Cost Segregation - Tax Deductions
By understanding business tax deductions, business owners may enjoy personal benefits from business expenditures - a nice car to drive, a combination business trip/vacation, retirement savings plan - if they follow the myriad tax rules.
The tax code allows deductions from gross income, which reduce income taxes. Increasing tax deductions reduces taxable income and income taxes. Therefore, knowing how to maximize your deductible business expenses enables you to lower taxes.
According to the IRS, trade or business expenses must be ordinary and necessary to be considered a tax deduction. Although the tax code does not specifically define “ordinary” and “necessary” tax deductions, these types of expenses are specified in various IRS publications and regulations. Some of the tax deductions business owners can claim fall under categories such as charitable contributions/donation deductions, medical and dental deductions, moving expense deductions, deducting job costs, travel and entertainment expense deductions, casualty and theft losses, depreciation and involuntary conversion deductions.
Most people are not aware of all business deductions and miss out on various claims. To this end, it is important to understand the theme for deductions for businesses. When considering whether an expense is a deduction, you should ask yourself the following:
1. Did it occur as part of my small business? 2. Was it an ordinary expense associated with my business? 3. Was it a necessary expense?
In addition to asking the questions above, business owners should also ask their accountant about taking advantage of cost segregation, a tax mechanism that could generate substantial savings in federal income taxes. Although it is vastly under-utilized, cost segregation is not a wildly speculative accounting tool. In fact, the American Institute of Certified Public Accountants’ National Journal of Accountancy has published numerous articles in support of cost segregation.
Cost segregation identifies applicable components and establishes the value and correct time line for depreciation. Under typical circumstances, depreciation is spread out over as long as 39 years. However, cost segregation applies depreciation to parts of the property in 5-,7- and 15-year increments. This acceleration in depreciation time reduces the income subject to federal taxes. This method does not dictate alternative minimum tax issues.
Historically, most depreciation schedules are split between land and long-life property. Long-life property depreciates over 27.5 years for apartments and 39 years for most commercial properties. A cost segregation study can typically allocate 20% to 40% of the improvement basis to short-life categories, and sometimes more.
High-income owners typically pay a 35% federal tax rate on ordinary income and a 15% rate on capital gains. The mechanics of reporting the gain on a sale usually allocate most of the gain to capital gains, which is taxed at 15%.
A cost segregation study actually reduces the amount of long-life property, which is recaptured at 25% by allocating more of the basis to the 5-,7- and 15-year property. If cost segregation is utilized from inception until a gain on the property is recognized, it can reduce the federal tax rate from 35% to 15% for most investors. The exceptions are C corporations, which pay the same tax rate for either ordinary income or capital gains.
Don’t pay more than your fair share of taxes. Take all legal deductions.
|
