What Is Cost Segregation?
Cost segregation is a method of reallocating a property’s cost basis into asset classes that depreciate faster than the standard 27.5 years for residential properties. These asset classes include 5-year, 7-year, and 15-year property. Examples include:
- 5-Year Property:Carpeting, appliances, and electrical systems tied to non-structural uses.
- 15-Year Property:Driveways, landscaping, and retaining walls.
For example, consider a single-family rental valued at $300,000 (excluding land). A cost segregation study might identify $60,000 of assets that qualify for accelerated depreciation. This upfront deduction provides immediate tax savings and improves the property’s cash flow, especially in the first few years of ownership.
Ready To Unlock Your Property's Tax Potential?
Get An Estimate!Is Cost Segregation Worth It for Small Single-Family Rentals?
The feasibility of cost segregation for smaller properties largely depends on the balance between the cost of the study and the potential tax savings. Simply put, you need to calculate two things:
- 1. The Price of the Study
- 2. The Tax Savings (including the time value of money as you will likely use those savings to invest in more properties or the market)
There are two main types of studies to consider:
- 1. Engineering-Backed Modeling Study:Priced at $850–$1,500, this option is affordable and effective for small properties. It uses advanced modeling tools to estimate asset classifications without requiring a site visit.
- 2. Detailed Engineering Study:Ranging from $3,000 to $10,000, this comprehensive study includes site inspections and is ideal for larger properties or those with complex layouts.
Example Calculation for a Single-Family Rental:
- Purchase Price:$250,000 (excluding land value).
- Depreciable Basis:$200,000.
- Qualifying Assets:$50,000 identified as 5- and 15-year property.
- Bonus Depreciation (80% in 2023):$40,000 immediate deduction.
- Tax Savings (37% Tax Rate):$14,800.
Even without bonus depreciation, the accelerated deduction of $50,000 over 5 or 15 years offers significant savings compared to the standard straight-line depreciation. For smaller properties, an engineering-backed modeling study is often the most cost-effective solution.
Cost Segregation for Larger Multifamily Residential Investments
For larger properties, such as duplexes or multi-unit residential buildings, a detailed engineering study is usually recommended. The higher cost is justified by the precision and value of the deductions uncovered. Let’s look at an example:
Example Calculation for a Multi-Unit Property:
- Purchase Price:$1,500,000
- Depreciable Basis:$1,200,000.
- Qualifying Assets:$400,000 identified for shorter schedules.
- Bonus Depreciation (80% in 2023):$320,000 first-year deduction.
- Tax Savings (37% Tax Rate):Over $118,000.
For portfolio investors, a
custom depreciation evaluation can also be considered. This involves analyzing multiple properties to create an overarching tax strategy, ensuring that deductions are maximized across the board.
Cost Segregation Scenarios
When It’s Worth It – and When It’s Not
| Scenario |
Worth It |
Not Worth It |
| Older Property (In Service 20+ Years Ago) |
Significant depreciation has already been claimed, leaving limited benefits from reclassification. |
Limited tax savings unless substantial renovations or additions have been made. |
| New Property Purchase ($300,000) |
Large depreciation deductions possible, especially with 5- and 15-year assets. |
Property value under $200,000 (cost of study might exceed tax savings). |
| Older Property with Major Addition Added Recently |
New addition provides fresh assets eligible for accelerated depreciation. Cost segregation can focus on these improvements. |
If the addition value is low or under $100,000, tax savings may not justify a study. |
| Multi-Unit Residential Property ($1.5M Purchase Price) |
Detailed engineering study uncovers significant savings. Ideal for long-term investors with high cash flow needs. |
Short-term hold strategy (depreciation recapture risk). |
| Single-Family Rental ($250,000 Purchase Price) |
Engineering-backed modeling study ($850–$1,500) can provide a cost-effective solution for identifying qualifying assets. |
Minimal qualifying assets or if land value comprises a significant portion of the purchase price. |
| Property Held for Sale Within 2 Years |
Depreciation recapture negates most of the tax benefits. |
High risk of IRS scrutiny without proper planning. |
| Furnished Short-Term Rental Property ($500,000 Purchase Price) |
FF&E (furniture, fixtures, and equipment) qualifies for accelerated depreciation. Bonus depreciation amplifies first-year savings. |
Short-term hold with plans to sell in under 5 years. |
| Portfolio of Small Properties |
Combine cost segregation studies for multiple properties into a single strategic plan. Portfolio-level analysis optimizes savings. |
Low-value properties where aggregated savings don’t justify the cost of multiple studies. |
What Components Can You Depreciate With Single Family Properties
Residential properties often contain hidden components that qualify for shorter depreciation schedules. Identifying these requires a detailed breakdown by experts who understand the nuances of IRS guidelines. Commonly reclassified items include:
- 5-Year Property:Kitchen appliances, carpeting, window coverings, and removable partitions.
- 7-Year Property:Built-in furniture, shelving, and specialized fixtures.
- 15-Year Property:Fencing, driveways, sidewalks, and patios.
For single-family rentals purchased furnished, the
Furniture, Fixtures, and Equipment (FF&E)
often qualify for accelerated depreciation, provided they were included in the property’s purchase price and not deducted as operating expenses.
Will Bonus Depreciation Continue in 2025?
Bonus depreciation, which allows investors to deduct a percentage of qualifying assets in the first year, has been a key driver of cost segregation’s appeal. However, the phase-out schedule means its impact is diminishing:
- 2023:80%
- 2024:60%
- 2025:40%
- 2026:20%
Even after the phase-out, cost segregation remains valuable because assets in the 5-, 7-, and 15-year classes can still be depreciated more quickly than under the standard schedule. For more details, read our
guide to bonus depreciation.
Will Bonus Depreciation Continue in 2025?
Bonus depreciation, which allows investors to deduct a percentage of qualifying assets in the first year, has been a key driver of cost segregation’s appeal. However, the phase-out schedule means its impact is diminishing:
- 2023:80%
- 2024:60%
- 2025:40%
- 2026:20%
Even after the phase-out, cost segregation remains valuable because assets in the 5-, 7-, and 15-year classes can still be depreciated more quickly than under the standard schedule. For more details, read our
guide to bonus depreciation.
Ready To Unlock Your Property's Tax Potential?
Get An Estimate!Conclusion: Is Cost Segregation Worth It?
For single-family rentals, duplexes, and multi-unit residential properties, cost segregation is a proven strategy to maximize tax savings. Whether through an affordable engineering-backed modeling study or a comprehensive detailed engineering study, this approach delivers significant financial benefits.
To explore your property’s potential, visit
Maven Cost Seg and request your “EOB”. During this process, we will request information regarding your property and give you a detailed breakdown of the estimated savings should you get a cost segregation study.
