Cost segregation studies have increasingly become a valuable strategy for taxpayers looking to manage real estate-related tax liabilities more effectively. A well-executed study can often deliver a strong return on investment, highlighting just how impactful accelerated depreciation can be. By breaking down a property into individual components, this approach enables more strategic depreciation and improved alignment with financial goals.
However, many property owners still overlook significant tax savings hidden within their assets. What if the property you already own could improve cash flow without additional investment? The answer often lies in how depreciation is structured.
Understanding this strategy upfront helps you evaluate its true impact and decide whether it is the right move for your tax planning approach. This article explores how cost segregation works, the key benefits it offers and the potential drawbacks to consider before getting started.
Using Cost Segregation Studies for Strategic Tax Planning
A cost segregation study involves a detailed engineering and financial analysis to identify which parts of a property can be depreciated over shorter time periods. This has become increasingly important following the 2025 tax reform, which made 100% bonus depreciation permanent and introduced a new first-year expensing allowance for qualified production property (QPP). Both developments make accelerated planning strategies, such as cost segregation more impactful.
Instead of depreciating the entire building over a long period (27.5 or 39 years), specialists with engineering and tax expertise analyze construction details, drawings and cost records to identify parts of the property that qualify for shorter depreciation lives. Components like lighting, flooring, certain electrical systems, and land improvements are categorized into five, seven or 15-year property based on tax guidelines.
From a tax planning perspective, cost segregation is used to front-load depreciation benefits, reducing taxable income in the earlier years of property ownership. This strategy creates opportunities for reinvestment and optimizes overall tax positions as accelerated depreciation rules continue to evolve.
Tax Benefits of Cost Segregation
Cost segregation offers several financial advantages by uncovering hidden tax savings opportunities. Key benefits include streamlined tax savings, optimized asset classification and improved eligibility for favorable tax treatments.
Quicker Tax Savings
One of the most significant benefits of cost segregation is the ability to accelerate depreciation and reduce tax liability much earlier. Instead of waiting decades, property owners can realize substantial tax savings in the initial years of ownership.
Optimized Asset Classification
Cost segregation ensures that assets are accurately categorized into shorter depreciation schedules where applicable. This prevents depreciating assets over unnecessarily long periods, which delays potential tax benefits. By optimizing asset classification, property owners can fully leverage available deductions.
Documented Eligibility for QPP
For taxpayers with manufacturing, chemical production, agricultural production or refining facilities, a cost segregation study is now the required documentation mechanism for QPP claims under Section 168(n) and the IRS interim guidance in Notice 2026-16 (issued February 2026).
QPP allows a 100% first-year deduction on the portion of nonresidential real property used as an integral part of a qualified production activity, including the building shell and core components that would otherwise be depreciated over 39 years. This benefit is substantially larger than a standard cost segregation study standing alone.
A defensible study serves three functions for QPP
- Mapping the facility into production versus non-production zones
- Substantiating the QPP-eligible square footage
- Applying 100% bonus depreciation to any remaining short-lived personal property and land improvements through the standard cost segregation analysis<
Proposed regulations under Section 168(n) are forthcoming and are expected to be consistent with Notice 2026-16. The complexity of these rules makes professional guidance essential.
Missed Deductions
Another key benefit is the ability to identify and claim missed depreciation deductions from prior years. This allows property owners to recover tax savings that were previously overlooked, improving their current financial position without requiring amended returns in most cases, through an accounting method change on Form 3115.
Discovered Disposition Losses
Cost segregation can uncover remaining values of assets that were replaced or disposed of but never written off. These amounts can be claimed as deductions, providing an additional layer of tax savings. This ensures that property owners are not leaving money on the table and are fully capturing all eligible financial benefits.
Tax Planning Drawbacks To Consider
While cost segregation offers strong tax advantages, it also comes with limitations that property owners should evaluate before proceeding.
IRS Audits
A poorly executed cost segregation study can increase the likelihood of IRS scrutiny. Inaccurate classifications or unsupported claims may not hold up during an audit. Ensuring the study is conducted by qualified professionals with proper documentation helps reduce this risk and maintain compliance.
