Got a call the other day from commercial real estate broker who was wondering if it made sense to study small industrial buildings. There are lots of 5,000 to 10,000 SF office warehouses scattered throughout the country. We study these all the time and they are beneficial for the owners.
Let’s say an owner buys an 8,000 SF office warehouse. It doesn’t really matter what year it was built but there are lots of these still out there from the 1980’s let say. Typically they don’t have a lot of 5 year property typically associated with office space build out, but they do often have a lot of 15 year class life property which would be the land improvements – parking lots, driveways etc.
In this case, let’s say the office warehouse cost $600,000 and went into service July 1st. It’s estimated that the land us worth $75,000. That leaves $525,000 for the cost basis to be studied. Normal depreciation is spread out over 39 years so it would be $525,000 / 39 = $13,461 per year. Since this went into service on 7-1, the owner would be entitled to half the year’s depreciation or $6,730.
But let’s say the owner decides to do a cost segregation study and have it applied to his taxes. If it turns once the building is studied that 5% of the property is 5 year and 12% is 15 year property that ends up being a significant depreciation expense. (Note: every building is different).
Depreciation:
- 5 year class life = 5% or $26,250
- 15 year class life = 12% or $63,000
- Total Depreciation: $89,250
In this particular situation, the owner will be able to take 13x more depreciation than he would have had he not done cost segregation. This is provided the building qualifies for 100% bonus depreciation. Let’s also figure that this owner is an owner operator and owns his operating business as well as the real estate. He can use the depreciation to offset his operating entities income. This can be done if he “groups” his building and operating entities together in the first year he files taxes for the building. Be sure to consult with your tax advisor on this.
The depreciation of $89,250 multiplied by the owner’s tax rate (let’s say 32%) equals a tax savings of $28,560. That’s real money. The study will cost a fraction of this. It’s an awesome return.
