Case Study: Cost Segregation Services: Hotel/Motel Real Estate
Scenario
In 2010, a cost segregation study was completed for a client’s renovation of an existing hotel and newly constructed hotel addition. The 24,200 square foot interior renovation and the construction of a four story hotel addition cost approximately $6,000,000. Architectural blueprints, engineering reports, contractor discussions, and other data sources were consulted to isolate improvements with tax saving potential. Our engineering group collaborated with our construction tax practice team to identify project costs eligible for faster tax depreciation deductions. Many project costs were found to be depreciable over five and fifteen years. More importantly, while examining the construction costs and documents for the renovation we discovered a significant expense for mold remediation of the existing structure. This unusual expenditure was properly classified after consultation with the client, contractor, and our tax practitioners.
Result
Our cost segregation study reported net present value tax savings of more than $450,000. Typically, depending on the nature of the business and details of construction, a net present value of tax savings between 3 percent and 10 percent of the construction cost is experienced. In this case, the increased depreciation in the first two years was around $1,500,000. As the value of the acquisition increases, the property owner’s return on fees for the study increase from a minimum of 10:1 to returns well in excess of 20:1.
Many construction features were identified, valued, and assigned to accelerated recovery periods. Depending on the costs included in the basis we are asked to segregate, 15 percent to 30 percent of the acquisition cost might be eligible for reclassification as tangible personal property and 10 percent to 15 percent as land improvements.
Fees for this service are dependent on the quality of cost and physical construction information that is provided, but generally the fees for a typical hotel range from $7,500 to $19,000. LarsonAllen provides a no cost or obligation feasibility study and proposal including consideration of a taxpayer’s ability to use the deductions generated by a cost segregation study.
In summary, a cost segregation study on a hotel, motel, or similar hospitality real estate can provide significant immediate and long-term tax savings. It does not matter if the investment is owned, or in the form of leasehold improvements, so long as it is capitalized for income tax purposes. Both new construction and newly purchased existing properties enjoy the same benefits. Even properties acquired long ago can benefit from a retroactive cost segregation study to recoup depreciation overlooked in years past. Any hotel or motel whether purchased, constructed, or renovated costing in excess of $500,000 should be considered for this service.
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