Have you ever heard of Cost Segregation? If you haven’t and you own real estate investments, you are missing a huge piece of the puzzle. Cost segregation is one of the big benefits of real estate investing.
So what is it?
Cost segregation is basically a tax planning tool that allows an individual or company to purchase, expand, or remodel your property. By using this tool, you are able to increase your cash flow by accelerating depreciation, increasing deductions, and using tax deferments.
If you haven’t been paying attention to this aspect of your investments, it is time to start.
What we recommend doing (and what we do when we evaluate any deal) is something called a cost segregation study. Its primary function is to dissect all property-related costs that can be depreciated over a given amount of time.
For example, a $500,000 residential rental property depreciation over 27.5 years would provide an annual deduction of about $18,000. A cost segregation study could result in a deduction of $100,000 in the first year of ownership.
That is a lot of money!
So what is the impact on a multifamily investment?
Performing a cost segregation study and accelerating the allowable depreciation on assets can lead to huge tax savings. The larger your investment the more you can deduct from your taxes.
The law allows you to deduct the expenses you incur to manage, maintain, and repair your property from your total taxable rental income. This generally allows for a reduction in tax obligation by writing off expenses from total taxable income. Awesome, right?
Here is the thing: Cost segregation does offer a higher tax shelter. But you do have to be careful because it also affects your tax bill when the property is finally sold.
The more often you use cost segregation, the higher your tax bill will be.
A 1031 exchange can be used to offset the taxes you owe if you roll your profits from the sale of one property directly into the purchase of another. This will enable you to defer capital gains taxes.
The amount of money invested into the new property must be equal to the sale proceeds from the previous property. If there’s a difference of any kind it is known as “boot” and becomes taxable.
This stuff can get complicated. To avoid making mistakes, we always recommend consulting a tax professional.
Maximizing depreciation through cost segregation and deferring capital gains taxes can amplify the returns on your investment and allow for your profits to grow tax-free over time.
We have new opportunities to invest in multifamily properties coming our way every day. For more information on how you can get in on the next deal, reach out to us.