• Developing or applying for patents.


• Certification testing.


• Developing new technology.


• Environmental testing.


• Developing or improving software technologies.


• Building or improv- ing manufacturing facilities and stream- lining internal processes. In order to substantiate its quali-


fi ed research, a taxpayer must prepare and retain documentation on paper or electronically. However, in some recent court cases, the courts ruled the taxpayers, in the absence of certain records such as a time tracking or project accounting system, could still estimate research and experimentation expenses using testimony of credible personnel and other available evidence.


Cost Segregation Study Overview In the past, many companies relied


solely on miscellaneous tax credits to reduce their income tax liability. A cost segregation study analyzes all draw- ings, documents and costs relating to a building and its improvements. In most instances, all costs associ- ated with a facility project (real prop- erty, land improvements and personal property) are combined for depreciation purposes. Under a cost segregation study, real property, land improvements and personal property are treated diff erently in regards to depreciation, resulting in potentially signifi cant income tax consequences. A cost segregation study


allows owners to classify all of their assets and depreciate them in the shortest amount of time permissible under existing tax laws. When properly done, an engineering-based cost segregation study provides the taxpayer/building owner with better detail and classifi cation of assets, improved cash fl ow


from tax benefi ts, and maximized depreciation of assets for tax pur- poses. It also should result in better detail on all fi xed asset records. A cost segregation study can signifi cantly defer taxable income by increasing the organization’s depreciation expense if the company owns its facilities. T is is possible because signifi cant portions of the facility can be classifi ed into asset classes with shorter depreciable lives (Table 2), thus increasing the compa- ny’s depreciation expense in the earlier years and deferring taxable income. T e standard for depreciable life on


commercial buildings is 39 years. In many cases, taxpayers can signifi cantly reduce the tax life of these assets to fi ve, seven and 15-year lives. Com- panies may perform cost segregation


Table 2. Cost Segregation Eligible Items 5-Year Depreciation


Cabinetry Canopies Carpet


Ceiling Fans Counters


Countertops


Loading Dock Equipment Lockers


Equipment-Related Electrical Generators


Geothermal Energy Systems Intercom Wiring/Equipment


Exterior Concrete Exterior Fencing


Because Farrar offers many design and value-added services on parts like this gearbox assembly, it was able to claim a high number of employee salaries on the R&D tax credit.


studies for both new and existing locations. T e Internal Revenue


Service states, when using a cost segregation analysis, companies may deduct 100%


of the depreciation they were legally entitled to but did not claim due to the original classifi cations in the year of the change. Farrar found signifi cant benefi ts in


its machine shops and offi ces. While its metalcasting facility is older than those locations, it also found ben- efi ts in that plant. Also, using cost segregation allows metalcasters to write off the remaining tax basis for any building component that needs to be replaced. Specifi cally, Farrar was able to


Equipment-Related HVAC Equipment-Related Plumbing Exterior Lighting Interior Fencing


Interior Overhead Doors Interior Windows Kitchenette Sinks Decorative Lighting


Drapery/Window Blinds Low Height Partition Walls Millwork


Movable walls 15-Year Depreciation Landscaping Lawn Irrigation Systems Gutters/Downspouts


change the depreciation on several areas of its metalcasting facility and a heat treat facility it installed in 2007. T e following items went from 39 years depreciation to fi ve years: • Molding pits. • Molding pit walls. • Metalcasting facility lab. • Compressor room. • Dust collection system. T e following items went from 39 to 15 years: • Grading and earth work. • Mechanical and plumbing. Farrar was also able to


reduce portions of the cost of its building additions over the years from 39 to fi ve years. From an offi ce standpoint, at least 50% of all the internal fi xtures were changed from 39 years depreciation to either fi ve or seven years.


Performing the Study A cost segregation study is


not typically completed by your CPA fi rm. Because the stan- dard documentation required includes facility drawings (architectural plans and designs


June 2012 MODERN CASTING | 27


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