Erik Oliver 0:00
The idea of Cost Segregation is well, instead of depreciating that office building over 39 years, is there a way for us to depreciate that faster so we can get more deductions sooner. You know, I may not own that office building for 39 years. And so how do I get those deductions quicker? And the way you do that is through a cost segregation study. And really all we’re doing is just what the name implies we’re segregating the cost of that building into different buckets, for lack of a better word. And so we are, you know, when you buy an office building, you’re not just buying the land and the walls but you’re also buying a parking lot. You’re buying some flooring, some window coverings, some cabinets and countertops, there’s all these different components that make up that building. And the IRS says you can depreciate those over a much faster schedule. For example, carpet can be depreciated over five years, not 39 years carpet doesn’t last 39 years.
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J Darrin Gross 1:09
Welcome to commercial real estate pro networks, CRE PN Radio. Thanks for joining us. My name is J. Darrin gross. This is the podcast focused on commercial real estate investment and risk management strategies. Weekly, we have conversations with commercial real estate investors and professionals who provide their experience and insight to help you grow your real estate portfolio.
Today, my guest is Erik Oliver. Erik is the regional manager for Cost Segregation Authority. In just a minute, we’re going to speak with Eric about cost segregation, what it is, how it works, and the benefits for real estate investors.
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Erik Oliver 2:20
Oh, thank you, Darrin, I’m glad to be here.
J Darrin Gross 2:23
I’m looking forward to our conversation. But before we get started, if you could take just a minute and share with the listeners a little about your background.
Erik Oliver 2:31
Sure. So my degree is actually in accounting. Math always kind of came easy to me in school as opposed to English and so or science for that matter. So I was in college and said, How am I going to get this done quickly. And so I decided to go into accounting, not really knowing what I wanted to do at the time. And so my background is in accounting, and then my careers have taken me through business development and and those types of things. And so I came across this company, I moved from Salt Lake City out to the east coast to Virginia, and then to Long Island, New York, and was looking to head back home to Salt Lake and came across this job about six years ago. kind of fit what I my background was, you know, it’s kind of a niche accounting firm that we work for here cost segregation authority. And, and so I’ve really loved it, I’ve really been able to learn more about real estate and you know, work with investors and CPAs across the country on on saving tax dollars. So it’s been great.
J Darrin Gross 3:34
Awesome. Well, to start the conversation, I mean, cost segregation, I think is it’s a term that many are familiar with the term, but I don’t know that everybody understands the what it is or how it works. And for the uninitiated, could you give a brief? What is Cost Segregation answer?
Erik Oliver 3:55
Sure. So Cost Segregation really is just accelerated depreciation. And so you know, one of the big benefits of owning real estate is being able to take a depreciation expense against your income. And so what that is, is typically if you were to buy a commercial property, you get to depreciate that property over 39 years. So let’s just to make the math easy. Let’s say you bought a $390,000 office building, you would get a $10,000 write off every year for 39 years against your income. So if you make 100,000 a year, instead of being taxed on 100,000, you’ve got this $10,000 write off that now you’re only taxed on 90,000, which is great. It’s a non cash expense. That is a huge benefit for real estate investors to offset income. And Cost Segregation says or the idea of Cost Segregation is well instead of depreciating that office building over 39 years, is there a way for us to depreciate that faster so we can get more deductions sooner. You know, I may not had on that office building for 39 years. And so how do I get those deductions quicker. And the way you do that is through a cost segregation study. And really all we’re doing is just what the name implies we’re segregating the cost of that building into different buckets, for lack of a better word. And so we are, you know, when you buy an office building, you’re not just buying the land in the walls, but you’re also buying a parking lot, you’re buying some flooring, some window coverings, some cabinets and countertops, there’s all these different components that make up that building. And the IRS says you can depreciate those over a much faster schedule, for example, carpet can be depreciated over five years, not 39 years carpet doesn’t last 39 years. So. So that’s what we’re doing. We’re segregating, we’re putting values to that purchase price and breaking up that $390,000 purchase price in that example, into those different buckets. And that allows you to take those deductions much sooner.
J Darrin Gross 5:54
And when you do that, does it change the the what I’m trying to say? Like when I think of like a building, and you talked about the 39 year depreciation allocation, or a straight line schedule, as opposed to a an accelerated depreciation schedule? Are you taking that from a quote, structure to like then making it personal property? Or is there a, is there a, like a conversion there? Or is it just a matter of now that you’ve done the study? You can accelerate this?
