Cost Segregation Expert, Yonah Weiss
Guest: Yonah Weiss
Topics: Cost segregation, taxes
Chris Ressa 0:02
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Everyone welcome to retail retold. Today we have Yona Weiss Yona brings a unique perspective to the podcast. We’re gonna be talking about a topic we don’t talk about often and cost segregation, and Yoanna. Works for Madison specs. And he’s been there for about three years. Welcome to the show. Jana.
Yonah Weiss 1:24
Thank you so much, Chris. It’s a pleasure to be here. And you know, during this time, it’s it’s even a bigger pleasure.
Thank you for coming on. Why don’t you tell us a little bit about what is cost segregation, and how to real estate owners and end users of real estate use cost segregation.
In a nutshell, it’s a weird name that the IRS gave two probably one of the best tax deductions that exists in the tax code for real estate owners. It allows you to accelerate depreciation on the property. So instead of taking a little bit amount every single year have a depreciation tax write off, which it may we can touch on that what that is exactly, yeah, why don’t you do that. So depreciation even though it sounds like a negative thing, right, it’s like something going down in value, it’s actually probably one of the best things out there, because it’s just kind of a fictitious write off the IRS gives you based on the fact that your property goes down in value as time goes on. So it’s not really that your property is going down in value, it may actually be appreciating primary going up in value significantly. IRS allows you based on your purchase price to live in the write off as a 10 income tax write off the entire amount of your purchase. Okay, and so in typical depreciation, how much can you take? How much can you deduct a year. So for commercial properties, this lifespan of your property is split over a 39 year period, which means you can take approximately, you know, 3% to a little more than less than 3% of your property acquisition value every single year as a tax write off. That’s what depreciation is. So if you have a million dollar building, okay, divide that take off a little bit for land, which does not depreciate there’s always a land value that does not depreciate, but typically 10 to 20%. Take the rest, right, you’re talking about about 20 $20,000 a year as a tax write off on a million dollars for just one year. So when you say write off,
let’s make it clear for the audience. Sure, we’re gonna say right off the dock tax
deduction, which means you earn $50,000 of income, net operating income and your property, you immediately deduct 20,000 of that as a depreciation deduction, and you’re only taxed on the remaining 30 30,000. That’s what depreciation is.
Okay. So that’s depreciation, and in residential, it’s like 27 and a half credits. That’s right. So for those in the audience in multifamily, twice, seven and a half years versus 39 commercial.
now there’s this other thing called Cost Segregation, fancy word, what is that?
It means breaking down your building into different actual tax lives. So not everything, according to the tax code depreciates on a 39 year schedule, which means you can have an engineer, the so called Cost Segregation engineer come into your property and identify all of those things according to the tax code that actually depreciate faster. And there are things that depreciate on a five year schedule, and that’s all personal property, your tangible property, anything that’s not attached to the building part of this structure. Okay, so that’s going to be stuff like furniture, fixtures, okay wall coverings, all kinds of stuff in in retail or commercial properties that may be part of the kitchens if there are such things. All of those values depreciate on a five year which means you can write all that stuff First off over a five year period, Instead of lumping it together on a 39 year schedule. So just to give an example, yeah, let’s give an example. That’s what that would mean, right? In your million dollar purchase, okay, let’s say about 20% of that a $200,000 of that can now be identified and allocated into that five year, you know, equipment, then furniture and fixtures and et cetera, that $200,000 can now be written off over the first five years as a tax extra tax write off on top of the, you know, 20,000 that you had to start with. So you’re talking about an extra, you know, $40,000 of tax write off every single year, per million dollars. So
this seems, you know, too good to be true at times. So why wouldn’t someone use cost sec?
There are a couple reasons, okay. And the main reason is that, you know, you don’t need those deductions. Okay, if you have total, you know, operating loss on your property, then you don’t need extra tax deductions, right. So just creating extra deductions for no reason, it will benefit you in the long run, because you’re allowed to carry those losses forward, meaning you can use them next year, if you don’t use them this year. However, it’s kind of just like turning water like I can, I don’t need to do it. I don’t need to pay the fee to get someone to come out and do it if I’m not even going to benefit from it this year.
but let’s test the other question. What happens if I’ve used cost segue?
And I sell the property? Yes. What happens? So that’s the
second biggest concern people have about cost segregation is what’s called depreciation recapture tax, which means when you sell a property, any type of investment or business property, not only when you sell it, you have to pay a capital gains tax on if you actually made profit on this sell at sale of that property, you have to pay a depreciation recapture tax, which means you pay a 25% tax on the amount of depreciation that you took over the course of ownership of that property. So you get the time value of money when you’re doing cost segregation to do you take those deductions when you need them now, right, keep your cash flow by creating more tax deductions. However, when you go to sell the property, you’re going to have to now pay back a certain amount of that, with that depreciation recapture tax. There is a big way around that, that a lot of people know about 1031 exchanges, right, that differs your capital gains tax, but people a lot of people don’t know, that also defers the depreciation recapture tax. So if you’re doing a cost segregation, 1031 Exchange, if you’re planning on selling the property in the next couple of years, is a definitely a
great option. The only downside is when
the value or the sale price goes down, then you have an issue, right? When when you if you buy it, you take you take this returned to your new one a 1031. And you’re selling it for less than you originally purchased it, and you’re paying taxes on a higher amount, correct?
