4. Review the Cost Segregation Study Report for Examination Purposes
Cost Segregation Studies have been utilised to classify taxpayer assets in to shorter recovery periods to accelerate the depreciation deductions to its assets. The analysis results must be readily reconcilable to the citizen's depreciation or adjusted asset programs.
Before Assessing the Tour, Complete your Review of the Analysis Inorder to identify specific assets and worries that require review. Prepare a List of Assets/Items that Warrant Inspection and Supply it to the taxpayer forward. Ask further questions and/or view additional house components during the tour as needed. Plan the Inspection to Minimize Time and Travel Costs. For cases involving a number of properties of similar character, consider inspecting only a representative selection of properties or facilities. Require a camera or Video Recorder (Camcorder) to document the condition of the Home. Confirm ahead that photography will be allowed/permissible. Ask that the Property Manager/Maintenance Engineer Be Around Throughout the Tour. It's important that some one familiar with the physical attributes and workings of this property be available to answer questions and provide usage of nonpublic areas. Request that the Preparer Attend the Tour. The preparer ought to have the ability to recognize the physiological attributes of certain resources and explain how they were classified. Request Access to Plans, Drawings and Contract Documents that are found onsite. Train an IDR in copy so that any requested items received throughout the review is noted and an acknowledgement replica of the IDR could be left with the taxpayer. View the Project Site and Document Features that impact the price allocations and land classifications. What is the character of the neighborhood and how does the positioning impact land value? Are there any other property for sale in the region? Note the actual estate company name and the address of this home for future reference. Topography - Observe the topography and determine whether the property was initially hilly or low-lying. Does the job include the overall grading of this land? Were considerable sums of fill required in order to build? Website Requirements - Ascertain whether the project contained the sub-dividing or rezoning of property. Does it take environmental or land use licenses, or the construction of access roads? Were off-site improvements (e.g., roads, sidewalks, sewers, storm drains) constructed? Are some of these improvements specializing in the local municipality? Condition of Real Estate - could be the land new or old, worn or renovated? Are the stuff modern or older? Job Records -- Where are the original project records (e.g., drawing, plans, contracts, and payment records) located? Require the names of those employees who may have particular knowledge of the construction. Interviews with such individuals as needed. Person Assets - View each contested asset to obtain a thorough understanding of the facts and circumstances that affect its classification and cost. Ask your website manager how the facility is used and the way that man assets operate. Cost Info - Discuss the methodology that has been used to ascertain the price of assets. Were typical price manuals usedto estimate costs? Ask onsite care and facility operations employees regarding local construction and repair costs as a way to verify the estimated costs within the analysis. Get Notes and Drawings for future reference. Get adequate information to correctly categorize each contested asset.
5. Inform the Price Segregation Study Preparer
Request a copy of the Cost Segregation Study Report, if not done for the Risk Analysis. Refer to this IDR Exhibits in Special Topics Chapter 6.7 -- Information Document Requests for suggested language. Request a copy of the lien of Engagement to determine the scope of the research. Determine the Type of the Fee Arrangement. Many firms charge a fee based primarily on the size of the project. Out-of-pocket costs are generally added into this price tag. Some firms utilize contingency fees where cost is based primarily on the taxation benefits received in a analysis. Contingency fee agreements make the incentive to optimize § 1245 prices, and usually during "competitive" legal interpretations and/or by improper cost or estimation techniques. Accordingly, should carefully inspect studies conducted on contingency prices. Refer to Circular 230. Assess the analysis with respect to its depth, accuracy and methodology and look at these questions: What methodology has been used (see Chapter 3 -- Price Segregation Procedures)? Exactly how can the study and report compare to the superior elements clarified in Chapter 4 -- Primary Elements of a Quality Cost Segregation Study and Report? Describe the Fee Allocation Process Found from the Study and the Source of almost any Unit Costs. These questions will help in specifying the fee Allocation Process: How were prices? Were actual expenses or quotes used? How were unit costs ascertained? Determine Whether Cost Foundation was Correctly Allocated to land, non-depreciable land developments (clearing, grubbing, standard property grading) or alternative property types aside from people believed by the analysis. Consider whether any job costs were allocated to land or property developments. Many studies allocate almost all costs to construction and personal belongings, instead of devoting proper amounts to land, land developments or other long lived assets. In the case of acquired land, it's frequently right to assign a huge part of an acquisition price to property prior to devoting the remaining cost price to additional land.
Summarize Your Preliminary Findings.
