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Unlocking the Secrets of Cost Segregation in Real Estate Investments
26 Plays4 months ago
In this episode Matt sits down with Chris Dantin, Senior Consultant and VP of Cost Segregation Services, to unravel the intricacies of cost segregation in real estate investments. Discover what cost segregation is, how it can significantly benefit real estate investors, the process involved, and why your CPA might not bring it up. This episode provides valuable insights into maximizing tax benefits and accelerating your depreciation schedule.
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Transcript
Introduction to Podcast and Guest
00:00:10
Speaker
All right, and hello, everybody. This is Matt Rine with All Roads Lead to Real Estate. And on today's podcast, I wanted to bring a little light to a subject that even I was very humbled recently when I realized how little I did not know about this. And you think you've been around a little bit and you've seen a lot, and then you hear someone like my guest today teach you a few things. And the first thing now that I've been doing this podcast long enough, I think of,
00:00:38
Speaker
is, oh my God, I need to have you on that podcast so we can enlighten some others. Because if I don't know about it and in enough detail, there is no way the majority of folks that listen to this know anything about it. And so but today's guest is Chris Danton. Am I saying that, Chris? Yep, absolutely. Perfect.
00:00:55
Speaker
And Chris, so first off, you'll hear his voice is fabulous. He's wonderful to talk to because he used to be in radio and TV a little bit. So he has that tenor. And so that'll be fun to listen to today.
Chris's Media Background and Enthusiasm
00:01:06
Speaker
But Chris is a senior consultant and VP of cost segregation services.
00:01:12
Speaker
And so for those of you that are even familiar with cost segregation in the real estate investment community, um you might think you know something about it, and you probably do, but if you're like me, what you thought you knew isn't 100% correct. It's maybe halfway there. And so that's why I'm excited, Chris, to have you is because A, I'm going to learn something, which is always fascinating and fun for me. And I think, once again, we're going to help some people understand if it's appropriate for them, if it makes sense. So once again, thank you, Chris, for joining me.
00:01:41
Speaker
Appreciate it. Great to be here, Matt. Well, thanks for once again joining. and So where are you today? Um, I know you're not local. We're doing this virtually most of the, most of the time my guests come in here to the studio, but where are you?
Chris's Business Location and Misconceptions
00:01:52
Speaker
Yeah, we're located out of Baton Rouge, Louisiana. So, you know, we've been around, I think we have 21 years we've been in the business. Okay. so it's it's been a ah you know it's it's it's It's funny because we we literally inundated the south. it It'd be very hard for someone in the southeast to not know about cost segregation. But obviously, as you start to drift out, our tentacles haven't gotten far enough yet to ah the northeast. What I figured out is a lot of people in the northeast just are like, we never heard of this. I'm like, wow.
00:02:21
Speaker
yeah So it's exciting for me because I always think you know it's it's tapped out. Now I have to go and you know compete with other cost segregation firms, yeah which is not always fun. Of course. Well, competition is never fun, but sometimes you don't you know it's just being the first one out there to really you know understand. So there are some folks that do this on the commercial side, some some large investors that I've worked with, and I know locally, they seem to be exceptionally familiar. They've executed these before.
00:02:49
Speaker
But for your average investor, I'm still on the smaller to middle size is what I would be still considered. And so we always just think um this isn't for us, right? This is for the big the big dogs out there, the guys that ah that have either hundreds of units or that have multi-million dollar multifamily projects. And what you've helped to educate me just in the last couple of weeks,
00:03:10
Speaker
ah around even me, like you're helping me. It's another reason I wanted to have you on. At this exact moment, I just wrote a check the other day, um I am a client of yours. And so, you know, through this, you know, I probably peppered you with a hundred questions. Was I one of your harder clients or was I about everything? Not at all. Like I said, you what I always enjoy is that you are inquisitive. yeah To me, the person that wants to learn more is gonna be my best sales person because once they can understand it and they can you know grasp the benefit of it, you know this's like they tell other people. but so So absolutely, its it was ah it was a blessing that you were spending so much time wanting to find out
00:03:51
Speaker
you know, what is this all about? Why don't I know about this? If I had to guess when we hung up that call, I don't know if blessing would be the term you'd use for that call, but I'll take it anyway. i Thank you for that. Um, so just a little bit about
Financial Background and Diverse Skills Benefits
00:04:03
Speaker
your background. So once again, you've been in the financial services business for about what 25, 26 years now. yep And so you were a financial advisor at one point. Was that right out of school? Is that what you were doing? Yeah, you know, in the, I'd say financial services business kind of alternative opportunities. And then,
00:04:21
Speaker
yeah Then I started buying rental properties back in 2011, so I've always been around real estate tax numbers. and That's just what I've always been around. I was very fortunate. In 2011, my close friend of mine,
00:04:34
Speaker
ah got caught in the bank, you know, whenever the banking issues were happening to happen and he had to file bankruptcy and he's like, Hey man, I know how to do this, but I don't have the money. I don't have the credit. And so I was very fortunate that he trusted me enough, you know, to, to partner up with me. And, uh, you know, I was kind of the money guy, I was kind of the banking guy and, uh, and he was the, the, the doer. Right. So it was a great, good partnership. It's very unusual to have two extremely different personalities in a partnership. So it was fun.
00:05:05
Speaker
Well, that helps. i I think sometimes when you're a little bit different, you have different specialties. Like in the real estate world, I see a lot of husband and wife couples that are in this. And I think the ones that seem to not hate each other after a few years, it's because they're different enough where it makes sense. Someone specializes in one aspect of the business versus the other, as opposed to you know being carbon copies of each other.
00:05:26
Speaker
um That's always challenging. I've never I always used to joke and kind of that's half joke But half real I'd be it'd be hard for me to marry another realtor I don't think we could stomach each other at at a meal. Um, it's just the way I feel about it But it's a lot of it's a lot of ADD going on. It's a lot Yes, our desks in the whole house would be like a bomb. Yes too much. It's too much craziness and exactly, you know, just the brain is just It's hard to get it to slow down. You gotta have that laid back person in your life. you know That's right right. And so Chris, you've helped over 800 clients already do what we're about to discuss
Basics of Cost Segregation and Depreciation
00:06:00
Speaker
today. So in go through this cost segregation process. And so you know you're the company that you're with, Cost Segregation Services, has helped over 45,000 clients in the United States. And you've been in business over 20 years just in that business, right? 100% agreed. And so, yeah.
