You may have heard people say that the tax system favors the rich. While that is a gross generalization, it’s useful to note that the tax system has hidden benefits for people who know the drill. Fortunately, learning the intricacies of tax code isn’t that challenging.
You won’t have to rummage through pdfs to find that one law which helps real estate investors save big bucks. Their secret to paying less in taxes can be summed up in one word—‘cost segregation.’
What is cost segregation?
Cost segregation entails the process of identifying and classifying real assets based on their costs for the purpose of federal tax deductions.
By utilizing accelerated depreciation deductions, real estate investors can increase their cash flow and reduce the amount of taxes paid. Cost segregation studies carried out by professional financial experts can classify the components of residential and commercial properties that typically depreciate over 27.5 to 39 years and help real estate investors save millions of dollars.
Implementing cost segregation
Cost segregation is a powerful tool that can significantly increase a property’s cash flow. After the Tax Cuts and Jobs Act, real estate investors are now eligible to get a 100 bonus on depreciation. This means that if you’re a real estate owner, you can deduct the depreciation amount of the first 5, 10, and 15-year property all in the beginning! Imagine how much money that’d be. Still don’t get it? Let’s learn from John:
Scenario A: John doesn’t utilize tax segregation
John Miller is a middle-aged professional who invested his life savings in a 12-unit apartment building. The builders sold him the property for $200,000, and John quickly put the building into service.
His CPA was able to find that:
Since the building is to depreciate in the next 27.5 years, the annual depreciation expense was set at $14545.45. Every year, John makes around $45,000 from the building, and according to a common understanding of income tax laws, he’s liable to pay the tax on that amount.
However, the depreciation amount reduces his taxes significantly, and since depreciation is a non-cash expense, he’d still have $14545.45 in cash!
Now isn’t that just brilliant? Wait, it gets better…
Scenario B: John utilizes tax segregation
Keeping the above values in mind when John reached out to The Darson Group to avail of our cost segregation services, we told him that the Tax Cuts and Jobs Act allows him a 100% bonus depreciation on 5, 10, and 15-year property! This means that the total depreciation deduction that he’d get for his property will surpass the amount of tax he needs to pay.
And that’s how John, the novel real-estate investor, was able to save some hard-earned money.