That is correct. Well, it will still play depreciation recapture tax will still be deferred. So the capital gains is going to be an issue there. But on the depreciates Yeah, sure, you’re still not going to pay it.
You’re still not going to pay that. Okay, that gets deferred. But if I didn’t 1030 You want it? Then then then I’d be in the same pickle, I’d have to pay it. You would,
potentially there are other ways around it as well. There are other tax strategies, I don’t want to get into all of them. But there’s something called partial asset disposition, which allows you to allocate less amount to that personal property upon the sale and get around depreciation recapture on that, but generally speaking, you’re gonna have to pay depreciation recapture tax, at least
it’s a cash flow, it’s cash flow, it’s time value of money. It’s cash flow. It’s it’s, it’s, it’s really interesting for sure, exactly.
And just to give you another perspective on that, someone who’s buying more than one property, okay, real estate investors or businesses that are constantly buying properties, you are able to use the depreciation from one property to offset the loss or to offset the tax from the other properties. So even if you were to sell property A, but you have a you have enough deductions for property B that you bought this year, you could actually use those extra losses to offset the depreciation recapture tax. On the sale of the
totally unrelated properties, they didn’t have to be purchased at the same time in the same transaction as
long as it’s owned by the same person in the same business that they can use those losses they flow through.
Yes. Interesting. Interesting. Well,
I think that’s a good overview of depreciation and cost segue and that’s not normally something Net, we, we, the knowledge that we drop on this show. So that’s really good perspective is so for me, you have a unique perspective from like, you know, real estate, you know, and the tax world. So, you know, given everything going on what’s what’s your take on what, you know, the effect on real estate and this and your world and what’s going on?
Everything is really on a slowdown, right? The economy is on a, you know, has slowed down people, unfortunately, a tremendous amount of people are out of work. Okay, their businesses that have not reopened, our businesses is working on a skeleton kind of level, people are just not as active as they work. What’s the long term? I mean, that’s the short term effect, right? Everyone’s being affected tremendously by this and the rapid repercussions are going to continue for probably another few months, at least. What’s the long term? This, I think a lot of people see a big light at the end of the tunnel. And you know, as you probably aware, tons of people are sitting on stock piles of cash just waiting, waiting for, you know, this recession or whatever something had to happen, right. It’s just been like a bubble of the past 10 years or so. Just been grilling. So I think there is going to be a lot of activity in the market, in the real estate world is going to pick up obviously, there’s going to be changes as as there always is. So those who are adapting are going to,
you know, come out on top. But
I think there’s going to be a lot of you know, towards the end of the year, hopefully q3 is going to
start picking up and things changing around for the better. All right. Well, I
appreciate that. And so most of and one of the things I wanted to talk about most of the people who use cost segue are the owners of properties. But there are some scenarios where tenants and with tenant improvement allowances and what they’re doing, can use cost segue. And we wanted to talk about that today. Because, you know, we you know, we talk about retailers on this show. And I think it’d be helpful to the entrepreneurs and retailers out there that listen to this show to you know, learn about that, even though it is very unique for that to happen. And you know, sometimes you do that on the show, we bring the unique. So why don’t why don’t you tell us you got a couple of you know, scenarios that you know, and we call this the story, but you got a couple of scenarios of how some retailers, restaurant tours or whatever are used in costs that can you talk to us about that a little bit.
Sure, absolutely. We
one thing you know that you have to know about cost segregation and tax deductions, whoever’s paying the money for those improvements is going to benefit from those tax deductions. So we talked about 10 improvement allowances depends who’s actually paying for it, who’s paying the bill. So if the tenant is actually footing the bill, then they are able to qualify for those tax deductions. So just a quick example, maybe a couple. We have, you know, a small family restaurant business, and the tri state area in New York, New Jersey, that’s a few small restaurants, but they’ve bought them and been doing major renovations. And the renovations, particularly which I’ll touch on in a moment in 10 improvements have gotten a huge boost with this recent Cares Act. But Janet, but even before I get to that, when you are spending money
all that can now be segregated, that can be separated out to determine what value what life span that property has. So if you spend right $100,000 on revamping the kitchen, a lot of those appliances, a lot of that furnishings are going to be a five year tax write off, which means you can do constant irrigation. And you can now the tenant who’s spending that money to now spend $100,000 And literally get that as a five year tax write off. All that changed. And this we’re actually working around the clock right now specifically on this company’s deals because there was a change a couple of weeks ago on the Cares Act, which said that anything that’s qualified improvement property, anything that is interior improvements on a commercial property that was done after the acquisition, can now not it qualifies it’s not no longer five year property, they change it, it’s 15 year property, which means it’s appreciates on a 15 year schedule, which is kind of counterintuitive. It’s less benefit,
right? However, it
is eligible for what’s called 100% bonus depreciation, which means you can now take that entire amount spent as a tax write off in the first year. So if you haven’t, you know, oh, functioning business, operating business, and you’re spending a lot of money This tenant is now going to be taking his $100,000 write off as a write off in the first year, meaning they’re going to deduct that from their create document from their income and create literally operating losses.