00:06:19
Speaker
Yeah, and what you were saying is, you know, cost segregation services were actually the largest cost segregation firm in the United States. We're in all 50 states. But what really people don't understand is where it starts off is what is a depreciation schedule.
00:06:34
Speaker
Well, I think I'm gonna stop you just for a second because I know if I had to, I always try to think if I had to explain this to someone like my wife who doesn't honestly care about real estate, she like how would I explain this to her at dinner in such a way that she would get it? And I wanna first just jump back and understand, and that might be why you brought up depreciation, but understanding first off what is called segregation in its most simplistic term.
00:06:57
Speaker
And then I know we're gonna have to go into depreciation. But i I think because you do it every day, it might be even more basic if I attempt ah to do it and then you can correct me. So. I think the key is though, that if you don't even know what a depreciation is, ah like a depreciation expense is the foundation. Because what you're really saying is, okay, you own a rental property.
00:07:19
Speaker
you have what's called a depreciation expense. And that is what's called a depreciation schedule. And all that is, is the IRS recognizes that you have purchased a property and they're going to allow you to depreciate that property. Let's just say it's a residential rental over 27.5 years. So I'm just going to use some easy math.
00:07:42
Speaker
Let's say it's a ah million, no, that's a little number, $100,000 rental property. Well, hold on. Hold on. Before we get into the numbers, I'm gonna try to stop us just for a second. Without numbers, who all we're talking about is when you buy a property and it's an asset, meaning you're gonna rent it, right? you're You're doing this for income.
00:08:00
Speaker
You have the ability, the government allows us through IRS tax code to write off some of that property in every tax year to get a benefit. So you will get a benefit through depreciation. It's ah it's ah it's a way you write off some of the money. Yeah, it's called a straight line.
00:08:17
Speaker
so they give you a little like give you a little bit. A little bit every year, so 27 and a half years, you get to take exactly yeah one 27th and a half of that value of that property, you get to write off your taxes, reduce the amount of taxes you owe the government. It's one of the many reasons right that we have as investors that we love real estate.
00:08:40
Speaker
Yes. And so, yeah but most people don't even know they're even receiving it. They just kind of hand it to their CPA and it just happens. It's like a miracle. Right. But you know, the overall reality is when you're talking about a cost segregation study and well in what we're doing right with a whole reason I'm bringing you on and why I paid you all that money.
00:08:58
Speaker
is because we i' i'm in intent I don't want 27 and a half years to wait where I get a little piece of the pie every year. I want to accelerate the depreciation schedule so I get a lot more tax benefit back right now. you know The next time I file my taxes, I get a ton of money back as opposed to a little bit of money and then I can use that money to buy another rental property. I can really put it back to work and And some of the questions I'll have for you is why is that possible? How is it possible? And i want then I want some real numbers because that's it took me a real example to even understand it from the conception. But hopefully I wanted to jump in just because I'm hopefully using the most basic terminology we can possibly use here. And and now I'll give us some an example like you were describing. I think maybe the example are really cemented.
00:09:47
Speaker
Well, I think what what you just said is rather than taking the depreciation over 1.7 every single year, we're just saying, hey, if the IRS is going to let us take 15 to 30
Why CPAs Might Not Suggest Cost Segregation
00:10:01
Speaker
% of that acceleration now, and all we have to do is pay a one-time fee for some engineers to allocate and implement those building components correctly, if you're gonna let me on a million dollars, if you're gonna let me take 200 of that now to offset my income, I wanna do that. It's just the overall reality that either people are not being presented by their CPA, or I just think that the overall reality is is is most tax preparers, if they're not with a big firm and they're not dealing in real estate, it's just not something they're aware of.
00:10:38
Speaker
Well, I've had three separate firms in the last 10 years do my taxes. I've had exactly zero instances where they've brought this up to me. And so it was, I wasn't aware it was something that was applicable to me because I knew it costs money. I knew we needed to have an engineer review it and they had to instead, the straight line is so fabulous. The reason the IRS can do it because you can do it with your eyes closed.
00:11:01
Speaker
It's really straightforward. Automatic, it's easy, it's dumb, simple, like it's it's what you need to when you have to do it a million times over. ah right Because a call segregation analysis by its very virtue requires more analysis. You have to go in and figure out the components inside of the home and then you can depreciate certain components faster than others, like a roof exactly or a furnace or there's certain components or windows that are gonna depreciate at a different time schedule.
00:11:31
Speaker
right so either Yeah, it's either five year. Think about it as a tax life. And we're talking about the word depreciate. Some building opponents have a five year tax life. Some have a seven. Some have a 15. Some have a 27.5. So the overall reality, that's the per purpose of a cost segregation study is to make sure that all of those assets, if they can be accelerated, we want to take them. Right.
00:11:59
Speaker
And why would the government allow
Government's Role in Real Estate Depreciation
00:12:00
Speaker
depreciation in the first place? Have you ever thought about that or helped to explain this to someone, because people have asked me that exact question. Why are they allowing us to take this deduction? Well, first and foremost.
00:12:11
Speaker
It is a depreciating asset. That's what you got to remember. it that Land does not depreciate, but a house, a building, does depreciate. right So they have to give you some type of incentive to be able to buy. Another thing people don't think about is you have to be given an incentive to buy a depreciating asset.
00:12:31
Speaker
because it's going to wear out and you're going to have to put more money into it. So they're like, why would ah we have to at least give them a reason to want to buy a depreciating asset. So we're going to allow them to depreciate that asset, you know, over that 27.5 years. But there's no doubt it's a huge benefit for people that get it. Right.
