Cost Segregation on Commercial Property: A $2 Million Office Building Example

Commercial buildings depreciate over 39 years, the slowest schedule in the tax code for real property. That makes them a strong fit for cost segregation. This example walks through one office building. The numbers are illustrations, not a forecast for your property. Your CPA should confirm how the rules apply to you.

If you are new to the topic, start with the complete guide to cost segregation.

The property

Purchase price: $2,000,000 for a small multi-tenant office building
Land allocation: $300,000 (15%), based on the county assessment ratio
Depreciable building basis: $1,700,000
Placed in service: 2026, acquired after January 19, 2025

Land does not depreciate, so only the $1,700,000 is in play.

Without a study

Nonresidential real property is depreciated straight-line over 39 years:

$1,700,000 / 39 = about $43,600 per year

With a study

Assume an engineering-based study finds that 22% of the building basis, or $374,000, belongs in shorter categories:

Category	Recovery period	Illustrative cost
Tenant improvements that are not structural, specialty electrical and data, removable fixtures	5 and 7 years	$214,000
Parking lot, sidewalks, site lighting, landscaping	15 years	$160,000
Structure and building systems that stay with the building	39 years	$1,326,000

The 22% is an assumption for this example. Actual results depend on the building, its fit-out and the documentation behind each item. Our article on reclassification percentages explains why they vary.

Property with a recovery period of 20 years or less can qualify for bonus depreciation. The IRS describes the current rule in Notice 2026-11: a permanent 100% additional first-year deduction for qualifying property acquired after January 19, 2025. So the $374,000 can be deducted in year one, and the remaining $1,326,000 is depreciated over 39 years.

Year-one depreciation with the study:

Bonus on 5, 7 and 15-year property: $374,000
Straight-line on the remaining structure: $1,326,000 / 39 = $34,000
Total: about $408,000

That is about $364,400 more than the $43,600 baseline. These figures are rounded and ignore the mid-month convention, which would trim the structure's first-year amount.

What the extra deduction is worth

Federal marginal rate	Approximate year-one tax effect
24%	$87,500
32%	$116,600
37%	$134,800

State tax, the net investment income tax and other items change the result. The deduction does not create more total depreciation. It moves deductions into earlier years.

Can you use the deduction?

Three questions decide that.

Who uses the building? If your own business occupies the building, the depreciation can offset business income. If you rent it out, rental losses are generally passive and offset passive income, with limits against wages. Real estate professionals who materially participate are treated differently. The complete guide summarizes these tests. Do you have taxable income to absorb it? A large deduction with no income against it creates a loss that carries forward. Planning the timing of the study with your CPA matters. Is the building held in a structure that passes the losses through? Partnerships and S corporations pass depreciation to owners, who face their own basis and passive limits.

What happens when you sell

Depreciation lowers your basis, and the IRS recovers part of it at sale:

Gain attributable to the 5, 7 and 15-year property is recaptured as ordinary income, up to the depreciation you claimed.
Gain attributable to straight-line depreciation on the structure is unrecaptured section 1250 gain, taxed at a maximum 25% federal rate.

A long hold, a 1031 exchange, or other planning may soften the effect. See depreciation recapture on rental property.

Already own the building?

If you bought it in a prior year and never did a study, you can generally still claim the missed depreciation without amending returns by filing Form 3115 and taking a section 481(a) adjustment in the year of change. Read about look-back studies.

What the IRS looks for

The IRS's Cost Segregation Audit Techniques Guide, Publication 5653, tells examiners how to evaluate a study. It describes the detailed engineering approach as one of the methods to expect and says there is no bright-line test for separating section 1245 from section 1250 property. Keep a study that lists each asset, its cost basis, and how the cost was derived.

Check your own numbers

Use the ROOM42 calculator for a quick estimate on your property, or see pricing for what a study costs.