Erik Oliver 6:32
No, no, you’re exactly right, we’re taking that purchase, you know, and we’ll go I’ll go back to that example, that $390,000 purchase, we’re gonna say of that 390,000 20,000 of that was for carpet 50,000 of that was for a parking lot. You know, 60,000 of that was for trees, bushes, and shrubs, and irrigation, and fencing and all these different components. And so yeah, we’re taking what we call in the industry, 1250 property or real property. And we’re allocating portions of that property to personal property, things that can easily be removed without damaging the building, there’s a certain criteria of tests that have to be met in order to qualify for personal property. But we’re identifying that personal property and putting a cost to it. It’s, you know, if you think about it, then when you build a new building, that’s easy to do, right? You have an invoice for the flooring, you have an invoice for the parking lot, you know, you get an invoice from the guys who lay the asphalt that say, you know, you spent $80,000 on asphalt. And so you get to give that to your CPA, they can depreciate that asphalt over 15 years, because that’s the depreciable life that the IRS has established for asphalt. So a new construction, it’s a little easier. But when you think about existing buildings, they don’t give you an allocation. When you get your settlement statement and you go buy a million dollar office building, they don’t break it out line by line and say you bought X amount of parking lot X amount of flooring, X amount of window coverings, right? They just say you bought a building one big lump sum building for a million dollars. So that’s really where a Cost Segregation company comes in. And puts values to those different components that allows you again, the IRS has established these there’s a book that’s, you know, 1000 pages big that tells you the useful life of just about everything. So the IRS, there was a court case somewhere at some point, and someone argued that carpet should not be depreciated over 39 years, it should be depreciated over five, they won that court case. And so now carpet has a five year asset versus a 39 year asset. And so, again, you just don’t know the value of those when you make that purchase. And so that’s what a Cost Segregation company comes in and does.
J Darrin Gross 8:43
Got it. And I think one of the the things that is worth repeating, you mentioned, you know, if you if you build a new building, you know, you’re starting at point zero, I mean, that’s the zero point or the beginning. Whereas if you’re if you’re buying an existing property, and some of those items are near their, their end, how does that how does that factor in if you’ve got, you buy a building and the carpets got maybe a year in it? And then you’re gonna have to replace it? Are you can you can you walk through how that as opposed to the five years that the the IRS allows for depreciation on the carpet, you’ve got maybe one year left before you replace it. What happens then?
Erik Oliver 9:31
Sure. So when you do a cost study, we’re still going to put we’re going to put a value to that carpet. And you still get to depreciate that carpet over five years. But let’s say that the previous owner had had it for four years like you had mentioned. When you buy it, you still get to depreciate it over five years, which is way better than the 39 years by doing the cost study. But you’re probably going to get rid of that carpet after year one, you may even go in and get rid of it right when you move in because it’s dirty, it’s old and you want fresh new carpet when you move in. So there’s something called a partial asset disposition that allows you to take the remaining book value of that carpet. And you actually when you dispose of that asset, or you replace that asset, you get to write off the remaining balance of that asset. So even though the roof is, you know, roof is a 20, a, in that example, a roof is a 39 year asset, even though the roof has been on there for 20 years, and it’s not going to last another 39 years, when you bought the building, we still put it in that 39 Year category, you get to take 1/39 of it. But when you replace it, you get to take the remaining book book value and write it off as an expense because you’re disposing of that asset. And so if you think about it, Darren, what we oftentimes see picture this is that you buy a building for a million dollars. And on your depreciation schedule, it says that that building went into service January 1 of 2022, for a million dollars, you start taking your depreciation, five years later, you replace the roof for 100,000. Give your CPA your invoice, they’re going to put on your depreciation schedule right underneath where it says building, they’re going to put new roof, and they’re going to start depreciating that roof over the useful life of a roof. But what happened to the old roof, it still stuck in this building that’s on your depreciation schedule, right? So you’re really depreciating two roofs now, because you never pulled it out of this building, because you never had a cost study done initially. So you’re depreciating two roofs at the same time or one of them, you can actually write it off as an expense, and only depreciate the new roof. And so that’s oftentimes we correct a lot of depreciation schedules when we see that because we’re like, Hey, you’re double depreciating all these assets that shouldn’t be you should be able to expense them. So that’s just what we call a partial asset disposition. But just wanted to note that
J Darrin Gross 11:48
no, I think to me, that’s that’s one of the the real magic things because, you know, as investor myself before I and I have done a cost segregation study, and I’m a fan. The before that it was basically expensing things. And, like you said, if you replace something and you expense, the replacement, but you still had the original, that was depreciating, you didn’t get to, to capture that, like said if it’s 19 years or whatever, that that big chunk of, of depreciation that was available just to write that off, and then essentially recapitalize, because you’re, you know, if you take off of a roof that has on your schedule, you’ve got, you know, 35 years left, but you you’ve replaced it, you’re taking off at that value, you’re expensing that, but then you’re recapitalized it with a new roof. Right? And so it nets out I mean, to me, it may it makes a lot more sense the way it the way it works, as opposed to just the expense and, and depreciate an old roof kind of thing. So it just occurred to me because like, I’m assuming when you when you do a cost egg study, the allocation of the value is based on acquisition costs, right?