00:12:52
Speaker
Well, I always describe it to people as well. It kind of hides some of the earned income that you get off of these properties. So it's a way to shield yourself from some of the taxes. And if you operate your LLC correctly, and once again, I have to always give the disclaimer, I'm not a CPA and I'm not an attorney. So you need to always take everything we're talking talking about today agree and bring it to your own tax professional. You can obviously contact your firm. I'll have all your information out there. ah So I always wanna give that disclosure. But in my experience, right, having talked to these professionals myself,
00:13:22
Speaker
um it's just one of the one of the ways to reduce the liability. And if I run my LLC correctly, I'm having other legitimate business expenses that I'm writing off as well. And so by the time you get back to you know how much taxes do I actually owe at the end of the year, it's a relatively small number, much smaller than what you would have to pay to earn anywhere close to that amount of money, let's say at your day job. ah hundred percent agree And so there's so many additional benefits. Like if you're not paying attention to taxes,
00:13:52
Speaker
Something's wrong, and it probably is because you had a job like I had once upon you know once upon a time, and I was just a W-2 employee and had zero write-offs, never thought about it. And it's not until you start earning more money and you start owning other properties or other businesses where learning about taxes is important, because I always think of of taxes as incentives. And you want to, you know, we're incentivized to act in such a way to reduce our tax burden.
00:14:18
Speaker
And so there's nothing wrong with paying less taxes. That's, I've had people say, well, you're not paying your share. I'm just acting according to the incentives provided to me by our ah government. Thank you very much. That's it. I'm just applying the code. Yes. It's the incentives. And if you want to change the incentives, change it, change it in DC. Like until that time, I'm going to act accordingly. Yeah. And like I said, this is not, ah these aren't loopholes, right? These are, this is just the tax code. Right. All this is.
00:14:45
Speaker
So let's get into some of the specifics. so i mean how do you just And you did a great job explaining it to me. So let's go over, okay, so now I know about a yeah i know of what accelerated depreciation might be. So let's go over an example.
Cost Segregation Process Explained
00:14:59
Speaker
Let's say in my world, right we're not talking about a multi-million dollar multifamily property. let's do a You don't have to. I told you in our market, let's say for 300,000, if we want to use a a round number, let's say we're buying a townhouse for 300,000, I'm renting it out. The most basic of examples. Yeah. Explain to me what the process might be and why it might benefit me. So let's start from start from that. ah First and foremost, it's about the purchase price. You have to subtract out the land.
00:15:29
Speaker
So let's just say the land value is 20%. So we're taking out 60, so now we're at 240. So your building basis is 240,000. On a condo, because they don't have what's called 15 year property, they don't own anything outside of the property. It's called land improvements. You can normally take about 15 to 18% of that 240 can be accelerated.
00:15:57
Speaker
so In layman's terms, we're just saying rather than taking 240 and dividing it out over 27.5 years, where we want to take anywhere between 15 to 18 percent of that 240 now. and That's what we're doing. We're saying we want to accelerate it. right Now, of course, you're going to have 15% to 18% less depreciation because you chose to take it up front. So it's not in reality like you know like if you, hey, normally in life when you take things up front, you'd normally you know lose out in the back. No, no, no, we're just front loading it.
00:16:34
Speaker
we're just saying, hey, if the IRS is gonna allow me to take 15 to 18% of my depreciation now to offset my income, then I wanna do that. And in this example, if it's roughly the numbers you said 18%, that'd be about $43,000 you could accelerate in theory. yeah So then how does $43,000 in depreciation, how would that affect me on my next tax return if I were to do that?
00:16:58
Speaker
Well, everybody falls into two categories. Either you're a real estate professional or you're passive. So if you're considered a real estate professional, that 43,000 would go against your total income. So if you made, you know, $200,000, automatically you're going to be taxed on 43,000 less than that initial number.
00:17:24
Speaker
And if I earn 200,000, let's say I'm a realtor, which I am, let's say I was making 200,000, now 43,000 of that is gone, you're gonna fall in the highest tax bracket at that point, right? So that would be roughly, what, 33% or 34%?
00:17:40
Speaker
It could be if you're married or if you're single. So it could be river based upon your tax bracket. That's the reality is, is what is your basically take that 43,000, multiply it, whatever you're buy your body or, you know, if it's federal and state, some states don't allow you to accelerate, but let's just say the lion's share do.
00:18:00
Speaker
So you take the $43,000, multiply it by the 23% tax bracket, and that is your what I call your net savings. Gotcha. So that's the in dollars. So in today's dollars, that's what you would get. So if you were at the higher tax bracket I just mentioned, that's just under $15,000 in actual dollars that I'm not giving the government this year that I would get to keep in in essence.
00:18:24
Speaker
That's absolutely correct. You're just front-loading it. You would still get the benefit. It would just take you 27.5 years to get that 15 grand. Right. And so in my instance, and I'll just use myself as an example, I'm okay putting myself out there a little bit. So I picked six properties that i debt that you identified that made sense.
00:18:43
Speaker
and you're doing all six simultaneously, right? So you're, yeah I mean, joe let's go
CPA's Approval and Engineering Role
00:18:49
Speaker
over the process. So after I signed an agreement with your firm, um I had my account and my CPA review it. Thank God you jumped on the phone call more than once, discussed it. I just wanted to make sure you were legit and she was happy with it. Cause the last thing I want to do is sign up for something and then get, why in the world didn't you call me Matt?
00:19:04
Speaker
So, you you know, we're very grateful that you went through those steps. She gave it her blessing. And and so I gave you those properties. And what was the next step? What did we do after after that process? I signed the agreement and got started. Yeah, I would say the one thing that, you know, everybody is a different stage of what they're doing.
00:19:23
Speaker
And i I have literally never had any issue with anybody in the four and a half years I've worked in cost segregation. But to do a cost segregation study, we have to have a site surveyor come into the property.
00:19:36
Speaker
So that's maybe initially that might be like, whoa, hang on, I don't wanna interrupt my tenant. Well, we've never actually had a tenant have an issue, not even to this day. right So that would be one of the things, of course, we're gonna get an appraisal if you have an appraisal, if you have a blueprint, we're gonna wanna know if you made any improvements on the property. But really the one thing where the client is really involved is saying, hey, who is the contact person?
00:20:04
Speaker
for our site server to reach out to, to find out when's the best time we can get in there for 15 to 20 minutes. That's probably the most like, ooh. Can you tell me they're gonna take a bunch of photos, like 30, 40, 50 photos inside of that home, and then with the intention to be able to delineate what they can depreciate inside of that property. Absolutely. They're trying to capture the building components. So literally it's like going into a room and taking a 365 degree,
00:20:33
Speaker
Pictures in every single room even going outside Right, you know and and because obviously there's things like, you know concrete and there's like arbors. They're swimming pools. Those are also Right depreciating assets, right?