Recaptured Depreciation
When a property is sold, the accelerated depreciation taken earlier may be subject to recapture and taxed at higher ordinary income rates. This is an important consideration because it can reduce the overall tax benefit realized over time. Property owners should evaluate their exit strategy and holding period before relying heavily on accelerated depreciation.
QPP adds a distinct recapture consideration: if the property ceases to be used in a qualified production activity, the QPP deduction may be subject to recapture under the rules applicable to Section 168(n) property. Taxpayers planning to repurpose or sell facilities should model this risk carefully.
Breakeven Investment Costs
Cost segregation studies carry upfront costs that may not always justify the potential tax savings. This is especially relevant for smaller properties or those with limited reclassification opportunities. It is important to assess whether the expected return outweighs the cost of conducting the study.
Fewer Deductions in Later Years
Accelerating depreciation in the early years means fewer deductions will be available in later years. With permanent 100% bonus depreciation now in place, the federal benefit is largely front-loaded, so the trade-off is most visible for state tax purposes and in exit scenarios involving depreciation recapture. Property owners should consider how this shift aligns with their overall long-term financial strategy.
Loss Limitations
Tax benefits from cost segregation may be limited by IRS passive activity loss rules. Not all taxpayers can immediately use these losses to offset active income. Understanding eligibility and income classification is key to determining how much of the benefit can actually be realized in the near term.
Other factors, including changes in tax laws, compliance requirements and documentation standards, can also affect the effectiveness of a cost segregation strategy. Evaluating these alongside the benefits ensures a more balanced and informed decision.
Section 179D: A Time-sensitive Opportunity
URGENT: The Section 179D deduction for energy-efficient commercial buildings will be eliminated for projects where construction begins after June 30, 2026. That deadline is approximately four weeks away. Contact Cherry Bekaert's Tax Credits and Incentives Advisory (TCIA) team immediately if you have energy-efficient construction projects in progress.
Section 179D provides a deduction of up to $5.81 per square foot for commercial buildings that incorporate qualifying energy-saving systems, including high-efficiency HVAC, lighting and water heating technologies. The deduction is available to commercial building owners and — in the case of government-owned buildings — the designers of those properties.
P.L. 119-21, Republicans' tax reform, increased the per-square-foot threshold while simultaneously establishing a firm construction-begins sunset of June 30, 2026. Projects that break ground on or before that date preserve their eligibility. Given the urgency, any taxpayer with energy-efficient construction in the pipeline should evaluate eligibility now.
Stacking Cost Segregation with Other Incentives
Cost segregation is most powerful when integrated into a broader tax strategy rather than pursued in isolation. Qualifying taxpayers can combine cost segregation with QPP expensing and Section 179D to significantly amplify the total first-year benefit on a single project.
For example, a manufacturer constructing a $15 million facility might use QPP to immediately expense the production-area building components (normally 39-year property), use a cost segregation study to accelerate the remaining personal property and land improvements, and claim a Section 179D deduction on qualifying energy-efficient systems, all in the same tax year. Cherry Bekaert's TCIA team manages this type of multi-incentive engagement from start to finish.
Next Steps: Take Advantage of Cost Segregation Study Benefits
If you have decided to move forward, start by reviewing your property portfolio to identify assets that may qualify, particularly recently acquired, constructed or renovated properties. From there, estimate the potential tax impact and determine how accelerated depreciation fits into your broader financial strategy.
It is important to treat cost segregation as part of an ongoing tax planning approach rather than a one-time exercise. As tax regulations evolve and depreciation rules change, regularly reassessing your properties can help you capture new opportunities. Complementary strategies, such as partial asset dispositions and strategically timed improvements, can also extend the benefit over time.
Your Guide Forward
Cherry Bekaert's Tax Credits and Incentives Advisory (TCIA) team can simplify the cost segregation process, from conducting a detailed and compliant study to identifying the most valuable opportunities based on your specific property and financial goals. In the current environment, particularly with QPP rules still being developed under Notice 2026-16 and proposed regulations forthcoming, engaging an experienced advisor is essential to fully capture available tax savings.
With the right support, taxpayers can not only maximize immediate benefits but also build a forward-looking strategy by reassessing properties over time, adapting to regulatory changes and continuing to unlock value as their portfolio evolves.