Erik Oliver 13:05
It is, yeah, so ever, you could do one cost study every time a property changes hands, because let’s say you bought it for a million, we’re gonna put values to all the different components, but then in five years, when you sell it to me for 2 million, all those different components now have new values. Right? Right. So every time a building changes hands, you have the potential of doing a new cost study on that building.
J Darrin Gross 13:28
No, no, that that to me would be, you know, extremely valuable, because, you know, the, the, just to reset the values, right, so you’re getting the proper amount accounted for there. So in another thing that came to mind, and I think it’s fairly obvious, but it did present a question to me. So the accelerated depreciation, you’re not getting more depreciation, you’re just getting to use the depreciation sooner, correct?
Erik Oliver 14:00
That’s exactly right. Yeah. But at the end of the day, you know, we’ll go back to that office building the paid a million dollars, for at the end of the day, you still gonna get a million dollars of depreciation, whether you take it 1/39, every year for 39 years, or you front load a portion of that and take a bigger chunk up front, it just means you get less on the back years. And again, there’s a number of reasons why you would do that. You want to get your deductions up front, especially in today’s environment, where inflation is what it is, you know, $1 Today is worth way more than $1.39 years from now, in terms of buying power, and everything else, then you’ve got time value of money elements. And so instead of letting the IRS hold on to those deductions, give me my deductions. Now. Let me use that to free up cash flow, right instead of me paying the government taxes. I have this big deduction that frees up cash flow for me that I can either pay down debt, I can go invest it in new properties. There’s a number of things I can do with that money to put it to work versus letting the IRS just hold on to those deductions. Uh, and I’m kind of oversimplifying things here, Dan, I should probably point out that land is not depreciable. Let me just make right there. So when I say purchase price, it’s the purchase price of the building. So when you buy a building, you’re buying land and structure, you never get to depreciate the land. And so you always have to back that number out of your purchase price to get what we call your depreciable basis, at which point you start depreciating on that that number there.
J Darrin Gross 15:25
Right, right. Do you have any kind of a ballpark number as far as the the cash flow improvement with with somebody who’s done a casa segue study?
Erik Oliver 15:38
Sure. So I’ll kind of take a step back, there’s something called bonus depreciation we should probably touch on. Sure. It’s been a huge benefit to our industry to investors. You know, back in 2017, at the end of 2017, Congress passed the tax cuts and Jobs Act. And that was kind of the the tax overhaul that was initiated by Trump. And as I’m sure many of your investors know, or many of your listeners know, Trump owns a few pieces of real estate. And the tax law was very favorable to real estate investors. And something came along called bonus depreciation. Now bonus depreciation had been around, it’s kind of something that government uses to stimulate the economy. And so every year, they’ll look at the economy and say, Okay, how are things going, oh, you know, what, we need to stimulate the economy a little bit. So we’re gonna, we’re gonna bump up the bonus percentage to, you know, 50% bonus. And all that means is, and I’ll, again, kind of simplify this. But if you were to buy a bulldozer, and let’s say a bulldozer has a 15 year asset life, you would be able to depreciate 50% of that, if bonus was 50%, you would be able to depreciate 50% of that bulldozer in the first year, the remaining 50% gets depreciated over the next 14 years. So they’re giving you an incentive to go out and buy new equipment to build new buildings. There’s a number of reasons, you know, creates jobs, all this just stimulates the economy. And so back in 2017, with the tax cuts and Jobs Act, they increased bonus depreciation to 100 100%. Which is huge, and it’s a massive benefit for real estate investors. The other thing they did is they removed one of the just some small language in the in the tax law, but basically it says it no longer has to be new. You can go buy a used bulldozer and still apply this this bonus depreciation. So one of the provisions under bonus is the useful life has to be less than 20 years. So if you think about real estate, it doesn’t really fit into real estate, because real estate is a 39 year asset or for your residential properties. It’s 27 and a half. But then what if you do a prospect study, and we come in and we identify Well, part of that 39 year building is a bunch of five year assets, things like carpets, countertops, cabinets, etc. Part of that 39 year building is a bunch of 15 year assets, things like parking lots, curbs, gutters, asphalt. So if now if you do a Cossack study, this is great. This was like the best tax law for our industry. Because now there and when you buy a building, you have to call me if you want to take bonus depreciation because you don’t have any five, seven or 15 year assets, you just have one big 39 year asset, right? So you call me we do a cost study. Now you’ve got a bunch of five, seven and 15 year assets identified that are eligible for bonus. And you get to take 100% of those deductions in the first year. And so going back to your question, you know, is there a kind of some quick math that we can calculate this? Currently, the 100% bonus tax law goes from any properties purchased from September 27 of 2017, to December 31, of 2022. So this year, the end of this year is the end of 100% bonus. And if you’re eligible for that 100% Bonus, and you buy a property within that timeframe, essentially you’re going to get about 30% of your purchase price minus the land. So you take your purchase price minus land, that gives you a depreciable basis and you can take about 30% of that depreciable basis in the first year. Wow. Yeah, it’s a huge advantage for real estate investors.