00:20:47
Speaker
Yeah, and so the benefit here, so we started doing that. We've coordinated, and some of those have already happened. I mean, we just signed up literally last week with you. So we're going through that process right now with some of these tenants. And in terms of next steps after you get all these photos, do you have to send this to an engineer? Is it a PE, a professional engineer? Who's the backup? That's who we are. That is who cost segregation services are. We're engineers.
00:21:13
Speaker
So basically it's construction engineers. So our firm is the one that does all of the ah allocating all of the assets into their proper tax life. The purpose is to put together a proposal that basically shows the IRS and shows your CPA your tax preparer.
00:21:32
Speaker
Hey, here are all the assets and here's their dollar value that go in five year, seven year, 15 year, 39 year, or 27.5. And it just happened to be that in 2017, not to confuse everyone, but in 2017, there was a tax act that basically said any building component that can be accelerated that has a 20 year tax life or less,
00:22:00
Speaker
Back in 2022, from 2017 to December of 2022, you could take 100% of all of the building components that had a 20-year tax life or less. In 2023, it ken became 80. In 2024, it's become 60%. And I think we're gonna find out when our next president you know comes into play ah what that's gonna look like. But even before 2017, when there was no bonus,
00:22:30
Speaker
people still were willing to do it because you could still, instead of taking all of the building components and doing it over 27.5 years, you're still able to accelerate over five years, seven years, 15. So it's still better than 27.5. But when you could bonus all of it, that was a that was that was the glory days.
00:22:50
Speaker
Well, yeah, well, I'm still happy to get a little
Cost Analysis for Properties
00:22:53
Speaker
something over here. So it's it's like the idea, and none of this is essentially free, right? So you have to charge for these services. It takes time, energy. I know you've spent hours just with me. and And so a cost, can you give people an idea of what these services typically cost? Yeah, I would say,
00:23:09
Speaker
You know, our company has literally to do an engineering based study and have a site survey and to have audit protection. You know, we really can't do a study under two grand. That's just the reality of what makes financial sense for us. And what does all that protection let me stop you there.
00:23:26
Speaker
audit. Yeah. Like if you ever got audited, your CPA is not going to be like stuck like a deer in headlights. We're going to be your back office because your CPA, your tax pool prepare didn't do the study. So we're going to be the back office saying, okay, IRS agent, what do you want to know? And also to encourage you, we've done 45,000 studies and we've had 20 audits and have never had any, you know, have any issues or pushbacks. We just have to give them information. Right.
00:23:55
Speaker
That makes sense. So so it costs at least roughly two grand. I think mine's closer to like twenty five, twenty six hundred. And then you describe that even for each of those properties, that's roughly what I'm paying. And then of that, I get to expense it. Right. Because this is, a you know, your services are a legitimate business expense. Absolutely. Yeah. And I would say that it's a little different. And I think maybe that's why CPAs. I've had many CPAs that will be like they'll send me a proposal for, and the building's $3 million dollars and they're like, do you think this is big enough? I'm like, what? And I just think the overall reality is there's a couple of reasons why people don't know about this. On a million dollar property right now, you're gonna pay about 4,000 to $4,500 on a million dollar property. Just we're being basic, okay?
00:24:49
Speaker
per year for your services to do the call segregation. Okay. Yes. But in that scenario, on a million dollar property, you're probably going to accelerate $200,000. So take your, if you got your cash gotcha calculator, yeah take your $200,000 and multiply it by 30%, you know,
00:25:10
Speaker
That's, uh, that's, that's 60,000. You know, that is your tax savings. What did I just do right there? for Forgive me a million times. That's 20. Yeah. It's 30, 30, 30 grand times two. Yeah. 60 grand. right So basically you're saving $60,000 and it's costing you four grand and you're deducting it. So there's no doubt, no doubt 10 years ago, that million dollar, uh, building, it costs 10 grand. Wow. Why is the decline?
00:25:41
Speaker
It's like anything else in life, supply and demand. We were the first company out there. you know I'd say 15 years ago, it might have been 15. As you start to specialize and as you start to use your time better, right yeah i mean it's just the reality is the marketplace gets so saturated that you're going, okay, I have 75 competitors out there.
00:26:06
Speaker
you know When you're the only you know person in the in the in the state doing it, then reality is you know you probably haven't fine-tuned your workflow yet, so it's not as profitable. But once you get it done, it's like, you know it's like okay, it's streamlined. It just took us a long time to streamline this.
00:26:25
Speaker
to make it as affordable. So if someone is considering this, I know just doing a little bit of research on Google, for example, you'll see there are websites in DIY type, you know, do it yourself ah folks out there. There's like, you can make your own study. They charge 500, 800 bucks. Explain to people why trying to do this on your own for $500 might not be a great idea. And that's my assumption. Maybe I don't want to lead you, but that's my assumption as to what you might
Risks of DIY Cost Segregation
00:26:51
Speaker
say. it's It's really, it really boils down to if you actually went to, not there's actually a company called DIY. If you actually go to their website and you look at in one of their ah kind of note to self, you know the first thing that you're going to have to do when you get an audit, you're going to have to hire an engineering based study. Wow. First thing. So it's really just people, you know it's kind of like, and and I would say that 50% of our competitors don't even send a site surveyor out.
00:27:24
Speaker
They just like do some kind of virtual, like give the give the give the give the client a phone, like, hey man, can you just go around your house and just take videos? I'm like, whoa, that is gonna be a really difficult know thing to stand up. So at DIY, to be honest, the only time that I would think it would be of any value is if you literally were in a low tax bracket.
00:27:50
Speaker
And you literally were buying 75 to $100,000 houses.
00:27:57
Speaker
And you just couldn't justify the cost of paying two grand. And you're willing to know, hey, there's a lot higher chance of getting audited because you're doing it yourself and you're skipping some steps. I mean, don't get me wrong. it's That's the point. That's why it's cheaper. There's no engineers involved. There's no site surveyor. You can do the study in 15 minutes. It's like push a button. So I am not saying that there is not people that I would not, I've sent a couple of people to DIY because the numbers didn't work and they were not in a high tax bracket. right So for them, we had to say, you know what, man,
00:28:36
Speaker
We're just gonna have to, this is what it's gonna cost with us. Here's gonna be the results. But then I said, here's also the reality, is a DIY, you get what you pay for. So what does that really mean? Think about the difference between, if we're really truly trying to, let's say, I think everyone knows what a line of credit is on a house.