Inspection the descriptions from the Home Unit Detail schedule to determine the sort of property in each unit (or group). Inspection the respective assets in each Residence Unit Detail schedule. Is every asset categorized precisely? (The advantage matrices included in Chapter 7 can be of wonderful help in this review) Is your land comprised in the proper Asset Class? Are there some deviations that might indicate a possible audit situation? Identify certain resources that might have to be viewed over the course of a tour of the facility.
Generally speaking, the Service Engineer (if assigned) is in charge of arranging the on-site inspection, which gives you the possibility to view the assets in question. Overall, the review provides information to aid in ascertaining classifications of § 1245 and § 1250 property.
In reviewing a Cost Segregation Study Report for hazard analysis purposes, one must read the document to get a general understanding of the analysis methodology and the property classifications produced there. These measures are indicated when reviewing a price segregation account for risk analysis functions:
Background about the topic residenceA explanation of the methodology used by the preparerDetails concerning the assets categorized from the analysisThe applicable class lives and recovery periods of their assetsThe rationale and jurisdiction for the land categories generated from the Study.
Common situations implying audit potential comprise:
3. Conduct A Risk Analysis to Judge Audit Potential
2. Verify The Cost Basis Along With Get Together Again Depreciation Records
Determine how the analysis assets are displayed on the depreciation schedules. Review Tax Depreciation Schedules to verify that taxation basis reconciles with this analysis and note any gaps. Are fixtures, furnishings and equipment included in the study? Are they currently located on other depreciation or fixed asset schedules? Have these costs been reproduced? Request Ahead Year Tax Depreciation Schedules that Match this study's assets. Do these programs get together again to depreciation for prior year returns? Property siphoned to a shorter recovery period must be depreciated with the proper method pursuant to Internal Revenue Code § 168(b). By way of example, if straight line depreciation was useful for additional property placed in service for a particular recovery period throughout precisely the same year which the reclassified resources were placed in service, then § 168(b)(3) requires that the reclassified assets also have to be depreciated together with the straight-line procedure.
Sometimes, the only way to resolve a question about the appropriate classification of an asset would be to actually inspect the strength as installed from the taxpayer's centre. A review can offer information concerning the examiner on the point and use of an asset in addition to details of the installation and construction of the asset.
Examinersshould get back together the cost basis of property at a study to the cost basis inside the taxpayer's records and books.
Conduct a hazard analysis to appraise the analysis potential and determine audit scope.
STEPS FOR EXAMINING A COST SEGREGATION STUDY AND REPORT
The preceding figures described the legal frame for classifying assets (Chapter 2), shared methodologies used to subtract prices (Chapter 3), and aspects of a quality cost segregation study and study (Chapter 4). This chapter provides suggested mediation steps for assessing and reviewing a cost segregation analysis and document.
Cost segregation studies and adjusted strength reviews generally use cost and documents information prepared for purposes of the construction process; Special Topics Chapter 6.6 -- Structure Process, supplies a brief summary of the construction procedure. Cost segregation studies could be examined using a stepbystep approach. The suggested audit steps below may not apply to most of cost segregation studies, however, each step needs to be carefully considered and determined to be applicable or never before continuing on to the subsequent one.
The right audit steps are contingent on the character and dimension of their cost segregation project as well as on the overall grade of the study. Cost segregation is a factually intensive conclusion that is based on complex tax law and technology investigation. While Examiners may manage to evaluate the adequacy of several cost segregation studies, additional studies might necessitate specialists with expertise, construction or industry experience and specialized training.
Mixed asset types at precisely the exact same unit (or category). (i.e., assets together with different recovery phases). Construction structural components or leasehold improvements categorized by improper shorter-lived § 1245 retrieval periods. Minimal or no dollar numbers assigned to land, non-depreciable land developments, building, or alternative longer-lived assets. Use of "creative" nomenclature, inconsistent titles and/or descriptions to disguise the true character of an advantage. All strength descriptions should be clear and clear. Does the nomenclature employed for assets in the analysis accept the nomenclature employed in the structure records and documents? Request Additional Information (as required) to determine mediation possible. In some cases, it could be more appropriate and efficient for your preparer of this study to respond to the document requests. Supporting documents could consist of personal files, hard copy files, programs, etc... A CAS can help out with seeing computer files not normally viewable on IRS computers. Issue IDRs to find out the type of items not readily known or which are described in the report using an ambiguous description. Request contemporaneous records (permits, design documents, contractor payment records, AIA payment records like G702 and G703, contracts, purchase requests, invoices) to check the costs and descriptions of property as well as to see their operational use. This will facilitate the determination of the suitable strength classification pursuant to Revenue Procedure 87-56. By way of instance, machinery located at a chemical plant is 5-year land instead of 7-year property when it meets the requirements of Asset Class 28.0 (refer to Special Topics Chapter 6.3 -- Depreciation Overview for information about asset classes). Request job information, such as the Capital Expenditure Request (CER) or Authorization for Expenditure (AFE), to verify project expenses and identify related purchases. This information can also help determine the intended use of their property.