J Darrin Gross 19:25
So and let me ask you something the depreciation because he you know, part of one of the caveats is you have to be a real estate professional to take the full amount if you’re if this is a in this way I understand and correct me if I’m wrong. Versus if you are if you’re a full time insurance broker like myself, that invest. I had an accountant before that was like, Well, you know, you can’t really take it because you’re, you’re a W two, guy. But I’ve since learned that no, no, no. Okay. Fair as the real estate income grows, the cost segregation study was even more valuable, because then I could offset that that income in and I didn’t lose the depreciation, it was still available for me, you know, in, in whatever years in the future, right is that am I
Erik Oliver 20:21
know you’re you’re on the right track, you know, so let’s just use you as an example where you’ve got, let’s say w two and Kevin, you also have investment income, your W two income is treated as active income, that’s your active day to day job is that w two income, your passive income as your investment income, you’re just invest on the side. And so you’ve got active income versus passive income. When we do a cost segregation study on your real estate, which is in that passive bucket, the deductions that we create through the Cossack study are going to be treated as passive deductions. So they can only be used to offset your rental income, not your W two income. And so, you know, let’s say, let’s say you’ve got 200,000 of w two income and only 30,000 of rental income. If we do a Cossack study, and we create a $300,000 deduction, that $300,000 deduction can only go to offset that 30,000 of rental income, not your 200,000 of w two income. Right? Unless, like you said, you become a real estate professional, which there’s a set of rules and regulations around that. But basically, essentially, you have to spend 750 hours a year doing real estate, or not or, and 51% of your working time doing real estate. And then you become a real estate professional for tax purposes. And what that means is, hey, I really do real estate for a living. So now all of my real estate activities become active. And so now I can use these deductions to offset any income. So they’re like someone like you, I don’t know, your marital status if you’re married or not. Yes, you are, I see. So a lot of professionals and I’ll use a doctor as an example. But a lot of professionals who have high w two income, they may have a spouse who’s able to stay at home, and that spouse becomes the real estate professional and manages their real estate portfolio. And because the spouse is the real estate professional, and they file a joint tax return, now those deductions can be used to offset the doctor income. And so we see that quite often. And so that’s a great way to get around paying taxes on your W two income is, you know, can you yourself become a real estate professional, which if you have a full time job, the answer is probably no. But if not, do you have a spouse who maybe could qualify and file that joint tax return? So that’s a great point, and you’ve got this passive versus active and you want to make sure that you’ve got enough passive income to justify creating those passive losses, otherwise, they do you don’t ever lose them, like you mentioned, they just carry forward and they use them in future years.
J Darrin Gross 23:02
Right. Right. Now I had the good fortune to have some properties where the cashflow increased significantly. And and it really, I mean, it just had helped to offset the income dramatically. So that was a win. So let me ask you, as far as the we’ve talked about all the benefits of basically some some paper losses that offset the the income to to reduce the taxable income. Is there any downside to this whole thing? I mean, I, it to me, it sounds like it’s just like, you know, candy and recess and vacation, and you know, there’s, there’s, and I’m just gonna, like, usually there’s, there’s something somewhere that’s like, Okay, well, there there is this?
