
–
Medical gas control and alarm equipment
–
Kitchen equipment
–
Wired clock systems
–
Normally 100% of the load carried relates to this
type of equipment, therefore the balance of the
electrical is normally allocated to the building


Qualified Property

Electrical Wiring Relating to Internal Communications
Electrical Wiring Relating to Internal Communications
•

Conduit
Wiring
Electrical connections

Systems supported:
Call systems
Intercommunicatio
–
n systems
Dictation systems
–
Music systems
–
Paging systems
–


Qualified Property

Wiring and Related Property Items Relating to Television Equipment
Wiring and Related Property Items Relating to Television Equipment
Branch electrical wiring
Conduit, floor boxes
Junction boxes
Outlet receptacles
All other equipment in
connection with its
operation


Qualified Property

Kitchen Plumbing
Kitchen Plumbing

Items relating to operation of
grease trap systems
Trench drains
Grease waste piping
Waste excavation
Waste fill
Trap itself
All connections (hose and reel
connections)
Water piping used for
operation of kitchen equipment


Qualified Property

Kitchen Hoods and Exhaust Systems
Kitchen Hoods and Exhaust Systems
– Air intake fans & related
duct work
– Dishwasher condensate
return units
These items ventilate air,
remove humidity and steam,
replace air expelled
Test:
– Do the items relate to the
buildings operation or
maintenance?
– NO! Therefore are
considered Section 1245
property


Sample Report –
Engineering Calculations Per IRS Guidelines

Office
Unit of Functional Total Unit Location
Measure OBS. Cost Factor Unit Cost Adj.
Total S.F. Unit Cost Qty Subtotal Totals Reference Numbers
Sales Floor 880
Special Finishes
Vinyl Baseboard-4quot; high, .080quot; thick $ 1.78 l.f. 108 192.24 100.00% 192.24 100% 192.24 09-651-200-1150
Carpet-42 oz. Nylon $ 43.00 s.y. 98 4,214.00 100.00% 4,214.00 100% 4,214.00 09-673-800-1100
Total-Special Finishes 4,406.24

Finishes
1/2quot; gypsum wallboard- taped & finished $ 0.65 s.f. 972 631.80 100.00% 631.80 100% 631.80 09-250-700-0150
Paint $ 0.73 s.f. 972 709.56 100.00% 709.56 100% 709.56 09-910-920-1240
Total-Finishes 1,341.36

Furnishings -
Window coverings-Vertical 3quot; PVC $ 9.55 s.f. 180 1,719.00 100.00% 1,719.00 100% 1,719.00 12-483-100-1500
Total-Furnishings 1,719.00

7,466.60

Unit of Functional Total Unit Location
Measure OBS. Cost Factor Unit Cost Adj.
Total S.F. Unit Cost Qty Subtotal Totals Reference Numbers
Office #1 195
Special Doors & Windows
Interior Window Glass-3/8quot; thick, tinted $ 6.90 s.f. 36 248.40 100.00% 248.40 100% 248.40 08-810-850-0600
Total-Special Doors & Windows 248.40

Doors & Windows
Hollow core door-3' W x 6'-8quot; H $ 102.00 ea. 1 102.00 100.00% 102.00 100% 102.00 08-210-900-2380
Door trim-pine, 4-9/16quot; deep $ 8.35 l.f. 15 125.25 100.00% 125.25 100% 125.25 08-210-960-3020
Total-Doors & Windows 227.25

Special Finishes
Vinyl Baseboard-4quot; high, .080quot; thick $ 1.78 l.f. 53 94.34 100.00% 94.34 100% 94.34 09-651-200-1150
Carpet-42 oz. Nylon $ 43.00 s.y. 22 946.00 100.00% 946.00 100% 946.00 09-673-800-1100
Carpet Padding-sponge, rubber $ 6.05 s.y. 22 133.10 100.00% 133.10 100% 133.10 09-673-600-9000
Total-Special Finishes 1,173.44

Finishes 0.00%
1/2quot; gypsum wallboard- taped & finished $ 0.65 s.f. 488 317.20 100.00% 317.20 100% 317.20 09-250-700-0150
Paint $ 0.73 s.f. 488 356.24 100.00% 356.24 100% 356.24 09-910-920-1240
Total-Finishes 673.44

2,322.53

Sample Report –
Depreciation Analysis
Per IRS Guidelines

Cost Segregation Analysis - Depreciation Reconciliation

Total Construction Pert Client Records Dec-04
$ 1,300,000.00 $ 1,300,000.00
Land Value $ 450,000.00
Depreciable Basis $ 850,000.00