So if you were one of the
the companies or businesses, small business owners, the restaurant tour, the service uses, like nail salons hair salons, and you did some work to your space last year, but now you’re shut down. This could be very advantageous cash flow mechanism to get you through this time. Would you say that’s
true? Absolutely. And not only that, if you even did it in 2018, or 2019, if you did any of these improvements, you can now get those as a first year. This year.
I spent New 50 grand on furniture. Exactly. Yeah. And I’m gonna get I’m gonna win percent bonus depreciation.
Year one. It’s huge. Yeah, it’s
it’s really huge. And you know, not to get into the nitty gritty obviously discussed with these your your accountants, but this can even create losses, which can be carried back, which means your net operating losses, which can be carried back, if you had an income previous tax years, you can not only wipe out your cash, your tax liability this year and create that cash flow that you’re talking about. But potentially, if you have enough of a loss, you can even carry it back to offset income income tax that you had in previous years.
Interesting. Wow, that could be very helpful to some of these guys. Especially during this time when they’re closed. Right. Yeah.
I mean, everyone’s looking for ways to free up cash. Yeah. Yeah, on your tax liability is a really smart way to do it.
Interesting. Interesting, for sure. The N in the, in the past,
you know, let’s tenant spend of their own dollars, some portion of money in this, these types of FF and E types of improvements. Why do they why do you why do they not take advantage of this as much as landlords? You know,
I think the reason is people just don’t know about it. And that’s the reason why a lot of landlords don’t even use this, believe it or not, I mean, we wouldn’t be in business, if bored, you know, educating people and telling people about what they had no idea about. So it’s, the fact of the matter is accountants do not are not proactive enough to tell their clients about this, since it’s tax related. But since you need an engineering company to come in and do the work, which is tax related, accountants are not proactive enough to take care of it. So those small business owners, their accountants are not real estate, accountants, per se, and they just may not know about it. I mean, I’ve seen it dozens of times.
Well, Jana, listen, this has been fascinating. I think you’re, you’re giving some insight that we don’t get on this show. And then a lot of people don’t get often so really appreciate it. Anything else we should talk about on cost segue or? And how maybe tenants could use it? The Cares Act really interesting? Yeah,
absolutely. Check into it. Definitely check with your accountants. You know, reach out if you have any other questions about how this can actually apply to you. Because like I said, if you’re doing major improvements you’re doing 10 improvements is definitely worthwhile to check out. This was something that was not available before the Cares Act.
It was it’s a brand. So how can people find you Jana?
Best way to find me is LinkedIn, you know that. That’s where I’m active. That’s where I spent a lot of time. There’s only one you want to Weiss in the world as far as I know. And that’s me. So it makes it pretty easy to find. You can reach out to me via our website, Madison specs, or my email why Weiss at Madison specs.com. And, yeah, please feel free.
So last part of our show, retail wisdom. You ready? Let’s do it. All right.
First question, best piece of commercial real estate advice for everyone out there. Best piece of commercial real
estate advice is educate yourself. So if you’re listening to this podcast, you’re already doing that, okay, to a certain extent, like continue to educate yourself. I cannot stress that enough. There are so many nuances. You cannot possibly know everything. So continually educate yourself and learn new strategies, new ways
to you know, ride the tide. Awesome. I love that. I’m a big proponent of self education. So I hear you. Second question. Yeah, extinct retailer, you wish would come back from the dead. Um extinct retailer.
You know, I put some thought into that trying to
try to recall there was is, you know toy stores,
I guess that’s the only one that comes to mind as a Kid Toys R Us was great Kevie toys, right? I grew up with them. There was one day down the street from my house usually it was like going to the zoo for me to go to the toy store. So something like
toys got it.
Last question. So I live
I live in the suburban rural environment. I got like some rock walls I’ve been looking at these rock walls. And you know, Home Depot Lowe’s are still open right now. And I’m like, Man, I you know, hire someone but like maybe doing some yard work on the on the weekend. So I’m looking at these power washers. Yona okay. And so I’m looking at Home Depot, and I’m on their website and I’m looking at it the wall 4400 psi, gas pressure washer powered by Honda.
What does that retail for?
I’m gonna say $179 You’re gonna
stick to cost said you’re on your way off. $999 Thank you for playing.
Well, I didn’t go over right.
Well, listen, I want to, I want to thank you for coming on. I think you’re going to help a lot of people out there and really appreciate it, man. Thanks, Chris. Thank you. Bye bye.
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