Your dealership property represents a major investment, one that can be used to actually improve your short-term cash flow. Every year, many dealership owners pay more in federal and state income taxes than they need to by failing to reclassify their real property. A cost segregation study can ferret out the hidden components of your structural building cost, then reclassify them to your (tax) advantage by accelerating the deductions.
How? A significantly accelerated standard 39-year depreciation period means a faster tax write-off and immediate tax reduction, translating into improved cash flow.
This tax strategy can apply whether your dealership building was purchased, constructed or remodeled. A cost segregation study identifies, separates and reclassifies qualified real and personal property into different categories as defined by the Internal Revenue Service, allowing each to be amortized over shorter periods of time. Personal property can be depreciated over five or seven years and land improvements over 15 years. There have been cases where up to 40 percent of a dealership's building cost can be reclassified into these shorter-lived categories, although the average is 16 to 35 percent.
Who conducts this type of study? It is an extensive review usually performed by a cost-segregation consultant using an engineering-based approach as outlined by the IRS. It is recommended that a valid study be conducted by qualified professionals with expertise and experience in this field.
Such a study will uncover and accurately document hidden personal property such as flooring, wall coverings and movable wall partitions, among others. Other improvements could include outdoor lighting, sidewalks, parking lots and signage, for instance.
Often, the cost of the study will represent only a small portion of the total amount saved by being able to accelerate deductions.
Under IRS rules, dealers can make an automatic change in accounting for depreciation retroactively and with no IRS approval required. More information on cost segregation studies is available at www.irs.gov.
Here's an example of how cost segregation works
Tom Dealer purchased a franchise along with the real estate in 2005. Tom paid $2.0 million for the land and building. Without a cost segregation study, Tom would be required to allocate the purchase price between land and building. Assuming that $1.5 million could be allocated to the building, Tom would receive a depreciation deduction of $39,600 for the next 39 years.
Assuming a cost segregation study would identify $300,000 of the original cost as five-year property and another $300,000 as 15-year property, Tom's annual depreciation deduction over the first five- year period would increase by approximately $400,000.