Erik Oliver 23:53
Sure. So I’ll give you some of the objections we get quite often. And I’ll kind of talk about two of them. Most importantly, one is, well, if I show this loss, then how am I going to go out and get a loan for my next property, right? Because I’m showing no income because I have this massive paper loss that just offset all my income. So now I’m basically showing that I only make $10,000 a year, how am I gonna go out and get a loan for my next project? And the nice thing is, is that’s not actually true. So depreciation always gets added back into your income for lending purposes. So for tax purposes, obviously, you want your income to be low for lending purposes, you want it to be high, because this is just a paper loss. They’re always going to add depreciation back into your income for lending purposes. So that’s great. That’s the first thing. The second thing is is there is something called recapture tax. And the question we get quite often so when you sell your asset so let’s say I buy a building for a million dollars, and I sell it five years later for 2 million. When I sell that asset, I have to pay two types of tax I have to pay capital gains tax, assuming I’ve held it for more than a year and Then I also have to pay recapture tax. Now your recapture tax is calculated on the amount of depreciation you’ve taken on the asset. So people will say, Eric, if I’m gonna front load and take all this depreciation up front, don’t I just have to pay that all back in five years when I sell it? And the answer is no, not necessarily. And I’ll kind of walk through this example. The idea behind Cost Segregation is you’re going to take there’s a rate arbitrage. So you’re taking your deduction against your ordinary income, which, you know, let’s say I’m in the highest tax bracket of 37%. Plus, I live in California, and so that’s another 13%. State. So I’m getting taxed at roughly 50%, you take your deduction against that 50% combined state and federal, when you sell that asset, even if I had to pay it all back, right dollar, either pay the whole amount back, I’m only paying it back at a capital gains rate, or a recapture rate of maximum 25%. So you take your deduction against your income and 50, pay back at 25 and save the spread. So that’s the first thing Yeah, you do have to pay some of it back, but it’s at a lower rate. That’s the first thing. Second thing is you don’t pay it all back, you pay a portion of it back, depending on how long you own it. And I’ll kind of back into this deck, because I think it makes more sense. Let me ask you this, if you buy a property for a million dollars, sell it five years later, for 2 million. When you go to settle up with the IRS and pay your taxes on that transaction, you’re telling them that everything doubled in value, right and went from a million to two, that means your land doubled in value, that means your walls doubled in value. But you’re also telling them your dirty old carpet that you’ve had for five years is now worth double what it was when you bought it. And that’s just not the case, carpet doesn’t double in value over time carpet goes down in value. So by doing a caustic study, you actually get the pull that carpet out of the transaction and say, I’m not selling my carpet for a gain, my carpet has a book value of zero. carpet is a five year asset in this example that I laid forward, that was a five year hold period, I bought it in 2020 sold it in 2025, I’ve owned it for five years, what’s your carpet worth after five years, it’s worth zero, right? It’s a five year asset, you fully depreciated it, you don’t pay any capital gain on that carpet, the gain goes to the building and the land. And so you’re just reducing. And to summarize, I’ll try to summarize without getting too far in the weeds, but take your deduction at a high rate, pay back a portion of it at a lower rate at a future date and save the spread. And that portion is dependent upon how long you own it, the longer you own it, the less you pay back.
J Darrin Gross 27:48
And that that was helpful there. The the example there of talking about the life left in whatever it is that it’s still in the building there. Right? Because I again, I’ve always heard about, okay, you’ve got depreciation recapture and capital gains. And, you know, I think there’s, there’s two types of investors, I’ve always tended to be one that was thinking hold forever, or at least just grow and grow and grow the assets, better than then cash out. I know a lot of times with, if you’re, you’re syndicating or, you know, working with others and stuff, it doesn’t, it’s not always as easy. And so this becomes more of a natural resolution as you’re you’re going to sell and and pay the tax and move on to the next deal. But in the in the instance, where you are able to roll out and roll into another property. Is there any issues with the cost segregation study and doing a 1031? Exchange? Does it create any, any issues?
