Introduction Looking to reduce taxes without entering the 1031 exchange race? Cost segregation and bonus depreciation may be your answer. These strategies allow investors to increase current depreciation deductions on real estate, lowering taxable income and preserving cash flow. This blog explains how both methods work and how they can be used as smart tax-saving alternatives to 1031 exchanges.
What is Cost Segregation? Cost segregation involves separating a building’s components into different depreciation categories (e.g., 5, 7, 15 years instead of the standard 27.5 or 39 years). This accelerates depreciation deductions and boosts tax savings early in ownership.
What is Bonus Depreciation? As of recent tax reform, qualified property can be 100% depreciated in the first year it’s placed in service. This temporary rule applies to assets with useful lives under 20 years, often uncovered through cost segregation.
Key Benefits
- Immediate Tax Savings: Reduce taxable income in early years.
- Increased Cash Flow: Reinvest savings or pay down debt.
- Applicable to New and Existing Properties: Not limited to new construction.
Limitations
- Requires a cost segregation study by engineers.
- May recapture depreciation upon sale.
- Legislative changes may impact bonus depreciation.
Conclusion While not an exchange strategy, cost segregation with bonus depreciation offers a powerful tax deferral mechanism for real estate investors. It’s ideal for those keeping properties or who missed 1031 timelines. Work with a CPA to determine feasibility and savings potential.