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Cost Seg Presentation For Upload Mar 29 09
1. Cost Segregation Services
Asset Reclassification for Accelerated Depreciation of
Business Real Estate Property
Presented by:
Michael F. Cannon, MA, MBA, AVA
President,
MCOM Corporation
2. Objectives
• Present you with an overview of the significant
tax benefits Cost Segregation Studies provide
• Describe the new tax law guidance that permits
use of these studies
• Show you how these studies can benefit your
clients
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MCOM Corporation
3. Overview of the Tax Opportunity
• Cost Segregation Studies (CSS) and their Benefits
– A CSS is an IRS accepted asset-reclassification process that
accelerates tax-depreciation deductions
– Real estate is reclassified from 39 yr. or 27.5 yr. depreciable
property to shorter-lived (5, 7 and 15 yr.) property for
depreciation purposes
– Recaptures available depreciation from prior years, producing
substantial benefits
• IRS Tax Guidance 2004 (IRS Revenue Procedure 2004-11)
now allows “Presumptive Approval” of this asset
reclassification technique
• This procedure is safe and sure. If done following
IRS Guidelines and Procedures no restatement of
prior tax returns is required
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MCOM Corporation
5. The Cost Segregation Core Concept
The Basis for Component Depreciation
• 1250 and 1245 Property Definitions
– 1250 Property
• Building land and systems, in place to allow and support the
functions of the structure as a building
• Allows depreciation at 39.5 and 27.5 years
– 1245 Property
• Building components, land and systems in place to allow
and support the functions of the structure as a business
• Allows accelerated depreciation at 15, 7 and 5 year terms
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MCOM Corporation
6. The Major Client Benefits
• Allocation of direct costs to shorter asset lives
• Accelerated write down of soft/indirect costs
• Lowers tax liability and increases cash flow
• Recaptures reclassified depreciation back to 1987
in one year “catch-up”
• Faster write down of new construction,
renovations and/or expansions
• No need to amend previously filed tax returns; for
entity or for shareholders
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MCOM Corporation
7. Typical Non Accelerated Case
Total Depreciable
Building Costs
Depreciation Schedule
5 Year Property 7 Year Property 15 Year Property 39 Year Property
0 0 0 100%
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MCOM Corporation
8. Some Acceleration Done By CPA
Firm or Internal Finance Team
Total Depreciable
Building Costs
Depreciation Schedule
5 Year Property 7 Year Property 15 Year Property 39 Year Property
0 2-4% 0 96-98%
FF&E
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MCOM Corporation
9. Systematic Cost Segregation Study
Process
Professional
CSS Team
Soft Costs Other Indirect Costs Hard Costs Loan Amortization Expensable Items
Total Building Costs
Depreciation
Schedule
5 Year 7 Year 15 Year 39 Year
Expensable Items
8-12% 4-8% 10-15% 65-80%
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MCOM Corporation
10. Systematic Cost Segregation Study Process
Professional
CSS Team
Soft Costs Other Indirect Costs Hard Costs Loan Amortization Expensable Items
Total Building Costs
Depreciation
Schedule
5 Year 7 Year 15 Year 39 Year
Expensable Items
8-12% 4-8% 10-15% 65-80%
Personal Property Personal Property Site Work Structural Property
Electrical FF&E Site Preparation Foundations
Plumbing Security Sys Concrete Walls, Roof
HVAC Accessories Landscaping Interior Systems
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11. Systematic Cost Segregation Study Process
Older Buildings
Professional
CSS Team
Soft Costs Other Indirect Costs Hard Costs Loan Amortization Expensable Items
Total Building Costs
Depreciation
Schedule
Depreciation
Catch Up Prior Yrs
5 Year 7 Year 15 Year 39 Year
Expensable Items
8-12% 4-8% 10-15% 65-80%
Personal Property Personal Property Site Work Structural Property
Electrical FF&E Site Preparation Foundations
Plumbing Security Sys Concrete Walls, Roof
HVAC Accessories Drainage Interior Systems
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12. Companies That Benefit the Most
• Processing Plants (60-90%)
• Heavy Manufacturing (25-70%)
• Hotels (20-50%)
• Office Building (15-40%)
• Retail (15-40%)
• Restaurants (15-40%)
• Grocery (15-40%)
• Light Manufacturing (15-40%)
• Nursing Homes (15-30%)
• Warehouses (8-12%)
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MCOM Corporation
13. How Can You Tell If
A Client Has Taken Full Advantage of
This CSS Benefit?
• A look at their depreciation schedules will show;
– Total amounts in 5, 7, 15 and 39 year
– Types of items accelerated
– Existence of report detailing case law support
– Systematic approach mandated by IRS
• Provide depreciation schedule to reputable Cost
Segregation firm for cost/benefit analysis
• Client can determine if the cost/benefit is worth it
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MCOM Corporation
14. Example of Estimated Depreciation
Acceleration
Original Cost Segregation*
Depreciation Estimated
Schedule Improvement
Depreciation Total $70,000,000 $70,000,000
39 year $68,000,000
15 year $0 $6,000,000
7 year $2,000,000 $0
5 year $0 $9,000,000
Estimated Addl Dep. $0 $8,000,000
Estimated Tax Defer. $0 $2,800,000
*Based on; building type, basis, years in service and item classification
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MCOM Corporation
15. Some Business Situations Will Not
Benefit
• Alternative Minimum Tax may reduce
immediate benefits to carry forward
• Pass thru of benefits has value only to
shareholders who can use the deduction
• Prompt disposition of property may cause
recapture of depreciation if gain is attributed
to the accelerated asset, this is generally
NOT the case.