Optimization and Tax Bracket Impacts
00:28:56
Speaker
okay Let's say you're you have $200,000 of equity in your house, but all you really need is 75 grand. You don't need 200. You don't need a real appraisal. You can have a drive-by appraisal because it doesn't matter how it comes out because you only need 75 of the 200. But if you were trying to optimize and you wanted to get the maximum amount,
00:29:19
Speaker
of acceleration or max amount of cash, why would you not want to hire someone, pay a little bit more to optimize that? It's all about optimization. That's all that this is really about is saying if you're going to take a cheaper route, you're going to get a lesser result because it's not optimized. There's no engineers, there's no site surveyor. So it's kind of like somebody in Boston. ah Let's just say somebody in Boston is hired to do an appraisal on a house in ah California.
00:29:49
Speaker
and they're like, I don't live there. Yeah, but just give me your best appraisal. Man, that's gonna be the most conservative appraisal you'll ever get. Why? that He's not boots on the ground. He or she's not going there to the property, so it's not gonna be optimized. So that's what I would say about DIY, is it's absolutely cheaper. But there's obviously, you're gonna know that you know it's it's it's it doesn't check all the boxes.
00:30:16
Speaker
for what the IRS wants. And even if you do get audited, you're going to have to hire a cost segregation study like our firm anyway. So you get what you pay for. oh That's just the reality. Well, thank you for explaining that. And one of the things you just briefly touched on, you zoomed right by, was You described, well, it depends on your tax bracket. And so that was one thing you described to me. You said, there well, there's two points, and I don't want don't want to let either one of these slide. One, you mentioned, are you a real estate professional? Because that will impact your results on what you guys can do. ah And so we're going to define that in just a moment. And right and then the other would be my income and tax bracket. So we want to discuss why those things matter when it comes to accelerated depreciation. So which one do you want to tackle first?
00:31:01
Speaker
Yeah, we just will do we'll just go on that order okay in the order. Yeah, basically, the overall reality is this is a depreciation expense. It's not a credit. Think about it like if you're a business owner, you have business expenses. You don't get a dollar for dollar back.
00:31:20
Speaker
For example, if you have a $10 sandwich and it's with business. Well, I was gonna say, tell that to my clients when we go out to a nice dinner. They're, oh, it's free. You can expense it, Matt. I'm like, oh, not exactly, guys. There actually is a Seinfeld episode about that. They're just like, just expense it. What does that mean? I don't know. It's not free, people. Yeah. But it's like, if you have a $10 sandwich and you're having it over a business conversation, in a reality, you're in a 30% tax bracket, you're actually gonna get three of those dollars back in tax savings. You're only gonna be taxed on seven. So you're just basically getting, ah you're getting, because you spent 10 and you're in a 30% tax bracket, it's really costing you seven.
00:32:06
Speaker
after you do your taxes. And then so we have a depreciation expense. So just like I said before, that $10 sandwich to a guy that's in a 10% tax bracket costs him $9. Right. So basically, the more money that you have to pay in taxes, I know you said you've had clients that are dentists and there you know there's professionals that own real estate assets. I know I sell a lot. I just did actual a tour seconds before I came here.
00:32:34
Speaker
to a gentleman that's in Germany and I'm helping him buy ah real estate assets here in Maryland, he is um retired. His earned income is much lower than it used to be. And so it might this might be a different scenario for him than back in the day when he had his high paying day job. yeah Because his income every year, his expense for for taxes, he was in a much higher income bracket.
00:32:56
Speaker
Yeah. And that's, and that's when you really start have to start to become knowledgeable. Meaning if you're going to leave a profession and that's the next thing we talked about, either you're going to fall into a passive. And what that means is I would say this, I'm going to give the main people, real estate developers, commercial agents. You're describing, you're describing being a real estate professional versus a passive investor. Yes. Right. A real estate professional can normally consist of like a real estate developer, a commercial broker, or commercial agent, sometimes residential agents.
00:33:29
Speaker
ah
00:33:32
Speaker
certain types of LLCs. That's all they do is real estate. and what just What's the lit litmus test on that? How many hours in a given- 750 hours. 750 hours. it's It's basically saying- Is that in a year? Yeah. And it's not something that you actually, I'm not saying that you you absolutely should to qualify, but that's only going to come into play if you get audited. They're going to want to say, okay, so if you're spending, you know what is that? I should know that number. 62 hours in a month doing the math here.
00:34:01
Speaker
If you're spending about 62 hours ah a month in real estate, 15 hours, roughly a week, give or take. Yeah. Yeah. And so that's really the conversation that you have to have with your tax preparer is you're basically saying to them, Hey, listen, I own multiple properties now and I'm spending a lot of my time. And especially if you have a spouse and maybe they have, maybe they're self-employed or maybe they have their own sales.
Real Estate Professionals vs Passive Investors
00:34:30
Speaker
The overall reality is is we're just trying to basically have a conversation with our tax preparers saying, I'm thinking about doing a cost segregation study and the benefit on a million dollars if it's a $200,000 of acceleration. If you can determine that I can qualify as a real estate professional, I am i will log my hours of 75 hours, excuse me, 750 hours,
00:35:00
Speaker
But if I'm a real estate professional, that 200,000 of acceleration goes against my total income of if I'm married, filing jointly against the total income. But if I'm a passive investor, that means I not i do not qualify as a real estate professional. You can still use the 200,000, but the reality is on a million dollar house, you might be only netting 25 grand a year. So how many years is that gonna take? It's gonna take eight years.
00:35:29
Speaker
Which is still a lot better than your 27 and a half years. Don't get me wrong. straight line You can still say to someone, hey, you're going to pay the same price as a real estate professional. They're going to be able to take it up front. They will. But you, you're going to have to take it over eight years. So for the next $200,000 of income that you make in rental, you will not pay taxes.