Total Depreciable Basis $ 850,000.00

111.04%
Market Value Factor

Total Building Cost Total Project Cost Basis
Class Market Value Factor Totals 39 yr. acc 15 yr. acc 7 yrs. acc.
Building Construction
$ 104,090.94 15 111.04% 115,581.51 - 115,581.51 -
2100 Sitework-Im provem ents
$ 33,690.60 39 111.04% 37,409.69 37,409.69 - -
3000 Concrete
$ 6,528.00 7 111.04% 7,248.62 - - 7,248.62
3100 Special Concrete
$ 53,650.00 39 111.04% 59,572.41 59,572.41 - -
4000 Masonry
$ 5,076.00 39 111.04% 5,636.34 5,636.34 - -
5000 Metals
$ 12,302.82 5 111.04% 13,660.92 - - -
6100 Special W oods & Plastics
$ 27,664.00 39 111.04% 30,717.82 30,717.82 - -
7000 Therm & Moisture Protection
al
$ 89,015.50 39 111.04% 98,841.89 98,841.89 - -
8000 Doors & W indows
$ 2,278.80 5 111.04% 2,530.36 - - -
8100 Special Doors & W indows
$ 91,175.06 39 111.04% 101,239.85 101,239.85 - -
9000 Finishes
$ 49,360.91 5 111.04% 54,809.85 - - -
9100 Special Finishes
$ 13,814.40 5 111.04% 15,339.37 - - -
12000 Furnishings
$ 141,440.60 39 111.04% 157,054.18 157,054.18 - -
15000 Mechanical
$ 45,515.40 5 111.04% 50,539.83 - - -
15100 Special Mechanical
$ 24,883.60 39 111.04% 27,630.49 27,630.49 - -
16000 Electrical
$ 65,010.40 5 111.04% 72,186.88 - - -
16100 Special Electrical
Sub-Total $ 765,497.03 850,000.00 518,102.67 115,581.51 7,248.62
Total $ 765,497.03 850,000.00 518,102.67 115,581.51 7,248.62


Sample Report – Depreciation Schedule
Per IRS Guidelines

Depreciation Analysis
MACRS General Depreciation System Schedule: MM/MQ/HY Conventions
YR 1 2

Scenario 1:- Original Method Report Total Accum. Dep. 2004 2005

Method of Depreciation Depreciation Expense: 12/21/2004 Placed In Service

39 Year Commercial Property 12/21/2004 $850,000.00 $850,000.00 $ 909.50 $ 21,794.00
Total Depreciation $ 909.50 $ 21,794.00

DEPRECIATION DATA

12/21/2004
Total Construction $ 1,300,000.00
Land Value $ 450,000.00
Depreciable Basis $ 850,000.00

1 2

Scenario 2:- Using Cost Segregation Report sub-totals 2004 2005
Cost Depreciated Over 39/15/7/5 Years:

Method/Convention of Deprec Depreciation Expense: 12/21/2004 Placed In Service
Straight Line-Mid Month 12/21/2004 $ 518,103 $ 518,103 $ 554.37 $ 13,284.15
Sub-Total 39 Year Real Property $ 518,103 $ 518,103 $ 554 $ 13,284

150% MM 4th Qtr 15 year Land Improvments 12/21/2004 $ 115,582 $ 115,582 $ 1,445 $ 11,419
Sub-Total 15 Year Real Property $ 115,582 $ 115,582 $ 1,445 $ 11,419

200% - MM 4th Qtr 7 Year MACRS Property Sec. 1245 12/21/2004 $ 7,249 $ 7,249 $ 259 $ 1,997
Sub-Total 7 Year Personal Property $ 7,249 $ 7,249 $ 259 $ 1,997

200% - MM 4th Qtr 5 Year MACRS Property Sec. 1245 12/21/2004 $ 209,067 $ 209,067 $ 10,453 $ 79,446
Sub-Total 5 Year Personal Property $ 209,067 $ 209,067 $ 10,453 $ 79,446

Total Depreciation Per Cost Segregation Analysis $ 850,000 $ 850,000 $ 12,711 $ 106,146
Difference in Depreciation $ 11,802 $ 84,352
2004 Total Depreciation $ 12,711


Sample Report –
Tax References Per IRS Guidelines
Tax References
•2004 U.S. Master Depreciation Guide, CCH Inc: …***

Revenue Rulings:

• Rev. Rul. 69-558, 1969-2 CB 4 Definition of section 38 Property
• Rev. Rul. 75-78., 1975-1 CB 8 Factory air handling and safety
• Rev. Rul. 75-137, 1975-1 CB 74 Dredging and excavation costs
• Rev. Rul. 75-77, 1975-1 CB 7 Factory air conditioning and heating units
• Rev. Rul. 81-240, 1981-2 CB 11 Individual room refrigeration units; warehouse
• Rev. Rul. 80-93, 1980-1 CB 50 Land preparation costs; Electric and gas distribution systems

