It’s wise to be conservative when it comes to cost segregation.  One over-zealous apartment complex owner claimed on its tax returns a collection of over 1,000 components of real property asserting that they could be depreciable over shorter class periods of 15 years and 5 years.  The problem is that the taxpayer included and claimed that separate structural components of the apartment complex were eligible for the shorter depreciation times.  The IRS disagreed, and the U.S. Tax Court released a memorandum opinion holding that an apartment complex is one asset that must be depreciated over 27.5 years.  Amerisouth XXXII, Ltd. V. Commissioner, T.C. Memo 2012-67 (March 12, 2012).

The taxpayer claimed on its returns that the water-distribution and sanitary sewer systems, the gas lines, and the site electric were eligible for 15-year depreciation; it claimed property in the other categories was eligible for 5-year depreciation. The Commissioner disagreed, reasoning that some of the parts the taxpayer wanted to depreciate quickly can be depreciated only as pieces of a whole building that it must depreciate more slowly over 27.5 years and that some of the parts that the taxpayer wanted to depreciate weren’t depreciable at all.

Depreciation allows for taxpayers take reasonable deductions against income for the exhaustion and wear and tear of property used in a trade or business or held for the production of income.

However, structural elements will never hold a short-lived life, and in this case, the court ruled in favor of the IRS because there was no correlation to “the business” of the residential property.  This case is a great example of why it is so important to work with professionals who understand the subtleties and underlying theory of cost segregation and reclassification of assets, working within the specified IRS guidelines to conservatively –yet still maximize – savings for clients.