For property owners and investors looking to maximize tax savings, bonus depreciation and cost segregation are two powerful tools that can work together to amplify financial benefits. But what exactly is bonus depreciation, and how does it enhance the advantages of a cost segregation study? Let’s break down these concepts and explore how they’re connected to help you save on taxes and improve cash flow.
What is Bonus Depreciation?
Bonus depreciation is a tax provision that allows property owners to immediately deduct a large percentage of the cost of qualifying assets in the first year they’re placed in service. Under the current tax law, many assets with a useful life of 20 years or less qualify for 100% bonus depreciation, allowing property owners to write off the full value in the year they acquire or improve the asset. This can lead to substantial tax savings and an immediate boost in cash flow.
How It Works:
- Bonus depreciation is available on assets with a shorter lifespan, such as equipment, furnishings, appliances, and certain improvements.
- Instead of depreciating these assets over their normal lifespan, bonus depreciation allows you to claim a full deduction in the first year.
For example, if you acquire $100,000 worth of qualifying assets in a new property, you could claim a $100,000 deduction immediately through bonus depreciation, reducing your taxable income and providing immediate financial relief.
The Connection Between Bonus Depreciation and Cost Segregation
Bonus depreciation is particularly effective when paired with a cost segregation study. Cost segregation reclassifies various components of a property into shorter depreciation categories, making many of these components eligible for bonus depreciation. By breaking down a property into its individual assets, a cost segregation study allows you to identify components that qualify for bonus depreciation, enabling you to maximize your tax savings.
How They Work Together:
- Cost Segregation Identifies Qualifying Assets: A cost segregation study separates assets within a property (such as lighting, fixtures, and landscaping) that qualify for shorter depreciation schedules.
- Bonus Depreciation Accelerates Deductions: Once these assets are identified, bonus depreciation allows you to deduct the full value of many qualifying assets immediately, rather than over several years.
In essence, cost segregation lays the groundwork by identifying assets that can benefit from bonus depreciation, creating a powerful combination for reducing taxable income.
What Types of Property Components Qualify for Bonus Depreciation?
Not all parts of a property qualify for bonus depreciation. Here’s a quick look at some common components that often do:
- Interior Fixtures: Items like cabinetry, countertops, and shelving can qualify for shorter depreciation timelines.
- Appliances and Equipment: Appliances in residential rental properties and equipment in commercial properties often qualify for immediate deduction.
- Landscaping and Outdoor Features: Certain exterior improvements, like fencing, parking lots, and sidewalks, are also eligible.
The specific assets that qualify will depend on your property and the findings of a cost segregation study, which provides detailed documentation of all qualifying items.
The Financial Impact of Using Bonus Depreciation with Cost Segregation
The combined effect of bonus depreciation and cost segregation can be substantial. By maximizing deductions in the early years of ownership, property owners can significantly reduce their tax liability, improve cash flow, and free up capital for reinvestment. Here’s how these benefits translate into real-world impact:
- Immediate Cash Flow Boost: By accelerating deductions, you can reduce your current tax bill, leaving you with more funds to reinvest or cover operating expenses.
- Enhanced Return on Investment (ROI): The additional cash flow generated from tax savings can improve your overall ROI, making your property more profitable.
- Flexibility in Managing Tax Liability: For owners with multiple properties or high taxable income, the ability to claim large deductions early can help balance tax liability across their portfolio.
These benefits make the combination of cost segregation and bonus depreciation an attractive strategy for anyone looking to optimize their real estate investments.
How Long Will Bonus Depreciation Last?
Currently, the tax law allows for 100% bonus depreciation on qualifying assets, but this is set to phase down over the next few years:
- 2023: 80% bonus depreciation
- 2024: 60% bonus depreciation
- 2025: 40% bonus depreciation
- 2026: 20% bonus depreciation
After 2026, unless the law changes, bonus depreciation will no longer be available. This phasedown makes it essential for property owners to act now if they want to take full advantage of these benefits.
Is This Strategy Right for You?
Combining cost segregation with bonus depreciation is particularly effective for:
- New Property Purchases: New acquisitions allow you to maximize upfront deductions, providing immediate tax relief.
- Renovated Properties: Any improvements or additions to a property can be reclassified and depreciated sooner, generating additional savings.
- High-Income Years: If you’re experiencing a high-income year, accelerating deductions through bonus depreciation can help lower your overall tax burden.
However, if you’re planning to sell a property in the near term or have limited taxable income, this strategy may not offer as much value.
The Bottom Line: Leverage Bonus Depreciation with Cost Segregation for Maximum Savings
When used together, cost segregation and bonus depreciation can significantly reduce your tax burden, improve cash flow, and help you reinvest more in your property or portfolio. While cost segregation identifies and reclassifies assets, bonus depreciation amplifies your deductions by allowing you to claim large, upfront tax savings.
If you’re interested in maximizing your tax benefits, contact USTAGI today. Our team specializes in cost segregation studies that identify qualifying assets and help you leverage bonus depreciation for the greatest financial impact.