Erik Oliver 28:55
No. So if you do a 1031 exchange, the nice thing is, is obviously you’re deferring your taxes, but you’re also deferring your recapture. So you’re referring you’re you’re deferring your capital gain and your recapture. So you could do a cost segregation study, take your depreciation, do a 1031 exchange into a new property and you’re just kicking that can down the street and not having to pay any of that recapture or capital gains. And so they actually work very well hand in hand. The other thing is some investors, especially with this bonus period that we’re in right now, you know, even if you sell your asset, let’s say I sold my I sell an asset in January, and I sell it for you know, a million dollars in gain, I sell for a million dollars, and I’m going to have this big tax bill at the end of the year. Well, I’m gonna go buy a new property and do a Cossack study and get a huge write off, and that’s going to offset my gain on that sale. And so even if you do want to cash out, if you have other investment properties or you plan on investing in other investment properties, you can do the cost take from one building to offset the gain from it. Another. And so that’s another strategy that oftentimes we’ll see utilized is just, you know, if they don’t do a 1031 exchange, maybe they do caustic studies on some of their other holdings, to create that massive deduction to offset the gain from the sale of an asset.
J Darrin Gross 30:17
Realizing that, you know, if you are rolling out of one and into another, and you’ve got the cost segregation study, you know, option available to you, which obviously would just, you know, with that much of depreciation, how much, you know, it almost begs the question of why do the 1031? I mean, I guess, you talk to your accountant to figure out, you know, which ones, which one’s better, whatever. But,
Erik Oliver 30:46
Yeah, but you’re right, it’s a great opportunity to pull money out of that deal, and have this massive deduction to offset it with so you’ve got options, which is nice.
J Darrin Gross 30:59
So, who is this most ideal for? Is it? Is it strictly the big guys or I mean, ordinary investors or? Or, everybody?
Erik Oliver 31:11
That’s a great question, because the answer is changed. And so we hear quite oftentimes, people will talk to their CPAs. And their CPAs will say, hey, this only applies to those who are buying, you know, large office buildings or large apartment complexes. And that was true prior to this bonus, depreciation, bonus, depreciation has really opened cost segregation and depreciation up to all investors. And so we’ll work on we do single family homes where they bought it for 150,000. And, you know, the study might cost you 2000, but you take $150,000 home, you get 30%. Of that, that’s a $45,000 depreciation expense. Let’s say you’re in a 30% tax bracket, that’s a $15,000 tax savings. And so you know, pay to to save 15, I’ll do that all day long. And so we work with anything from single family rental homes, up to, you know, large, larger office complexes, ski resorts, golf courses, etc. So, it really has, like I said, this bonus depreciation, and I’ll just add to that bonus, depreciation isn’t going away at the end of the year, it’s just simply being reduced down to 80%. For 2023. In 2024, it drops to 60%. So it drops 20%, every year after this year, until zero and 2027. So even next year, in the following year, you know, at 80% 60%, those are still really good bonus years, where you can buy assets, take your bonus depreciation, and, you know, pay very little taxes. So it’s really opened the door for big investors, small investors, you know, everybody really, right.
J Darrin Gross 32:53
And, you know, we talked about new construction, we talked about, you know, buying an existing building, is there any issue if this is the first time you’ve heard of cost segregation, and you’re, you know, working with your account now, and you’re going to IO what? And, you know, you say, Wow, I heard about this cost segregation study? Does it work on something that you’ve had for a while? Or is there a number of years where, like, you know, obviously, if you’ve, if you’ve had a building for 25 years, it’s probably not a good thing. But if you’ve had a building for, you know, two or three years, is it still an opportunity?
Erik Oliver 33:33
Yeah, absolutely. So there’s something called a look back study. And we do those all the time, especially this time of the year, because like you said, you go get your taxes done. And then your accountant says, Well, you owe X amount in taxes, and you’re like, wait, wait, wait, what? You know, you if you have existing properties, it’s worth getting the numbers run, because the IRS actually allows you to go back and do a look back study. And take all that missed depreciation that was available to you from 2017 1819 2021. When you own the property and 20 and 2017. You get to take all that missed depreciation and drop it on your current tax return without having to amend any prior years. There is an additional form that needs to be filled out. And we actually provide that as part of our service most kossei companies do. It’s a 3115. I shouldn’t say most of them do. A lot of them do. Some of them don’t. But there’s a 3115 tax form that basically says, Hey, IRS, I bought this property and 17 I’ve been taking my standard straight line deduction for the last four years. It’s now 2021. And I want to drop and I want to change my method to accelerated depreciation. And here’s the difference in those numbers. And you get to take that large deduction on your 2021 taxes again, without ever having to amend a prior year’s return. So good news is for your listeners is even if you filed your 2021 taxes because you know, those are due here in a few days. He’s, even if you if you file them or you’ve extended, you can still go back and do cost thing. Now, it doesn’t have to be done in the 2021. calendar year, we really have until October 15, to finish Cost Segregation studies for the 2021 tax year. So it’s, it’s a great opportunity. If you’re paying taxes and you own real estate, you should definitely look into cost segregation, because the market or the environment we’re in right now is so favorable to real estate investors that you should be paying very little taxes if you own real estate and can absorb those deductions.
