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August 24, 2023

Maximize ROI with Cost Segregation in Real Estate | Tax Benefits for Rental Property Owners

Are you a real estate agent who's also a rental property owner, or have a client asking about cost segregation? If so, you're likely always on the lookout for ways to maximize the return on investment (ROI) while minimizing your tax burden. One strategy that can significantly benefit professionals like you or your client is cost segregation in real estate.

What is cost segregation?

Cost segregation is a tax planning strategy that involves reclassifying components of a real estate investment to accelerate depreciation deductions. In simpler terms, it allows you to front-load depreciation on certain parts of your property, resulting in immediate tax savings.

With improved cash flow upfront, you can explore other wealth-building strategies, such as using the savings to purchase more rental properties.

Why should real estate agents and rental property owners care about cost segregation?

  1. Boost Rental Property Profits: Cost segregation can substantially increase your cash flow by reducing your taxable income. This means more money in your pocket, which can be reinvested in your rental properties or used for other investments.
  2. Slash Taxes: When you accelerate depreciation, you lower your current tax liability, potentially freeing up funds for additional property purchases or improvements. This is beneficial for anyone, but particularly for self-employed individuals with significant tax bills.
  3. Stay Competitive: In the competitive world of real estate, every advantage counts. Implementing cost segregation can give you or your clients an edge by improving your overall financial position.

How does cost segregation work?

Cost segregation involves a detailed analysis of your property's components, such as electrical systems, plumbing, and HVAC.

When you purchase a commercial or rental property, the IRS requires you to depreciate the entire cost of the property over a specific number of years (27.5 years for residential rental properties and 39 years for commercial properties). However, not all components of the property have the same useful life. Some assets, like carpets, lighting fixtures, or equipment, may have shorter depreciable lives.

These components are categorized into shorter depreciation periods, typically 5, 7, or 15 years, rather than the standard 27.5 or 39 years for residential rental properties. This reclassification results in higher depreciation deductions upfront.

“The folks at Formations did a little research about my property to make sure it was a good option for a cost segregation study. I walked the adjustor through my property via Zoom and shortly after the report came back with over $60,000K in tax savings! I was beyond belief how much I got back on my tax return this year thanks to Formations due diligence to make sure no rock was left unturned.”

Nina Zerbo, Real Estate Broker

Getting started with cost segregation:

If you're ready to explore the benefits of cost segregation for your rental property or for your clients, here's how to get started.

  1. Consultation with Experts: Begin with a consultation with a qualified cost segregation specialist. They will assess the property and provide an estimate of potential tax savings. At Formations, we often work with Cost Segregation Authority.
  2. Analysis and Property Assessment: A cost segregation specialist will perform a thorough assessment of your rental property, identifying components eligible for reclassification.
  3. Tax Savings: Once the analysis is complete, you'll receive a report outlining the expected tax savings and the adjusted depreciation schedule.
  4. Implementation: You can then make the necessary adjustments to your tax planning and reporting based on the recommendations of the cost segregation specialist.

It's essential to note that cost segregation is typically more beneficial for property owners with significant tax liability and higher-value properties. Additionally, it's essential to comply with IRS guidelines and work with professionals experienced in cost segregation studies to ensure accuracy and compliance.

The impact on rental property owners:

As a rental property owner, you understand the financial responsibilities and challenges that come with this type of investment. However, cost segregation can be a game-changer for your real estate portfolio.

Imagine this scenario: You own a multi-unit residential property with an initial purchase price of $2 million. Without cost segregation, you would typically depreciate the entire property over 27.5 years, resulting in an annual depreciation expense of approximately $72,727.

Now, let's apply cost segregation. After a thorough analysis, it's determined that 20% of the property's value can be reclassified to shorter depreciation periods. This means you can front-load depreciation on $400,000 of the property's value. Instead of $72,727 in annual depreciation, you could deduct $400,000 over just five years, resulting in an annual depreciation expense of $80,000.

In this simplified example, cost segregation provides an extra $7,273 in annual depreciation deductions. This translates to substantial tax savings for rental property owners like you. Plus, the additional cash flow can be reinvested in property maintenance, improvements, or acquiring new rental units.

The role of real estate agents:

As a real estate agent, you play a crucial role in helping rental property owners find and manage their investments. Incorporating cost segregation into your services can make you a more valuable resource to your clients or serve as useful for your own investment strategy.

Here's how:

  1. Expert Guidance: You can connect your clients with trusted cost segregation specialists who can assess their properties and provide valuable tax-saving recommendations.
  2. Market Knowledge: Highlight the financial benefits of cost segregation when promoting properties to potential buyers. This can make a property more attractive and potentially lead to quicker sales.
  3. Client Loyalty: By offering comprehensive services that include tax-saving strategies like cost segregation, you build stronger relationships with your clients. Happy clients are more likely to refer you to others and work with you on future transactions.


As a real estate agent and rental property owner, you understand the importance of optimizing your investments.

Cost segregation in real estate offers a powerful tool to boost your ROI and reduce your tax burden. By unlocking hidden savings through this strategy, you can stay ahead in the competitive real estate market and ensure a brighter financial future for yourself and your rental properties.