Construction Accounting Article -
Cost Segregation Study Gives One Contractor a Competitive Edge

Target Audience: Construction Industry Professionals, Contractors, Construction Business Owners, Construction Accountant Interest, Construction Management, Commercial Contractors, Contractors Looking to Gain a Competitive Edge or Advantage

A commercial contractor, whose company typically builds office buildings, wanted to expand his market base by bidding on a proposed medical clinic. He knew his team could do the job, but one of his competitors had more experience in the construction of health care facilities.

He mentioned his concern to his financial advisor, who came up with an idea that would give him a competitive edge: As part of his bid proposal, the contractor could suggest organizing a cost segregation study.

The advisor explained that a cost segregation study’s purpose is to identify property components that have shorter depreciation lives and, thus, qualify for faster depreciation rates. By breaking down the components in this manner, the property owner could maximize its current depreciation deductions and, thereby, boost cash flow. (However, note that, while a cost segregation study can accelerate deductions for depreciation, it does not increase the total amount of tax deductions over an asset’s life.)

For example, the proposed clinic’s plumbing, wiring, and heating and air conditioning vents and lines may be eligible for shorter lives if they’re specifically required for equipment that has a shorter life, such as wiring for a security system. The owners may also be able to depreciate the allocated portion of certain capitalized indirect or overhead costs — such as architectural fees.

Cost segregation studies are generally led by a CPA and include other parties such as architects and engineers. For contractors, participation can help differentiate a construction company from its competitors and add considerable value to an owner’s project. The trick is to initiate the cost segregation study as early in the construction process as possible — ideally, during the design phase, when depreciable assets are easier to identify.

In this case, the cost segregation study offer, coupled with a savvy bid, won the contractor the project. And besides getting an excellent new facility, the physician owners were able to reclassify 25% of the project’s costs under accelerated depreciation schedules, boosting their projected cash flow by generating some tax savings through larger deductions as they opened the clinic.

(Bear in mind, however, that depreciation is a noncash expense, so cash flow isn’t directly affected by depreciation expense.)

As for the contractor, he’s now winning bids on other health care facilities — and earning a little extra on the side as a cost segregation consultant.

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