J Darrin Gross 35:35
Yeah, and I can give a testimonial, I haven’t worked to you with you specifically, but just the whole nature of the cost segregation study, I did do one. And it was exactly that my accounts. Well, you know, you did this, and then they you owe this much. I’m gonna like, Why do I owe how much you know? And, and so we did a cost segregation study in that, like that little bit of investment, more than was, you know, the benefits were far exceeding the costs. And it totally eliminated the, the big tax bill that we’re looking at. So definitely, I’m a big fan of and, and encourage anybody who has not to, you know, check it out? And and, you know, if you don’t know any, I mean, get a hold of Eric, I mean, I gotta say, you’re, you’re one of the most clear spoken. People I’ve met. I’ve talked with him about cost segregation. So I think that’s a great, you know, great opportunity for anyone who’s gonna ask you, you know, just with the compressing cap rates, and just the the competitive market that we’re in? Do you see that cost segregation studies, and like, interest only financing are like really kind of some of the keys to really making these these properties cashflow? Or is, is that just more of like, just the nature of just the market are?
Erik Oliver 37:08
Well, you know, I, you know, we’re all seeing those, those cap rates come down throughout the country. And I think that cost segregation can play a significant role in freeing up that cash flow. You know, if you think about again, let’s just throw some numbers out. But if you buy a, let’s just say you buy 1,000,002, you know, an office building for 1,000,002. And let’s say land is worth 200,000. So you have a million dollars worth of depreciable basis. If you do a Cossack study and we create a rough on average, we typically segregate around 30%, like I said, so if we segregate 30% Of that million, or 300,000, into short term assets, and you can write that off in the first year 300,000. And let’s say you’re in a 30% tax bracket, that’s 90,000. So that you know, on 1,000,002, what’s the downpayment on 1,000,002, I guess, if you put down 10%, who honored
J Darrin Gross 37:58
Erik Oliver 38:02
might get, you might get 90,000 of that back in the first year by doing a caustic study. So you’re getting half of your downpayment back by simply doing the cut. Now, that’s again, assuming you can absorb those deductions, and you have the income coming in from out of that property or other properties. But it’s a huge opportunity. It’s essential right now, I think, for investors, and we work with a lot of syndicators, who, you know, they use this as a way to go out and drum up money to say, Hey, give us some money to put down on this asset, and we’re gonna give you almost half of that, if not more than half of that, because we’re going to leverage it right, we’re going to leverage this deal, we’re going to give you a great portion of that back as a write off in the first year. And so use it as a way to help drum up money or for yourself to lower tax bills. I think
J Darrin Gross 38:54
it definitely seems to be one of the kind of lubricate and you know, just make it just makes the deal really work, you know, having the the write off there and, and so that’s good. If you had to kind of guess, is there a sweet spot for you know, the type of property strategy that a investor may have that the works best or that you seem to work with most?
Erik Oliver 39:22
Sure. So, you know, I mentioned you know, everything from small single family rentals to large office buildings, you know, the smaller single family rentals, you’re not gonna get as big a return if there’s kind of a basement on what we have to charge for these studies. So you know, you might pay two and save 10 or 15. But we want to see at least a seven to 10x return and so anything over you know, a million dollars even 500,000 That’s really where we start to see this just explode. You know, you might pay us 4000 For a study or 5000 for a study on a larger building, but if you’re saving 300,000 in taxes and he wants to What’s the rate of return there? Right? I can’t do that math in my head, but it’s huge. So, you know, I would say that the ideal properties for caseta are usually over 500,000. But even on those smaller ones, it’s worth having the numbers run, because there’s still significant savings in some of those smaller assets.
J Darrin Gross 40:18
No, agreed. Hey, Erik, if we could like to shift gears here for a second, my day, I’m an insurance broker, and work with my clients to assess risk, and determine what to do with the risk. And there’s three strategies we typically consider, we first look to see if we can avoid the risk, that’s not an option. And we look to see if there’s a way we can minimize the risk. And when we cannot avoid nor minimize the risk, then we look to see if we can transfer the risk. And that’s what an insurance policy is. And as such, I like to ask my guests, if they can look at their own situation, and frame the question in a way that the, you know, fits their their situation could be there, your clients, your investors, tenants, the market, you know, tax rates however you want. But identify what you consider to be the biggest risk. And again, for clarification, while I’m a an insurance broker, I’m not necessarily looking for an insurance related answer. And so if you’re willing, I’d like to ask you, Erik Oliver, what is the biggest risk?