00:35:52
Speaker
It's just, it's all about time value. And and so that point is very, very important. So if they're a dentist, let's say, and they're making $300,000 a year as a dentist, they're not gonna be able to utilize this against their dental income, right? It can only be your your your real estate investment income.
00:36:11
Speaker
Yeah, the only thing that might be a little bit off for the show, but I'll just share just because you asked. The one thing that can happen is in the first year, it's for it's what I would call um when business people buy a property and they run their business in that property. So if somebody was a dentist and they bought a property in 2024 and twenty twenty four and they are they own the property,
00:36:39
Speaker
but they also own the operations of the dental practice, as long as the ownership of the building and the operations of the dental practice, as long as they have common ownership, like 60-40 or 50-50, they can qualify to do something called grouping assets.
00:37:01
Speaker
and that allows for a person that's running their business out of the building they own, you can use it against your total income. But that's the only exception. So there's really only three places you fall. Real estate professional, passive, or you just happen to in the first year you buy a property, you have a sophisticated enough tax preparer that's on their game that's saying, hey, you just bought this property. Hey, you know you own 100% of this property and you own 100% of the dental practice.
00:37:29
Speaker
Hey, if we can do a cost segregation and we group our assets, sure we can take it against our total income. And those are the most, those are the clients that just lose themselves. They're like, whoa, this is crazy. Cause they're making, you know, they're making that W two of 500 grand. sure So it's, they don't have the deductions that maybe the average real estate person has.
00:37:50
Speaker
Oh, most of my self-employed folks, they have so many deductions. They show no income, which sounds fabulous from a tax perspective until they go to buy anything. And then it looks like you don't make any money. And that's a great point that I want to bring up what you just said. Yeah. Any intelligent, I'd say at least a B minus or better, a mortgage broker or banker knows that accelerated depreciation does not come into play when you're taking out a loan for your income.
00:38:20
Speaker
So if we accelerated 200,000 and we dropped your income from 400 to 200, your bank are still looking at you at 400. That's great. That's good. So it's important to know that because what you just said, a self-employed person is, yeah, they're not paying any taxes, but they can't buy any rental properties because they don't show any income. So that's important to understand that.
00:38:43
Speaker
And some of what you said, so even if you don't get all the details, guys, if you're listening to this and you're understanding like half of it, like maybe I did, when I first started hearing about this, the reality is all you have to do is contact someone like yourself or maybe you directly, Chris, and you can help explain this to them. They'll say, listen, I own these two or three properties. They could describe their situation, their income, and within a couple minutes, you'll have an idea, could this make sense?
00:39:08
Speaker
Absolutely, you did a lot of analysis you sent me so I was very impressed. That's why you're here So the work before I even hired you was was very detailed You sent over over all the analysis the savings and I wanted to give a real-world example myself ah The six that we selected for you to do just those six mine my total expense is around eleven thousand total and I hope you don't mind I'm sharing real examples here and So that's my net after my expense that I'm able to deduct from your what you guys charge. It's about 11 on those six properties. So just just under two grand a pop. And we anticipate around $60,000 in savings.
Personal Savings and Accounting Method Change
00:39:49
Speaker
And that's in dollars, like 60 grand. I won't pay the government this year that I might otherwise would have. And which is fabulous, like 60 grand in this market where we are in Maryland is enough potentially to put down on my next property. Now I can own another property and and literally continue to build my wealth when instead I would have just written into the government this year. Yeah. And it's also something ah to put into play that the only reason I think the studies would have been about eight grand if You would have known about it. Meaningless, yeah. Yeah, the cost for the cost of studies. Right. Because it's important to know that most, at least I've dealt i deal with the CPA maybe four or five days ago, that they were of the understanding. Because think about this, if you ever want to change something in the past on a tax return, you have to what? Amend willend your return. or Most people do not want to amend anything. That's not something they want to do. So let's just say that Matt bought this property back in 2022.
00:40:46
Speaker
He placed it in service in 2022. But he's already done his taxes for 2022. Most people are assuming I missed it. But in our business, there's something called a 3115, a 3115. It's called a change in accounting method. And all it's saying is, hey, I have a client that even bought a property back in 2018.
00:41:10
Speaker
Hey, we don't want to amend the return, but we do want to go back. We just didn't know about it in 2024. So we just want to go back and get all the acceleration that we didn't take. Right. So just know that you can go. I would say that my accountant did not want to do that. Right. So you explained this and she was like, no, thank you. We're not doing that. Well, don't get me wrong. A 31 15 is is a real estate heavy. And so the average not and in in Randy's defense Okay. My accountant. Yeah. Enter defense. I've only had two CPAs in the history of me doing cost segregation that said, I want to do the 31 15. Yeah. And so it's obviously, there's some sophistication to it. And it's obviously, you know, what we're charging, we always said this, we'll say, listen, if you can do it for cheaper, please do it. And they're like, we can't do it for cheaper than that. yeah So just know you can always go back and you don't have to mend your tax return.
00:42:07
Speaker
Well, so I would say the sweet spot is, is, is, let's say October of 20, 27 to the present. Got it. Cause that's when bonus started was awkward. Actually it's September, twenty October, 2017. Correct. 2017 forgive me if I said 20. Yeah. Thank you very much. Yeah. Yeah. let's go the cloud That's interesting. Going to the future. Yeah. Yeah. 20. Yeah. 2017. So let's say if you bought a property, October, the first of 2017 to the present those will all be very high tier, good opportunities for you. Right, so you guys, the point here, and I wanna make sure we may, I'm gonna drill this baby home and so everyone understands, you do not need to own a multi-million dollar property. You can be an average investor. You don't need to have 300 properties. it it This is something, A, the conversation is free, so have it. Of course. And educate yourself, and if you rely on your CPA, well if this was applicable, of course my accountant would tell me.
