Frequently Asked Questions
Here are some commonly asked questions concerning cost segregation analysis. If you have other questions not covered here, please feel free to email or call us directly.
Q. I heard there are proposed changes to the way restaurants are depreciated. How will that affect doing a cost segregation analysis?
A. Based on an extension in the Tax Relief and Health Care Act of 2006, qualified restaurant property as well as qualified leasehold improvement property that was placed in service after October 22, 2004 and before January 1, 2008 is subject to depreciation using the straight line method and a 15-year recovery period. Qualified restaurant property is any section 1250 property which is an improvement to a building if the improvement is placed in service more than three years after the date the building was first placed in service and more than 50 percent of the building's square footage is devoted to preparation of and seating for on-premises consumption of prepared meals. Restaurant property that does not meet the definition of qualified restaurant property that is considered a structural component and is placed in service during this time period is still subject to depreciation using the straight line method and a 39 year tax life, unless meeting the definition of qualified leasehold improvement property. Restaurant property, including improvements, placed in service at any other time after 1986 is subject to depreciation using the straight line method and a 31.5 or 39 year life, depending on the year placed in service. Senate Bill 2170 was proposed in October, 2007 to make permanent a 15 year recovery period for both qualified restaurant property and qualified leasehold improvement property. Unfortunately, the bill was never voted on and was cleared from the books after 2 years.
The Emergency Economic Stabilization Act of 2008, passed by Congress in October of 2008 extended the 15 year recover period for both qualfied restaurant property and qualfied leasehold improvement property placed in service prior to January 1, 2010. The Act also classified new construction of restauant buildings as property also subject to a 15 year recovery period. Qualfiying restaurant buildings must be placed in service after December 31, 2008 and before January 1, 2010. Improvements to restaurant property qualify for bonus depreciation, but new restaurant buildings do not.
Q. Doesn't my CPA already do cost segregation studies for me when they prepare my taxes?
A. Almost always, the answer is no. It is possible your CPA is taking what is known as a "rule of thumb" approach and just allocating an estimated percentage of the total project costs to the various property types. Although this method allows them to prepare a tax return, it is not recommended by the IRS nor would it provide support if an audit were to ever occur. A cost segregation study is a specialized service. A general practitioner doctor may be able to determine you have a heart condition, but that doesn't mean you want them operating on your heart. You are going to want a cardiologist who specializes in the heart to be in the operating room. A cost segregation analysis first takes a vast understanding of construction methods, the ability to read blueprints, and experience in estimating construction component costs. Most CPA firms are very capable of telling you of the benefits of a cost segregation analysis. They may not however, have the experience and resources to get it completed correctly. The issue isn't competence; it is a decision of whether or not the CPA firm wants to invest in the training, software, program development, and staffing necessary to support performing cost segregation studies.
Q. We can internally determine what we think is qualified property for accelerated depreciation, why would we need a third party cost segregation study done?
A. Although it is possible that you may be able to identify some of the obvious components, such as carpet, decorative lighting and some land improvements, it is likely you will miss thousands of dollars of qualified items. The engineers doing a cost segregation study are able to identify items such as dedicated electrical and plumbing work, excavation work only related to parking, landscaped and sidewalk areas, and various other components of your property that aren't easily identifiable even from an invoice or general contractor's application for payment. Invoices and applications for payment from general contractors often group costs together into industry wide building divisions. An example would be electrical or plumbing. There may be only one number for each category, but within each category, the costs could further be allocated to dedicated electrical and plumbing items that support various qualified properties. Another risk of identifying property on your own is that you may identify a cost item like excavation and decide that it must all be related to site improvements. This normally wouldn't be the case because a portion of that excavation would be related to site improvements, while another portion is related to the space that the building is actually sitting on. The IRS highly recommends always using a third party for doing cost segregation studies.
Q. I'm afraid my CPA may think you are trying to steal my business from them. Is that the case?
A. Franklin Tax Group specializes in cost segregation studies. That is what we do best! Our services do not include bookkeeping, tax preparation for businesses, compilation, review or audits. Our goal is to be in a position to assist your CPA firm in incorporating the results of your cost segregation study into your tax return. We value the relationships built with our clients and their CPAs.