Erik Oliver 41:29
Yeah, you know, for me, as you know, I didn’t have any investment properties when I started doing cost segregation. And so by working with clients all the time, and seeing the value of owning real estate, I’ve started to get into real estate myself. And I think the biggest risk for me is, I went back and forth, do I need a property management group? Do I not? Do I manage these myself, you know, I actually live by my investment properties, I can don’t step over what is the saying don’t step over $1 to save a penny, you know what I mean? Let the experts do it. There’s a reason that they’re property management experts, there’s a reason that your CPA should be filing your taxes, and you shouldn’t be doing it yourself unless you know what you’re doing. And so I think, the biggest risk for me that I’ve had to learn just that let the experts do it. And I see it all the time in my industry, where people do their own taxes. You know, I’ve seen people who make, you know, in the millions of dollars and have very sophisticated tax returns, and they’re doing their own taxes on TurboTax. Because they don’t want to pay a wealth advisor or a CPA who has the experience. And I’m like, what you’re gonna pay that qualified CPA who understands real estate to do your taxes, you’re gonna get back tenfold in the amount of deductions. And you know, the left the reduction in your tax liability. And so I think, if I can just share one thing, and that is surround yourself, you can’t be an expert in everything, right? And so know where your faults are, and be humble enough to say, I’m not a tax expert, or I’m not a property management expert. I’ll tell you just a quick story. I learned that the hard way. My very first investment property was actually when I lived in Virginia, I moved out of Virginia, I moved to New York. And I said, I don’t want to sell my house. I’m going to just rent it in Virginia. And I’m going to do it myself. So I put an ad out there I met with some potential tenants, I found some they seem like the nicest people in the world. I didn’t know I should do a background check. I didn’t know that I should run their credit. There’s my first gig, right? So Micah, they’re nice. They sat down, they talked to my kids, we had a great conversation. They rent I rent the house to him, I moved to New York. And I never hear from him again, right? They paid their rent, the first two months. Great on time was perfect. But then the people that kicked them out of their old place started garnishing their paychecks. And that’s when they stopped paying my rent. And had I done a background check. This all would have showed up but I didn’t want to pay the 10% management fee. I’m like, I want that for me. And so surround yourself with I didn’t know what I was doing. I thought I did but I didn’t. And I should have been humble enough to say, Erik, you don’t know what you’re doing. And so humble yourself and say, what are you good at? And you’d be the expert in that. But we can’t be experts in anything and in everything. And so surround yourself with people who are good property managers, good lenders, good CPAs good attorneys, good insurance agents, right? And let them be the experts and take their advice and be okay paying for that expertise, because you’re going to come out ahead in the long run.
J Darrin Gross 44:43
In there, done that. So baptism by fire, right. But I appreciate you sharing that. Erik, where can listeners go if they’d like to learn more or connect with you?
Erik Oliver 44:56
Absolutely. So you guys can go to our website. Our website is just www dot cost CLS T seg s eg authority.com. My contact information is on there, feel free to use me as a resource we don’t build by the hour. You know, if you have a depreciation question, please call me send me an email. We do free benefit analysis. So we’ll look at your property before you ever engage us to do a study and say, Hey, this is what the study would cost. This is what your potential tax savings would be. And then you can work with your CPA or we can even get on the call with your CPA and say, Hey, based on their whole tax situation, does cost segregation makes sense this year? It’s never a matter of, should I or should I not do cost saying it’s just Is this the best year for me to do costly? Or should I hold on to that? And do that play that card in a future year? And so, again, we’re kind of a niche accounting firm, where this is all we do. We don’t do tax returns. Don’t reach out and ask me questions about child tax credits or earn business income because I don’t know the answers to those. But use this as a resource. If you have any depreciation questions, please use us as a resource.
J Darrin Gross 46:09
Awesome. Erik, I can’t say thanks enough for taking the time to talk. I’ve thoroughly enjoyed it, and learned a lot and I look forward to doing it again.
Erik Oliver 46:20
All right, sounds good. Well, thank you for your time. I really appreciate it.
J Darrin Gross 46:23
All right. For our listeners. If you liked this episode, don’t forget to like, share and subscribe. Remember, the more you know, the more you grow? That’s all we’ve got this week. Until next time, thanks for listening to Commercial Real Estate Pro Networks. CRE PN Radio.
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