00:43:05
Speaker
Do not believe that. So you have to go out there and get at least the fundamental, the basic understanding of what this is and what it's not before you probably even talk to your accountant. And and so, I mean, even my accountant said, I'm gonna start bringing this up to more people because she didn't know everything the way that you described it. And so it always makes me feel good when I have that. I told her the bill's in the mail. the humility You're gonna look amazing with your next client thanks to me. Thank you. ah Yeah, the humility of that. And I think that it really also boils down to the overall reality that a CPA, and you got to think about what a tax preparer's job is. What they're saying is, Matt, you understand though, you don't have to pay for this. You're going to get this depreciation. And the average client goes, what do you mean? Well, you're going to get it. It's just going to take 27.5 years or 39 years. And what the average CPA was saying, it's always entertains me as they'll say,
00:44:04
Speaker
God, if you really, if you want to spend the $4,500 to offset $300,000 of your income, if i mean that's what you want to do, you can do it. Yeah, there's something wrong with that. It's just because it's not their money. it's you know there And also, and don't get me wrong, and I mean this in the most, and of I can't say this, most tax preparers and CPAs are not as outgoing. They're normally, i you know, kind of like just numbers people. And they're not interested in selling you something.
00:44:35
Speaker
So it's kind of like, hey, let me tell my client how to spend 11 grand. That's just not what they do. they're theyre their Their job is to, when there're when there's things in front of them in the tax law that they can implement, their goal is to try to implement it. But it's not saying, go spend 10 grand. I think that's where the disconnect is. In the most accountants, they'll do your taxes. It's very cut and dry. They're not coming to you with ideas to make you 40 or 50, $60,000 in savings. it's just because Because you're paying them a flat fee. They just look at it and go, hey, man. Even if it's a high fee, it's still a flat fee, for all but many of us at least. And ah and so i I used to complain to a business coach I had, and he would say, Matt, like who makes more money? You or your accountant? Who do you think is a bigger professional? You or your accountant? like You need to set your expectations. If you think you're the the you know the adult in your room, you claim to be the professional, how much of this is your responsibility?
00:45:32
Speaker
and does that make sense? Like he kind of put me out of that. I was very, I don't know, I was upset. The first time I had to let go of an accountant, I realized like I was expecting them to save the day for me and to make it so they don't, have so I don't have to, there's no responsibility on me. I hired someone. And then it's just that changed my mindset because one of the reasons you hire a business coach is for them to shake you a little bit and remind you of your responsibilities. You know, it's just like you want a six pack abs, but if you don't go and make it to the gym yourself,
00:46:00
Speaker
yeah It doesn't matter like you can't say well i hired the best trainer in the world i just don't ever want to go to the gym. Like you still have to show up and you still have to participate so that's just like the mindset of what this reminded me of learning this through you. yeah It's just like some of this i didn't learn like this was just dumb luck you got referred to me.
00:46:17
Speaker
So I can't even take the credit for saying, you know what, I felt this through and I looked for firms. I did not do that. That's just the way it worked. But also in the defense of tax preparer CPAs, you got to remember they have so many. I mean, it's the tax law is just so overwhelming.
00:46:36
Speaker
that unless you're like legitimately saying, hey, I want to pay you every quarter to sit down with you and just let's just brainstorm. Unless you're not doing that, you know, you're going to, you're going to get, uh,
00:46:52
Speaker
you know it's it's just I guess what I'm saying is for tax repairs and CPAs, they do have a huge responsibility, and in overall reality, they're not interested in telling you how to spend your money. That's what I'm saying. Well, and I had and i have a couple last questions. i We're getting a little long in time, so I want to be conscious of that.
00:47:12
Speaker
um How do I, what's what's the best way to phrase this? the um The risk, what's the downside? And before we get to that, I guess the original question I had was understanding if I accelerate, let's say that $300,000 townhouse example I gave you, I'm accelerating a portion of it, right? ah Of the 240,000, we said we'd accelerate roughly 18%.
00:47:38
Speaker
Of that eighteen percent that we're accelerating, how much does that take away from my straight line depreciation the following year? Because if I take if i accelerate, eighteen percent I can still use depreciation the next year and the next year and the next year, correct? For the next twenty seven and a half years. Think about what you just said. You said if I'm accelerating eighteen percent, how is that going to affect my straight line by eighteen percent?
00:48:02
Speaker
And so in real dollars, so in real dollars, let's just, I want to figure out the actual benefit in that example. You know what? The easiest thing to do is is since you got the calculator at my phones off, why don't we do this? It's called scenario one versus scenario two. Scenario one is just taking a million dollars and dividing it by 27.5. So can you do that a million divided by 27.5?
00:48:28
Speaker
36,000. So 36,000 is the straight line depreciation. Now let's assume that we can accelerate 200,000. Okay. So take 200,000.
00:48:44
Speaker
So we can accelerate that. We're trying to make easy examples. Now we're gonna take 200,000 from the million. So take 800,000 and divide that by 26.5. This is the next year.
00:49:00
Speaker
There you go. That's what your straight line is going to be. That would be 30,000 and change. But if you carry the numbers all the way down, they're the exact number. So you're not losing, you're just front loading depreciation rather than taking it over time.
Property Types and Short-Term Hold Downsides
00:49:16
Speaker
And all our, what our company does is say, hey, you know, there's some properties you can take 70% 80% of the acceleration in the very first year. but There's you know properties out there that are like that. And my multifamily properties, because I own a few of those, you said because they have multiple ah furnaces and hot water heaters and other components inside of that building that you can accelerate, it actually is a slightly higher accelerated depreciation than a detached single family. Think about the specificity, I can't believe I even said that word, specificity of
00:49:52
Speaker
the building components. Like a dental office is going to have a lot higher because the the components with the lighting, the infrared, all the different equipment, all those things that are part of a dental office is going to, like for example, if you look at maybe like a storage facility, it might only have 12% because it's a shell, just a shell. That's why they're popping up everywhere. They're so darn cheap.
00:50:20
Speaker
They're so darn cheap. Then you think of something crazy like a mobile home park, you can accelerate up to 90%. Right. Interesting. Just crazy. It's just because a mobile home park has less than a 20 year shelf life.
00:50:36
Speaker
Now, so here so the downside here, if I, you know, I'm doing this, so the downside to me, do I double my rate of of likelihood, for example, of getting audited? So, I mean, what are what's what are some of the the downsides to doing this? Why doesn't everybody do it? Well, I think it's it's, first of all, the first thing is this, and this is this can be a little complicated, but I would say to this, to the average person, if you plan on selling this house in the next two years, I wouldn't do it.