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MCOM Corporation
16. Brief History of How We Got Here
• 1962-1997 depreciation taxation rules varied widely between;
– Investment Tax Credit case law, ACRS in 1981, Tax Reform Act of 1986
and the Revenue Reform Act of 1989
• 1997 HCA landmark tax court case
– became basis for reclassification of assets as per ITC case law
– Numerous real estate owners petitioned the tax courts stating that they were
required to construct “special use” rooms with special HVAC, electric, etc.
systems to run their medical systems and specialty testing instrumentation.
• 1999 IRS accepts HCA ruling but vows to “scrutinize” each case
• 2004 IRS agrees;
– changes in depreciation are “a change in method of accounting”,
– allows “presumptive acceptance” of accounting changes, and
– eliminates need to amend previous returns
• 2005 IRS Guidance (Dec 2004) sets standards on report content,
qualifications of preparers, engineering standards, knowledge
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MCOM Corporation
17. Major Areas of Cost Allocation
• 1245 Property
– Finish Carpentry
– Security and Communications Systems
– Electrical
– Plumbing
– Site Work
– HVAC
– Specialties and Accessories
• Indirect or Soft Costs
• Owner Incurred Costs Paid Outside of General Contract
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MCOM Corporation
19. 1245 Property
Security & Communication Systems
Interior Electrical for Machinery
and Equipment
Interior Electrical for Machinery and
Equipment
Security Lighting
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MCOM Corporation
23. 1245 Property
HVAC
Process Air Conditioning
Specialty Equipment
Other
Specialties &
Accessories
Duct Work for Kitchen A/C for Computer Process
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MCOM Corporation
24. Cost Segregation Process Is Detailed
and Exacting: Requires Specialized
Expertise
• Taxation Planning and Procedures Specifically
for Cost Segregation Studies
• In Depth Engineering Expertise
• Detailed Project Management Expertise
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MCOM Corporation
25. Taxation Expertise
• New Depreciation Rules and Regulations
• Specialized Tax Case Law verdicts from;
– 1970’s Investment Tax Credit case law
– Tax Reform Act of 1986 and Revenue Reform Act of 1989
– HCA Case 1997
– IRS HCA tax court ruling 1999
– 2004 IRS new rulings and guidance
• Body of case law, recent verdicts and pending
cases
Tax Law Expertise Engineering Team Project Management
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MCOM Corporation
26. Engineering Expertise
• Cost segregation engineers, licensed and experienced
in the field, with deep knowledge in
– Site, costing, materials, estimating expertise
– RS Means, Marshall & Swift data mining
• Wide experience in all cost segregation aspects
– Latest knowledge in real estate tax innovation and CSS
study development
– Site visit documentation process for all reclassification
activities
– Manage all aspects of component analysis, verification and
take offs as well as building cost reconstruction where data
is not available
Tax Law Expertise Engineering Team Project Management 26
MCOM Corporation
27. Project Management Expertise
• Project managers must be experienced in
– Direction of program components and scheduling
of multi-team efforts
– Control systems to deliver projects on time and
within approved budget
– Coordination of key data with client/CPA firms
– Key supplier relationships for essential
information gathering; GC, Subcontractors,
suppliers, plans, AIA, Change Orders, Invoices
Tax Law Expertise Engineering Team Project Management
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MCOM Corporation
28. How We Would Work With Your
Clients
• Adapt to whatever form you feel is best for your client
– Independent supplier of the service
– Associated company to your services
– As a part of your internal client service
• Our process would follow you and your client preferences
• An “average” process would be as follows;
– Initial presentation of service to client
– Client provides depreciation schedule for review
– We present potential benefit and study costs to client for review
– Client gives us additional information on building property to begin study
– Client signs engagement letter
– We begin the project
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* Client Responsibility
29. Essential Steps In the Work Process
• Acquire and organize all construction information
• Assure that “all in” numbers tie to depreciation schedule totals*
• Assign work teams and establish timetables
– engineering and construction experts to hard cost analysis
– financial team to all indirect and soft cost analysis
• Conduct site visits and obtain photographic documentation
• Allocate the building costs to their appropriate depreciable tax lives
• Write and assemble report components;
– project methodology and background narratives
– engineering breakdown and cost estimates
– summary of the new real and personal property by the appropriate tax lives
– documentation (IRS Code, Treasury Regulations, court cases and revenue rulings) as it applies to use of the real estate
and your specific industry
• Report serves as stand alone substantiation to support conclusions
• Present completed report and IRS Form 3115 to your team
• Team usually made up of 6 to 8 experts
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* Client Responsibility
30. Materials Available For Your Review
• Examples of Completed Studies
• Information Guide To Initiate Work
• Depreciation Acceleration Estimates from
Existing Depreciation Schedules
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MCOM Corporation
