Tax Exempt Use Property: Cost Segregation with a Tax-Exempt Owner or Tenant
How we help tax-exempt entities leverage cost segregation to deliver strategic value and unlock depreciation benefits.
Cost Segregation for Non-Profit and Government Entities
Cost segregation studies maximize tax savings via accelerated and bonus depreciation. Since these benefits don’t impact the tax-exempt, many assume cost segregation has no utility when an owner or tenant is a non-profit, private foundation, or government entity.
In truth, cost segregation may be employed successfully in both of the following scenarios:
Two Depreciation Methods: GDS and ADS
Real estate assets are usually depreciated according to the General Depreciation System (GDS). The categories seen in the majority of cost segregation studies are GDS categories — 5-year personal property, 15-year land improvements, etc.
However, tax-exempt use property must be depreciated according to the Alternative Depreciation System (ADS), which is a longer-lived, straight-line method and — notably — not eligible for bonus depreciation.
| Category | GDS Life | ADS Life (no bonus) |
| Personal Property | 5 or 7-Year | 9 or 12-Year SL |
| Land Improvements | 15-Year | 20-Year SL |
| Real Property | 39/27.5-Year | 40/30-Year SL |
Challenge
The client’s most recently completed project involved the construction of a luxury 20-building multifamily property. The property was packed with upscale amenities: a resort-style pool with nearby cabanas, high-tech golf simulators, modern meeting “pods” equipped with wi-fi, and more.
This project posed a unique challenge as the client wanted a quality cost segregation study that would maximize tax savings by comprehensively identifying and categorizing each asset. In a 20-building complex, that’s no small feat. Things only grew more complex as the client revealed that the owning entity was composed of a mixture of taxable and tax-exempt investors.
Approach
Our team began by gathering information, including blueprints, schematics, and AIA Documents (contractor contracts). After analyzing the project, we then returned to the client and explained that the cost segregation study could initially be like any other, but to complete the study, we would need them to provide us with the percentage representing the tax-exempt fraction of the owning entity. That portion of property assets would need to be treated as if they were tax-exempt.
The client examined the breakdown of the investing entity and determined that 46.8% of their investor makeup were tax-exempt entities. Therefore, a commensurate portion of the assets should be depreciated under the tax-exempt use rules.
Results
The EisnerAmper engineer spent several days on site at the property, identifying and quantifying all assets. He took hundreds of photographs and documented his findings in tabular form. After cross-referencing his notes and photographs with the client-provided site materials, he assigned costs to each asset and separated them into new categories. He then identified, quantified, costed, and categorized all property assets; 46.8% of them were depreciated according to ADS lives, with the remaining 53.2% depreciated using shorter-lived GDS lives.
The $47.7 million depreciable basis broke out as follows:
| Property Class | Class Life | CSS Classification | |
| Personal Property | MACRS 5-YEAR | $ 3,890,422 | 8.1% |
| Land Improvements | MACRS 15-YEAR | $ 4,611,461 | 9.7% |
| Personal Property | ADS 9-YEAR | $ 3,421,701 | 7.2% |
| Real Property | ADS 20-YEAR | $ 4,055,868 | 8.5% |
| Real Property | ADS 30-YEAR | $ 31,781,462 | 66.5% |
The property was placed in service in 2024 when the bonus depreciation rate was 60%. ADS-treated assets are ineligible for bonus, but the client could take the bonus on the MACRS 5 and 15-year assets.
The study yielded an additional first-year cash flow of $2.30 million, and the client was extremely satisfied with the results and the process. They felt confident in EisnerAmper’s ability to tackle their complex project and were pleasantly surprised with how quickly and efficiently we completed the job. The technical precision of the deliverable, combined with an integrated and expedient approach, secured the client’s loyalty to continue to turn to EisnerAmper for future tax incentive support.
Challenge
The client did highlight one dilemma; while most of their portfolio was standard commercial and/or mixed-use property, one project included a government tenant. The client was unsure if a cost segregation study would be appropriate for that property.