00:51:03
Speaker
Why? Because when you sell a house before a certain amount of time, it's called recapture. And you have to give back ah the lion's share of what you depreciate it. But I have clients that when they're doing large buildings, they know they're gonna sell it. It's just time, value, and money for them. They're like, hey man, give me put $300,000 in my pocket now. I don't mind paying back 250 of it. I'm still saving $50,000. So I would say initially,
00:51:31
Speaker
if you're a flipper or if you're somebody, you you you know you're gonna buy this property and sell it, but it's probably not a good opportunity for you. but you know like you're buying buy and hold I'm a buy and hold guy, I always have been, so that's that's my thing. That's a no-brainer, it's gonna work for you, it's absolutely gonna be, and there's strategies, there's 1031s, you can hold a property for five years and know all of the 15-year property can 1031.
00:51:56
Speaker
and I would say as long as you're willing to hold a property for five years, and most people are doing 1031s, but everybody is- And guys, that 1031 is a tax-deferred exchange or tax-free exchange where you're exchanging like kind ah properties. So some of these properties that I'm doing with you right now, I 1031 from other sales. so i I paid zero taxes on all of those properties when I bought them, because I've sold other real estate assets.
00:52:24
Speaker
And now I'm doing this. I'm accelerating my depreciation back to get a big chunk. I want to buy another asset this in that by this year with this money. So it's not my money. The way I think about it, guys, like the most simplistic way, it's just I'm taking what I would have paid the government. I'm going to buy another real estate asset with money that should be otherwise going to the government. And then I'm going to borrow the other 75 percent. I'm going to put 25 percent down. The other 75 percent is coming from a bank. It's not my money. yeah And that's tax free. It's a mortgage.
00:52:54
Speaker
Obviously. and And then I'm making the tenants pay it off. So it's just like the ultimate, this next property, you know, I should put it on the podcast and break it down exactly what the financials look like. But I don't know about you, but what's the rate of return on on and you know when you have no money involved?
00:53:11
Speaker
They call it infinite. It's an infinite return. It's an infinite return. I don't get those opportunities every day, but when you get them, it's like when you see the door, you open the door. It always triggers me about why it sounds either too good to be true or I'm gonna get audited or something's wrong. Let me talk about the audit. I think we shared this. I would say that What would trigger an audit would be things like a person that's got a W-2 job, they're a W-2 job, they're not married, or let's say they're married, and their wife's a dentist, or their spouse is a dentist, and they're both working 50, 60 hours you know a week, and they're claiming real estate professional. That's probably gonna trigger something, because they're saying, whoa, hang on,
00:54:08
Speaker
You're not due, because you have to at least be spending at least 50% of your time in real estate or 750 hours. so But that has nothing that's just someone that's trying to really be overly aggressive right with their tax planning. But if you are a real estate professional or if you are passive, this is all within the code. And we wouldn't have been able to do 45,000 and only have 12, excuse me, 20 audited. And it wasn't like, nobody got a slap on the hand. Nobody said, what are you doing with this people's money? What kind of shenanigans are y'all playing? They're just like, no, we got to make some adjustments. Good to go.
00:54:49
Speaker
right So that should not be, the audit should not be the the concern. It would be, am I trying to do something way too aggressive with a W-2 income and trying to be a real estate professional? That's the only time I've seen where someone would say, that's going to be really, that person's working 80 hours a week.
00:55:10
Speaker
yeah Well, I know some investors that don't own a lot of property, but boy, do they look a lot. um They certainly, ah you know, they could probably, if they document it in the event of an audit, they could they could probably prove the number of hours that they're actively engaged in the practice of real estate. And so, it you know, it's it's it's a gray area. That's why we have attorneys and accountants because they have to live in the gray area and yeah play in those, ah you know, those murky waters.
00:55:38
Speaker
With chat and chat GPT now, it's like literally you can ask it anything like, yeah, can you please give me the criteria for what takes to be a real estate professional? Well, I'll tell you right now, this is one of the scary things about having started this podcast a year and a half ago. It's that we are now, ah like everything we're discussing right now is being transcribed automatically. ah YouTube is transcribing it. And the fact that we said call segregation analysis, and I said Marilyn and Towson, and I said your name, the areas. So it actually will be able to, people will be able to find this.
00:56:12
Speaker
just by using chat GPT or Google or these other crawlers. yeah And they're gonna be able to jump directly to the moments inside a podcast that we discuss certain things. It's pretty crazy and that's already happening, it's already there. And ah it's just wild, so Lord knows what's gonna happen but yeah we're already, al we're there man. um But i'm I'm just grateful that you came on here and I think I had the basics. I'm sure people are yelling at me trying to say their one or two questions and I'm, I'm forgetting, but the basics here is just, it I think for me and a lot of people, they probably kind of wrote this off as something they didn't have to think about. I do encourage everyone to take the time to think about it because in real dollars, you're talking probably at least $10,000 of actual, like you're not paying the government this year per property. It's what it worked out to me, roughly. yeah And that's net of expenses. And so,
00:57:11
Speaker
that's worth talking about. And that amount of money you know ah it is was worth jumping through a hoop or two. And and also everyone should you recognize that I've never not one time have done a study where I didn't have the CPA tax preparers approved.
00:57:27
Speaker
So don't feel like you're going out on a limb trying to make this crazy, you know, decision by yourself. Reality is, is, hey, we send this to the tax preparer, you know, we get their approval. So it's not something that you have to feel like, you know, you're going alone or, you know, just with, with me, you're, you're, you're having, you know, your tax preparer. Okay. And confirm that this does make sense for you. Right.
00:57:49
Speaker
Well, i once again, I appreciate you joining me and hopefully we've done a little bit of good, hope helped to to put some light on on this subject. I know yeah it was a learning experience for me. So once again, thank you for taking the time, Chris, to join me and I'll make sure to have your information here. So if you're listening to this and you want to have Chris's opinion, have him walk through your particular situation. um And of course, if you're looking to add to your portfolio here in Maryland, you know me, um I'm happy to to help you as well. So ah thanks again, Chris. And I look forward to finishing up my personal ah accelerated depreciation with you here in the next couple of weeks and and getting that tax ah break to put right back into work, into this local market. Well, I appreciate Matt. Thanks for your time. Thanks for having me on the on the podcast and I look forward to doing it again. All right. Thank you. All right. Take care.