Q. Will I have to amend past tax returns if my property was placed in service prior to the current tax year?
A. No, Section 2.01 of the Appendix of Revenue Procedure 2002-9 allows an automatic change of accounting method. In certain cases (e.g., taxpayer under audit), permission needs to be granted, but past returns still do not need to be amended. The form for making the change in accounting method (Form 3115) answers a number of questions about the taxpayer's situation and shows a calculation of the depreciation adjustment (Section 481 adjustment) post cost segregation study. Read more...
Q. What if my CPA isn't familiar with this Form 3115 or how to incorporate the results of the cost segregation study into my tax return?
A. Franklin Tax Group completes or assists your CPA firm in completing Form 3115 and will also be available for explaining how the results of the cost segregation study are incorporated into the tax return. Written instructions are also provided for additional assistance to your CPA.
Q. Don't I risk an audit by doing a cost segregation analysis?
A. Audits are always a possibility with or without a cost segregation analysis. The IRS is very familiar with the code section, regulations, revenue procedures and case laws that support the performance of a cost segregation analysis. The IRS has published guidelines of what constitutes a properly performed cost segregation analysis. The IRS has also published field directives on the application of cost segregation studies in the restaurant industry and in general.
Franklin Tax Group takes great effort in following all of these guidelines and directives as well as being up to date in current code, regulations, procedures and case law. Although we can't assure an audit will never happen, we can assure the most accurate cost segregation analysis available and continued support shall an audit ever happen. As mentioned on our services page, we are so confident in our methodology and services that we provide up to 40 hours of free consulting services if an audit were ever to occur because of one of our cost segregation studies.
Q. What are your fees?
A. Our fees are always stated up front in our engagement letter. There is no range; you will know exactly what you are paying before you engage us for our services. The net present value after tax savings from a cost segregation study is usually at least 10 times the fee of Franklin Tax Group's services. Net Present Value is a calculation that shows the combined benefits of a cost segregation study over the remaining tax life of the property. The combined benefits each year are adjusted back to today's dollars using a 7% discount factor. This allows our clients to compare the total benefits in today's dollars to the fee of our services. Often the benefit is even more depending on when the property was put in service.
Franklin Tax Group offers:
- A sliding fee scale for multiple properties
- Lower fees for tenant improvement cost segregation studies since there is less total property to analyze
- Free projection of benefits of a cost segregation analysis before Franklin Tax Group is engaged for services. For a free projection and quote of our fees, please click here.
Q. Why not use an engineering firm for my cost segregation analysis?
A. Although an engineering firm is definitely qualified for estimating all of the costs that went into building or acquiring a property, they are more than likely going to be lacking in understanding all of the important tax matters that could be involved in a study. Some business owners may be considering a Section 1031 exchange or the sale of their property. Consideration should also be given to potential passive losses, negative basis issues and net operating losses in either their operating or real estate entity that are created by the additional depreciation deductions. An engineering firm will not have the expertise needed to analyze the tax effects of any of the above situations. A business should be very cautious in considering a cost segregation study if the engineers aren't also analyzing potential 1031 exchanges, Sections 1245 and 1250 recapture, sales, passive losses, negative basis or net operating losses. Although a cost segregation study can be done in all of these scenarios, the ability to plan for the effects of these issues is crucial to putting a client in the most beneficial tax situation and is best handled by a firm with both engineering and tax capabilities—like Franklin Tax Group!
Q. How much time will a cost segregation analysis take from start to finish?
A. The typical cost segregation study will be completed and delivered within three to five weeks of the time that we receive a signed engagement letter, requested accounting information and blueprints (if available). More complex properties may take longer. The estimated time would also be provided before Franklin Tax Group is engaged to do any work. Although the typical CPA tax season is our busiest time of the year, a cost segregation study can be done anytime during the year.
Q. How can I know this is worth doing before I spend the money?
A. Franklin Tax Group has developed an estimating program that allows us to provide you with a projected benefit prior to your decision to engage us for services. If we don't think the projected benefit is worth while, we won't suggest that you do a cost segregation study. This program also allows us to analyze the tax benefits resulting if you may later decide to sell or exchange your property after doing the cost segregation study.