Regulations:…**

• 1.48-1
• 1.48-(a)(1)
• 1.48-(e)(1)
• 1.48-(e)(2)
• 1.48-(c)

Revenue Procedure 88-35

LSMB Field Directive

Court Cases:

• Hospital Corp of America, et. Al. v. Commr, 109TC No.2 ***
• Morrison v. Commr, T.C. Memeo 1986-129***
• Whiteco Indus., Inc. v. Commr, 65 T.C. 664,672-673(1975)***
• Central Citrus Co. v. Commr, 58 T.C. at 374***
• Scott Paper Co. v. Commr, supra,***
• Fed. Sav. And Loan Association v. United States, 313 F. Supp 294-96 ***

* Denotes, in text
** Denotes, referenced in text
*** Denotes, reference material

The Cost Segregation Study
Process Continued…

Electrical

Site Work

Landscaping

The Cost Segregation Study
Process

Prepare final reconciliation
Prepare final report
Deliver Draft
Review with tax advisor
Deliver Final Study with sample 3115


Summary

Time Value of Money
•

Dramatic reduction in taxable income
•

Increased cash flow for investment opportunities and
•
business expansion
Property tax savings
•

Insurance savings
•

www.bestbottomlines.com

(888)-598-9667


I.R.C § 1031: Key Points

A 1031 Exchange rolls the gain from
the sale of an Old Property into a
New Property - Without having to pay
tax

There is no limit to the number of
times you can do a 1031 Exchange
Hold Property 1 year + 1 day
–


Property Use and Title

Property given up and property
received must be held for productive
business use or investment
Real Property
–
Personal Property
–

Property given up and property
received must be held by the same
taxpayer (i.e. Same Tax ID #)


Timeline Rules

45 Day Identification Period
– The Exchangor must identify the potential replacement
property by midnight of the 45th day from the date of the sale

180 Day Exchange Period
– The Exchangor must acquire the replacement property by
midnight of the 180th day, or the date the taxpayer must file
its tax return (including extensions) for the year of the
transfer of the relinquished property, whichever is earlier


§1031 Exchange Timeline

45/180 Day Rules
Start Finish
Identification Date
Day 1 Day 180
Day 45

Close of Escrow
Close of Escrow ID Form Due On Purchase
On Sale Property Property
To AEC
(AEC to fund
(Net Proceeds to AEC)
proceeds)


Replacement Identification Rules

3 Property Rule – Three properties of any value
OR
200 Percent Rule – Any number of properties as
long as their combined fair market value does
not exceed 200 percent of the value of the sold
property
OR
95 Percent Rule – Any number of Replacement
Properties, of any value, but only if the
Exchangor buys at least 95% of the aggregate
fair market value of all identified Replacement
Properties


Reinvestment Requirement

Equal or Up
Purchase price of NEW Property must be
–
equal to or greater than the net selling price of
OLD Property
Reinvest All The Cash
You must reinvest all of the cash. Any cash
–
you touch will be taxable


Constructive Receipt
What is Constructive Receipt?

Main Reason Taxpayers ‘flunk’ §1031
– Funds credited to taxpayer account or made available for
use
– Funds credited to a “Disqualified Person” on behalf of
taxpayer are treated as credited to taxpayer

Safe Harbor from Constructive Receipt – Qualified Intermediary


Functions of QI

Prepare Documentation

Act as Trustee
Funds – Deferred Exchanges
–
Property – Reverse Exchanges
–

Consulting

AEC 1031 Exchange, LLC

Reverse Exchange


Basic Concept
Buy a New Property
BEFORE
Selling Old Property


Advantages of §1031 Exchanges

Why Do A Reverse Exchange?
Act quickly to acquire New
property
Old property sale is delayed
Effectively extends 45 and 180
time limits
Allows adequate time for Due
Diligence


§1031 Exchange Timeline

Reverse Exchange - 45/180 Day Rules
Finish
Locate
Identification Date
New Day 180
Property Day 45

Close of Escrow ID Form Due
Due Diligence Period Close of Escrow
On New Purchased On Sale of Old
To AEC
Property Property



Key Point

Taxpayer cannot receive
and own both OLD and
NEW property at the same
time



Two Reverse Methods
Give up OLD property to
1.
‘EAT’ before receiving NEW
property
NEW property is received by
2.
‘EAT’ and held in trust for
taxpayer until OLD property
is sold



Business started as Alaska
Exchange Corporation (AEC)
Over 20 years experience
1000’s of Exchanges – all 50 states
Interest paid on trust funds
Specialize in providing exchange
strategies and guidance

Cost Segregation Study

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