Every Cost Segregation Research ought to have a report that outlines the outcome of the cost segregation study. The report should supply:
6. Inspect the Property
An interview with the preparer of the cost segregation study is an efficient means to receive detail regarding the methodology employed for its analysis as well as responses on the classification of debateable assets and also the reasoning behind these types.
Refer to Chapter 4 to get a debate of this principle elements of an excellent cost segregation analysis and study.
Program an Interview together with the Preparer. If at all possible, this is expected to be performed before or contemporaneous with the onsite review. The interview should handle the scope and assumptions of the analysis and any observations of this project or facilities. Possible interview questions contain:Were the possessions inspected during that time of this study? Were photographs and/or video websites shot and/or depended upon in redesigning property? Were sampling techniques used? What cost estimating manuals were utilized? Where would be the manuals located (for purposes of verifying estimates)? What documentation was used to ascertain the fee basis and particular use of a real estate thing? How was the fee of each property item identified, segregated and classified?
Rewards with a cost basis that's suspicious, disputed or unsubstantiated. Assets that were misclassified and awarded an improper retrieval period. The use of improper use methods. Big look-back computations (i.e., the study reveals a big change in method of accounting, with all the yield representing a deduction for depreciation perhaps not deducted from past years). Experts may have to aid in the examination of complex endeavors. It's important that specialists be involved in the audit as early as possible. Informal assistance might also be asked when needed. A report having significant tax impact generally needs the help of specialists. These studies will typically have a high numbers of assets, or complex assets. A report that allocates estimated costs between § 1245 and § 1250 property (especially electrical or pipes component systems) typically needs the assistance of an Engineer who's experienced in construction and construction estimating. Engineers can provide the expertise needed for the appropriate development and resolution of the problem. Studies requiring numerous assets or allocations might require the aid of a CAS to process the data and appraise any statistical sampling methods. Discover the Scope and Depth Your Examination. Risk analysis is a subjective process based on the ability, knowledge and judgment of the examiner. Recommendations offered in the prior chapters will assist Examiners in evaluating the general accuracy and adequacy of a study in addition to in ascertaining audit potential and extent. Studies with little tax impact ought to really be closed expeditiously. Studies with significant tax impact may possibly require specialist aid and ought to be contemplated for additional review and appraisal.
Determine the tax effect of potential audit issues, such as:
See the Total Report with Emphasis on the Property Classifications. Review the Real Estate Components and the Types of Assets. Assets are generally classified by cost segregation studies in to various units or groups of assets and are usually listed in either a "Summary" and also a "Detail" structure. The "Home Unit Summary" is a list outlining the machine Groups by strength class or retrieval period (i.e. property, 3, 5, 7, 10, 15, 20, 27.5 and/or 39-year property.) The "Home Unit Detail" is really a report on those individual assets which contain every Unit Group. This list describes the patient assets and signifies that the price basis of the asset as determined in the analysis. A good instance of a Unit Group is "Kitchen Gear - Pipes" (that's composed of a group of individual assets). For this Unit Group, the Property Unit Detail would list the respective assets (by way of example floor drain, and grease trap, sanitary pipingand sink, water distribution piping, etc.) which compose the "Kitchen Equipment -- Pipes" Unit Group and offer the cost basis of each one of those respective resources as determined in the cost segregation study. Abbreviated methodologies may not classify assets into Unit Groups, Property Unit Summary or Property Unit Detail. Nevertheless, assets should be identified, verified and recorded in a cost segregation report.
The study of the cost segregation dilemma should move whether the danger Analysis identifies audit potential as a result of advantage classifications in the study, and required materiality thresholds of the particular examination are all met.
Risk analysis is the process which compares the potential advantages to be based on examining a specific area to get a tax return with the tools necessary to finish the examination.
The Engineering Program in the Large Business and International (LB&I) business component of the IRS is the primary resource of technical expertise for analyzing price segregation studies. The Computer Audit Specialist (CAS) Software in LB&I is additionally available to give assistance if a study relies on statistical sampling. Formal advice, employing the referral procedure, ought to be swiped through the LB&I web site and the Specialist Referral System (SRS). Informal information through consultation can be available by telephoning your engineering or computer audit pro group. The Senior Revenue Agents in the Deductible and Capital Expenditures Practice Network (DCE PN) will also be readily available to Help Examiners with this issue. Check with the DCE PN web site for uptodate information and guidance on this particular issue or to submit a query.