Yonah Weiss is a powerhouse for property owners. He’s the owner of a company called Madison Specs, a national cost segregation leader, and he helps property owners save money through advanced depreciation strategies.
For a lot of people, when you start talking about taxes, they just freeze up. If they’re a business owner, they might pack up all of their tax information and send it off to their accountant to take care of it. But that kind of approach misses the point. While cost segregation is a kind of accounting, it’s also about engineering a situation where the government rewards you for owning real estate.
Cost segregation is a depreciation strategy that takes the cost of a building and splits it up into different categories to depreciate it at different rates. It dramatically speeds up the depreciation schedule, and it can even help you lower your taxes on your W-2 income. See how Yonah saves his clients money using engineering and not accounting.
WHY IS DEPRECIATION SO AMAZING?
No reliable financial advisor is going to advise you to invest in a depreciating asset that’s worth less the second you pay for it. When Yonah’s clients hear about his enthusiasm for depreciation, they can’t understand why he’s so enthusiastic about it. They’ve lumped all of the benefits of real estate together, the passive income, the wealth building, the equity, and the tax benefits, and they didn’t realize that you can tease out depreciation and lower your taxes for decades.
For real estate and tax purposes, depreciation is just a borrowed term. To borrow an IRS term that puts it into perspective, the entire value of your property is tax deductible. When you buy a building, from that day forward, you now get to take that as a tax write-off over a certain period of time.
It’s a borrowed term because the depreciation isn’t tied to the property itself; it just starts the schedule of the amount that you can write off. The important thing to remember is that of course, the properties themselves really aren’t worth less. The government just wants to reward real estate owners with tax breaks.
Regular accountants are going to plug your new properties in a 27 ½ year depreciation schedule for residential properties, and a 39 year depreciation schedule for commercial properties and then hit the START button. They’ll consider their job done, and they’ll miss the advanced strategies that a cost segregation engineer can create.
HIGH-LEVEL COST SEGREGATION
What the IRS actually says is that everything has a different “useful life”. When you purchase a home, you know that the roof lasts on average 30-40 years while the hot water heater will only last 8-12 years. The IRS applies this same logic to commercial and residential properties. About 95% of a property falls into three categories, and separating a property into one of these three categories helps you spread out depreciation.
The main structure and structural components- This is what most accountants think about when they put together their set-it-and-forget-it depreciation schedule. The main structure depreciates on the 27 ½ year schedule, and this includes windows, doors and roofs.
Land improvements- This encompasses just about everything on the outside of a property, and it includes asphalt, curbing, signage, fencing, sidewalks and pavements. Land improvements are on a 15 year depreciation schedule.
Personal property- This includes anything that’s not structural on a building. For example: furniture, appliances, flooring, electrical lighting, cabinets and countertops. Or basically anything that’s added-on to the building. Personal property is on a 5 year depreciation schedule.
How does this three bucket depreciation strategy play out in real life? Yonah demonstrated for me how this applies to my newest 80-unit purchase so you can see real numbers and a real strategy. This is a really rough analogy because when Yonah and his team of engineers break down a building’s depreciation schedule, they get very, very specific so that you can get the best tax break from the beginning.
A REAL LIFE DEPRECIATION EXAMPLE
The original purchase price of my 80-unit building is $3.745 million. The soft costs are $350,000, but Yonah says that these are considered separately from the purchase price. So first Yonah takes my purchase price of $3.745 million and divides that by 27 ½. Because even though it’s a multifamily property and I used a commercial bank loan to purchase it, it’s still considered residential for tax purposes.
Current depreciation schedule:
Net income for this property: $380,000
Regular depreciation: $136,000
Total tax amount: $225,000
Cost segregation schedule:
Net income for this property: $380,000
Structure depreciation: $136,000
Personal property depreciation: $55,000
Land depreciation: $49,000
Total tax amount: $140,000
Now, these numbers are rough estimates, but they still don’t capture the full picture of how beautiful depreciation can be. The next step has to do with how you can use losses and depreciation in real estate to offset taxes from your W-2 job.
SAVE ON W-2 TAXES TOO
Normally, depreciation is considered a passive deduction, and it’s designed to offset passive income like rental property income. If you have multiple properties, you can use depreciation from one to offset income from other properties. Unless you’re a card-carrying real estate professional. Then you can use what Yonah calls the bonus tax situation that lets you offset your income with your real estate depreciation.
For Yonah, it’s really rewarding to see clients have their lives changed by reducing or removing their tax burden. One of his clients was in I.T. for years at a large tech company. She’d invested passively in real estate syndications, and she was getting tax losses. She finally did the math and realized that she was putting all of her I.T. salary into real estate investing, until Yonah showed her how to offset her tax burden by leaning into the depreciation schedule.
Paying less taxes means keeping more of what you make, and who doesn’t love that? These kinds of high-level tax strategies are life-changing for anyone trying to retire early or just throttle back on their day job. While you’re building your retirement fund, if you’ve considered adding additional streams of income, then passive income can get you to the finish line faster. Check out Yonah’s company if you’re ready to pay less taxes this year with cost segregation.
Listen to the full episode here.
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