The growing popularity of cost segregation has led to an increase in providers and technologies striving to offer fast and inexpensive reports entering the market. These firms often lack the qualifications to perform these complex studies. Making matters worse, the IRS is increasing its scrutiny of cost segregation studies. Engaging an unqualified firm can lead to substantial financial penalties and headaches with the IRS.

Cost segregation is a powerful tax strategy for owners of commercial and residential investment real estate properties. By reclassifying certain building components with shorter lifespans, this technique accelerates depreciation deductions, potentially saving property owners thousands, even millions, in taxes.

Key Takeaways:

• Choose a cost segregation firm that produces an engineering-based cost segregation study with defensible documentation, not a shortcut “template” report.
• The final deliverable should include a full cost segregation report with asset-by-asset classifications, support, and reconciliation to total project cost.
• A strong cost seg study cites IRS guidance and tax law for each major classification (5, 7, 15-year and 39-year where relevant).
• Your CPA should receive clear schedules and workpapers they can use to file safely and answer questions fast.
• If doing a “look-back” study, ensure the provider supports the calculations your CPA needs for the catch-up depreciation approach.

Let's delve into how you can protect yourself and make sure you choose a reputable, experienced cost segregation firm.

How to Choose a Cost Segregation Company

Choosing a cost segregation company comes down to defensibility and execution, not marketing claims. Ask for a recent sample report and look for asset-level detail, clear assumptions, and a reconciliation back to the total cost basis. The strongest cost segregation firms can walk you through their methodology, explain why assets were classified the way they were, and show what documentation supports the numbers. If they can’t explain their process in plain English, your CPA will end up doing cleanup work later.

When you compare cost segregation companies, use a simple scorecard: property-type experience, documentation depth, and CPA-ready deliverables. The best cost segregation companies provide a clean deliverable package: final report, depreciation schedules, and supporting workpapers that tie to invoices, plans, and photos where relevant. Also confirm what happens after delivery: will they answer CPA questions quickly, and will they stand behind the study if your CPA needs clarifications during filing?

Understanding Cost Segregation

Cost segregation is the process of meticulously examining a property to identify components that can be depreciated over shorter periods than the standard 39-year timeframe used for commercial buildings. Examples include specialized electrical systems, decorative lighting, flooring, certain plumbing fixtures and even landscaping elements.

Imagine you purchase a commercial building for $5 million. Traditionally, you would depreciate the entire building basis ($5 million minus land value) over 39 years. But with a cost segregation study, some percentage of your building's cost (often 20-40%) could be reclassified into those shorter lifespan categories. This means you might deduct a million dollars or more within the first few years of ownership instead of spreading that deduction thinly over decades.

This accelerated depreciation has an immediate positive impact. It results in substantial tax savings due to your lower taxable income. It also increases available cash flow, which you can use to invest in your business, acquire additional properties or boost returns to investors.

It's important to understand that cost segregation is a legitimate and IRS-approved tax strategy (to learn more read: Cost Segregation Audit Technique Guidelines). A well-conducted study is your ticket to maximizing deductions while staying fully compliant with tax regulations.

The Rise of Sub-Par Providers

The potential for significant tax savings has understandably fueled the popularity of cost segregation studies. Unfortunately, this has also led to a proliferation of firms and marketing entities entering the market without the necessary qualifications or expertise. These providers may offer tempting low fees or exaggerated promises, but they often lack the experience to create studies that can withstand IRS scrutiny and generate significantly less benefit than a more comprehensive study. 

The consequences of working with an unqualified firm can be severe, including:

• IRS audits and penalties: Poorly conducted studies may be riddled with errors and unsubstantiated assumptions, leading to costly audits and substantial financial penalties. The IRS can disallow deductions, impose interest charges and even levy accuracy-related penalties.
• Missed opportunities: Inexperienced firms may overlook numerous eligible components because they lack the knowledge or simply don't perform a thorough enough analysis. This can result in leaving a significant amount of potential deductions—and significant tax savings—on the table.
• Long-term headaches: Dealing with IRS audit fallout and correcting inaccurate studies can be a drawn-out, stressful and expensive process. It can take years to resolve an audit, and the costs for professional assistance to navigate these challenges can be substantial.

Qualifications of a Reputable Firm

Finding a truly qualified cost segregation provider takes some due diligence. Here are the key credentials you should look for:

• Licensure and experience: Choose a firm with licensed engineers and tax specialists. The IRS recommends that a licensed engineer or other qualified professional should perform cost segregation studies. Beyond licensure, look for years of industry experience with the complexities of cost segregation.
• In-house engineers: The best firms have specialized engineers on staff, not just hired contractors. The company should visit the property in person, ensuring thorough analysis and accurate identification of eligible components. This approach will usually generate 20%-25% more first year benefit from a simplified study. And the additional savings exponentially pays for the small additional cost of a quality report. 
• IRS and industry compliance: Select a firm with a strong track record of delivering IRS-compliant studies. Ensure they are up to date on the latest changes in tax regulations, construction accounting practices and audit procedures.
• Experience with your Specific Type of Property: Not all property types are the same and unique property types such as self-storage, mobile home parks, restaurants, car washes, and gas stations are some examples where the IRS ATG’s have specific rules that may apply differently from a typical commercial building. 

Remember, price shouldn't be your primary concern. A well-qualified firm, while not the cheapest option, can deliver significantly greater tax savings and will provide invaluable peace of mind during a potential audit.

What Should Be in the Final Cost Segregation Study Report?

A strong final cost segregation study report should read like a CPA-ready, defensible package, not a summary spreadsheet. At minimum, it needs an executive summary, a clear description of the property and scope (acquisition, new build, renovation), the placed-in-service date, and a plain-English explanation of the methodology used in the cost segregation analysis. The report should also include a full reconciliation that ties the study back to the total cost basis so every dollar is accounted for and the allocations do not look arbitrary.

