You want to protect your assets, and you want to protect your wealth. Cost segregation is a form of wealth protection, as discussed in the video below. Cost segregation is a tax strategy available to the following: investment property owners owners of properties used to operate a business This strategy creates an income tax benefit for you and generates increased cash flow. In this article, we will answer the following questions you might have: What is cost segregation? How is depreciation calculated? What is accelerated depreciation? Like you want to protect your wealth, you want to protect your assets. Lawsuits can be catastrophic and painful, and insurance provides insufficient protection to you. Unfortunately, your equity in real estate is a lawsuit magnet–unless you’re protected. Do you want to make sure your real estate investing business is protected? Start with our investor quiz, and we’ll help you find ways to protect your assets. Your assets generate cash flow and are essential to your financial freedom. That’s why understanding how to increase your income through cost segregation is so crucial. Continue reading more and learn about this effective tax strategy. What is Cost Segregation? You want to keep more of your money—cost segregation lets you do that. As Yonah Weiss says, “It’s not about how much you make; it’s about how much you keep.” Cost segregation benefits you by: Reducing your taxes Increasing your cash flow Allowing you to reinvest in your business Real estate depreciates over time. As a result, the IRS enables owners of real estate investments to deduct an amount from their income every year before taxes are assessed. This deduction is called a depreciation expense. You don’t pay the depreciation expense out of pocket. Instead, you claim the fee and have less of a tax burden on your income. Cost segregation maximizes the amount of depreciation expense by accelerating the decline of your property’s value. How is Depreciation Calculated? First, there are fundamental rules about calculating depreciation: Buildings depreciate in value Land does not depreciate in value For example, you can calculate straight-line depreciation, which means you research and identify how long, in years, your asset will take to crumble completely. The number of years during which your property is in good enough condition to be used is called useful life. Then, you take the amount you paid for your investment and divide it by the number of useful life years. Finally, you claim that amount ($ amount of investment # of useful life years) each year. The IRS determines that the useful life for single and multifamily rentals is 27.5 years, and commercial properties last for 39 years. Generally, when you buy a property, you purchase the building and the land underneath the building. Remember–land does not depreciate–so you can’t just take the sales price of your property and divide it by the number of useful life years. You have to separate your purchase price into two components: land price building price Then you can divide the price of the building by the number of useful life years to determine your annual depreciation expense rate. What is Accelerated Depreciation? In general, the interior and exterior components of a building are classified as either commercial or residential. Commercial assets depreciate over 39 years, and residential properties depreciate over 27.5 years. The IRS gives you different time frames for how long different things last. Just like you split the price of your building and land to calculate your depreciation expense, you can further split up the components of your building to take advantage of the tax code. Remember that depreciation is calculated by (price useful life years). When the total lifetime of an item decreases, the annual depreciation rate increases. As you reclassify the IRS category in which your property belongs, you have the chance to claim a shorter useful life of the item. Consequently, you accelerate the amount of expense in the early years of your ownership. In other words, your property is subject to accelerated depreciation. The higher the depreciation expense means that you have less taxable income and a smaller tax bill. Here are the ways the IRS categorizes property and depreciation: Personal property: appliances, furniture, fixtures, carpeting, special-purpose electric, millwork, etc., depreciate over five years. Land improvements: pavement, landscaping, fencing, signage, etc., depreciate over 15 years. Buildings: commercial depreciates over 39 years, and residential depreciates over 27.5 years. Land: does not depreciate. Key Takeaways about Cost Segregation Cost segregation saves you money on taxes by increasing the amount of depreciation expense you can claim. When you pay less to the IRS for taxes, you have an increased cash flow. That increased cash flow enables you to reinvest in your business and secure your financial future. Determining which category your property falls into is not easy, and if you make a mistake, you may end up on the IRS’ radar. That’s why it’s a good idea to get a cost segregation study from experienced professionals. Usually, it’s a team of accountants, attorneys, and engineers who conduct the survey and determine where your property should be categorized.