The property in question consisted of two buildings:
- Building A: Entirely occupied by a local juvenile court and included the courthouse itself, holding cells, and office space.
- Building B: Entirely occupied by a retail tenant.
Building A was threefold larger than Building B. The parking lot was primarily associated with Building A, with just a handful of spaces allotted to Building B.
The property was placed-in-service in 2020, at which time 100% bonus was in play.
Approach
We began by noting that Building B may be depreciated using MACRS GDS lives as usual.
Base Building Assets in Tax-Exempt Use Property
Tax-Exempt Use Property, Tangible Property, and Land Improvements
Two main questions must be answered:
- If at least one of the following is present, the lease is considered disqualified. Are any of the following present?
- Lease term of more than 20 years (including options to renew unless those options reset to FMV)
- Purchased with tax-exempt financing
- Agreement or option to purchase by the entity
- “Sale-Leaseback” with an exempt entity
- Is more than 35% of the property’s net rentable floor space leased to tax-exempt entities?
If a lease is considered disqualified and more than 35% of the property is leased to a tax-exempt entity, the base building assets must be depreciated using ADS lives.
We worked with the client to gather the information needed to determine how the base building assets in Building A must be treated, including:
- Lease term
- Options to renew
- Status of options to renew — do they reset to FMV?
- Percentage of property’s net rentable floor space leased to tax-exempt entities
We discovered that the lease term was 10 years with three 5-year options to renew that don’t reset to FMV. This indicates that the lease is indeed disqualified, as the lease term, including options to renew, exceeds 20 years (including options, the lease is 25 years).
Building A’s area encompassed 70% of the property’s net rentable floor space.
Since Building A had a disqualified lease and comprised more than 35% of the property, the base building assets of Building A must be depreciated using ADS lives.
We explained that this would impact the outcome of a potential cost segregation study and helped the client consider their options. After a thorough consultation, the client decided to move forward with the cost segregation study as the benefits still outweighed the costs, and certain assets will be eligible for 100% bonus depreciation.
Results
The EisnerAmper engineer completed a site visit, compiling all assets encompassed within Building A and Building B. He also assessed the parking lot, noting that only a handful of spaces were allotted to Building B.
The $3.81 million depreciable basis broke out as follows:
| Property Class | Class Life | CSS Classification | |
| Personal Property (B) | MACRS 5-YEAR | $ 103,861 | 2.7% |
| Land Improvements (B) | MACRS 15-YEAR | $ 89,310 | 2.3% |
| Real Property (B) | MACRS 39-YEAR | $ 558,315 | 14.7% |
| Personal Property (A) | ADS 31.25-YEAR | $ 195,885 | 5.1% |
| Land Improvements (A) | ADS 31.25-YEAR | $ 461,290 | 12.1% |
| Real Property (A) | ADS 40-YEAR | $2,405,457 | 63.1% |
Building B was depreciated using MACRS lives, and the 5 and 15-year assets were eligible for a 100% bonus.
We determined above that the base building assets of Building A must be depreciated using ADS lives. The ADS life is determined by using the greater of ADS Class Lives from IRS Tables or the Lease Term x 125%. The table-derived class life is 40 years, which exceeds 31.25 (25 x 125%); as such, Building A’s real property is assigned a 40-year ADS life.
We performed a similar calculation to determine the class lives for Building A’s tangible personal property and land improvements. In this situation, the Lease Term x 125% (31.25) exceeds the table derived class lives (9 or 12 years for tangible personal property, and 20 years for land improvements). As such, the tangible personal property and land improvements were both assigned 31.25-year ADS lives.
Although the benefit was less than a comparable all-GDS property would have yielded, the client was glad they moved forward with the study, and they particularly appreciated EisnerAmper’s candor throughout the process. The EisnerAmper team was transparent about the project’s potential benefits and drawbacks, and the client felt empowered to make an informed decision on their terms and timeline. The results were as expected, and the client was pleased with the benefit. They were grateful for EisnerAmper’s candid and collaborative approach.
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