The core deliverable is the detailed asset schedule: itemized components, assigned class lives, and support for why each item belongs in that category. The best final cost seg study reports include supporting workpapers such as cost backup references (invoices, pay apps, or estimating logic), notes on assumptions, and documentation like photos or plan references when relevant. To make your CPA’s job easy, the cost segregation report should also come with clean depreciation schedules by class and year, plus a deliverables folder organized so your CPA can file quickly and answer questions without chasing the cost segregation firm for missing details.

What Documents You’ll Need for a Cost Seg Study

A good cost segregation study company will ask for documents that let them build a clean cost basis and accurately identify assets. Expect to provide a closing statement (or acquisition summary), fixed asset/depreciation schedule (if you already have one), and construction documentation like invoices, contractor pay applications, change orders, and scope summaries. Strong cost segregation firms also request available plans or as-builts, a property description, and the placed-in-service date so the report lines up with how the asset is actually used.

To keep the process smooth, organize your files by category and timeline. Most cost segregation companies can work with incomplete records, but you need to be clear about what’s missing so assumptions don’t creep in. The best cost segregation companies will also confirm totals early by tying your documents to the final basis, then deliver CPA-ready schedules and workpapers. If you’re hiring a cost segregation company for a look-back study, add prior-year returns and depreciation schedules so the catch-up depreciation math can be done correctly.

Spotting the Red Flags

A major red flag with cost segregation companies is when pricing is pushed before documents are reviewed or the “savings” are promised upfront. Another is a report that looks like a generic template with thin support, vague categories, and no clear tie-out to the total cost basis. If a cost seg study company won’t provide a sample report or can’t describe how they build costs (actual invoices vs estimates), assume you’re buying a spreadsheet, not a defensible study.

Watch for operational red flags too. If a cost segregation company avoids detailing who does the work, how assets are identified, or how classifications are supported, that usually means shortcuts. High-quality cost segregation firms can explain their inputs, assumptions, and QA process, including how they handle renovations, partial dispositions, and missing documentation. If they dismiss your CPA’s questions or rush you to sign, that’s a signal the deliverables won’t hold up under scrutiny.

Now that you know what to look for in a qualified firm, let’s examine some red flags to be warry of. There are a few telltale signs that should raise your suspicion and prompt further investigation before hiring a cost segregation firm. Watch out for:

• Lack of transparency: Reputable firms are open about their qualifications, processes and pricing. If a firm avoids providing detailed information or their answers seem evasive, consider it a warning sign.
• Too-good-to-be-true promises: Be wary of firms guaranteeing unrealistic savings or unusually low fees. If it seems too good to be true, it probably is.
• Insufficient documentation: A proper cost segregation study results in a comprehensive report (often over 100 pages long) with detailed calculations and supporting evidence. Firms that offer thin reports or lack documentation likely cut corners during the process.
• Don't simply trust a website: Nowadays a website can be created in minutes, claiming many years of experience, when in reality, the company might be 6 months old. Audit support is only good as long as the company remains in business! Get references or verify the validity of their claims. 

Want to learn more? Fill out the form ⤵︎ below to get a detailed and comprehensive checklist that you can use when evaluating potential cost segregation providers. 

The Right Questions to Ask

Before engaging with a cost segregation firm, make sure you ask the following essential questions:

• What are the specific qualifications and experience of your engineers?
• Does your firm conduct the entire study in house?
• What is your process for site visits?
• How do you handle IRS audits?
• Can you provide a free benefit analysis for my property?
• Is your estimate based on conservative or aggressive projections? 
• What land allocation are you using? 
• Does the study break out all of the structural property (including electrical, plumbing and mechanical systems) in addition to the personal property asset?
• Can you provide a sample redacted report from a previous study?
• Do you have experience with properties similar to mine?

Don't be afraid to ask detailed questions and request further information if necessary. A reputable firm will welcome your inquiries and help you understand the benefits and process of conducting a cost segregation study.

Conclusion

Choosing the right cost segregation firm is a critical decision for any property owner seeking to maximize their tax benefits. Don't be swayed by bargain prices or exaggerated promises. Prioritize firms with proven expertise, qualified engineers and a commitment to IRS compliance.

By conducting your due diligence and partnering with a reputable firm like Engineered Tax Services, you'll unlock the full potential of cost segregation. If you're ready to explore the benefits of this powerful tax strategy for your property, contact us today.

FAQ

What is the most important factor when choosing a cost segregation company?

The most important factor is whether the firm delivers an engineering-based cost segregation study with detailed documentation that supports the asset classifications and costs. You want a provider that can show their process, assumptions, and support for each reclassification, not just a summary spreadsheet. When you compare providers, ask to see a sample cost segregation report and the supporting workpapers.

Should the cost segregation firm do a site visit?

A site visit is not always required, but it is often a positive quality signal, especially for complex properties, renovations, or incomplete records. If a firm never does site visits, ask how they validate site-specific assets and costs. The goal is a cost segregation study that reflects the actual property, not a generic template.

How do I compare pricing between cost segregation companies?

Compare apples to apples by asking what’s included: engineering review, site visit, level of asset detail, legal support, reconciliation, and CPA-ready schedules. The cheapest option often produces a thinner report that can create delays or extra CPA work later. Evaluate cost against the quality of the cost seg study deliverables and the provider’s ability to support their methodology.

What should my CPA receive from a cost segregation firm?

Your CPA should receive the final cost segregation report, depreciation schedules by class life and year, and supporting workpapers that tie back to the total cost basis. If the study is retroactive, your CPA may also need supporting calculations for catch-up depreciation. The goal is CPA-ready deliverables that reduce back-and-forth and make filing straightforward.