For several years, real estate investors who had grown accustomed to accelerating depreciation deductions watched the rules shift. The 100% bonus depreciation that had made cost segregation studies so attractive began phasing down, and the analysis changed. That phase-down is now reversed.
Legislation enacted in 2025 restored 100% bonus depreciation permanently for qualified property acquired after January 19, 2025. For real estate investors considering a cost segregation study, that changes the math. But it does not change one underlying reality that often gets lost in the discussion: a large depreciation deduction is only as useful as your ability to actually use it.
This article explains what the change means, when a cost segregation study is worth ordering under current law, and when the numbers still do not add up even with 100% bonus depreciation available.
When a real estate investor purchases a property, the IRS requires that the cost be recovered over a long period: 27.5 years for residential rental property and 39 years for commercial property. That straight-line depreciation produces a modest annual deduction relative to the purchase price.
Cost segregation is a process that reclassifies certain components of a building into shorter depreciation categories. Personal property items like appliances, carpeting, and specialized fixtures typically qualify for 5- or 7-year depreciation. Land improvements such as parking lots, landscaping, and fencing typically qualify for 15-year depreciation. Reclassifying these components accelerates the deductions into earlier years of ownership rather than spreading them over the full 27.5- or 39-year life of the building.
Bonus depreciation layers on top of that. When bonus depreciation applies at 100%, qualified property in those shorter-life categories can be fully expensed in the year it is placed in service rather than depreciated over its recovery period. For a property with a meaningful amount of reclassifiable components, that can produce a very large deduction in the first year of ownership.
The 2025 law change restored this 100% rate permanently for qualified property placed in service after January 19, 2025. Prior to that restoration, the bonus rate had been phasing down: 80% in 2023, 60% in 2024, and on a trajectory toward zero. The restoration brings the rate back to its original level under the Tax Cuts and Jobs Act of 2017.
Further reading:
→ IRS guidance on bonus depreciation and qualified property: IRS.gov — Bonus Depreciation
→ IRS overview of depreciation and cost recovery: IRS Publication 946 — How to Depreciate Property
A large depreciation deduction is only as useful as your ability to actually use it. That is the part of the conversation that too often gets skipped.
Cost segregation studies are regularly marketed to real estate investors as a straightforward tax-saving tool. The math is usually presented simply: order a study, reclassify components, take a large first-year deduction, reduce taxable income. That sequence is accurate as far as it goes.
What it omits is the passive activity framework that governs most rental real estate. The IRS classifies rental activity as passive for most taxpayers. Passive losses can generally only offset passive income. If a taxpayer does not have sufficient passive income to absorb the losses, the unused deductions are suspended and carried forward to future years. They do not disappear, but they also do not reduce W-2 income, business income, or investment income in the current year.
This means a cost segregation study that generates $200,000 in depreciation deductions may produce $200,000 in suspended passive losses that sit on the books for years before they can be used. The study was not wasted — the losses will eventually be released, typically when the property is sold — but the timing benefit that made the study attractive may not materialize on the schedule the investor expected.
There are two situations where the passive activity constraint is reduced or eliminated: taxpayers with sufficient passive income from other sources to absorb the losses, and taxpayers who qualify as real estate professionals under the tax code and materially participate in their rental activities. Real estate professional status allows rental losses to offset any type of income without limitation. Qualifying requires meeting two tests: more than half of total personal services during the year must be in real property trades or businesses in which the taxpayer materially participates, and those services must total more than 750 hours. That is a meaningful threshold that excludes most investors with full-time careers outside real estate.
With 100% bonus depreciation restored, the cost segregation analysis is most compelling for investors who can actually use the accelerated losses in the year they are generated. Several situations tend to produce a genuine near-term benefit.
Investors with significant passive income from other sources — other rental properties, partnership distributions, or similar passive activity income — can absorb the losses produced by a cost segregation study against that income, generating a real reduction in current-year taxes rather than a deferred benefit.
Investors who qualify as real estate professionals and materially participate in their rental activities can use the losses without limitation against any income. For these investors, a cost segregation study on a newly acquired or recently renovated property can produce substantial current-year tax savings.
Investors planning a property sale in the near term may also find a study worth reviewing. When a property is sold in a fully taxable transaction, suspended passive losses are generally released and become fully deductible in the year of sale. An investor approaching a sale who has accumulated suspended losses may find that the study accelerates deductions that would have been released anyway on exit.
The cost of the study itself also matters in the analysis. Studies typically run several thousand dollars depending on property size, age, and complexity. The value of the accelerated deductions — discounted for the likelihood and timing of actual usability — should exceed that cost before the study makes economic sense.
Two simplified examples illustrate how differently the analysis can look depending on the investor’s situation.
Hypothetical: A self-employed consultant in Texas with steady annual net profit of $180,000.
Hypothetical: A real estate professional who materially participates in her rental portfolio acquires a $1.2 million residential rental property.
• A cost segregation study identifies $180,000 of components qualifying for 5-, 7-, and 15-year depreciation.
• With 100% bonus depreciation available, the full $180,000 is deductible in the year the property is placed in service.
• Because she qualifies as a real estate professional and materially participates, the losses are not passive and can offset her other income without limitation.
• At a combined federal and state marginal rate of approximately 45%, the $180,000 deduction produces an estimated tax benefit of $81,000 in year one.
• Study cost: approximately $5,000. Net estimated benefit after study cost: roughly $76,000.
Key assumptions: investor qualifies as a real estate professional and meets material participation tests, 100% bonus depreciation applies to qualifying components, combined rate is illustrative only. Actual results depend on specific facts, current rates, and state tax treatment.
Hypothetical: A W-2 employee with $280,000 in salary acquires a $900,000 rental property as an investment alongside his primary career.
• A cost segregation study identifies $130,000 of components qualifying for accelerated depreciation under bonus depreciation rules.
• The $130,000 deduction is generated in year one.
• His modified adjusted gross income exceeds $150,000, so the $25,000 active participation allowance is fully phased out. He does not qualify as a real estate professional.
• The $130,000 in losses is passive and cannot offset his W-2 income. The losses are suspended and carried forward.
• The deductions will eventually be usable — when the property generates passive income, when he acquires passive income from other sources, or when the property is sold. But the near-term tax benefit is zero.
• Study cost: approximately $4,000. Near-term net benefit: negative, with a deferred benefit of uncertain timing.
Key assumptions: no passive income from other sources, investor does not qualify as a real estate professional, $25,000 allowance is phased out. Actual results depend on specific facts and circumstances.
Does the bonus depreciation restoration apply to properties I already own?
The restoration applies to qualified property placed in service after January 19, 2025. For properties already owned and placed in service before that date, the prior phase-down rules apply to the year the property was placed in service, not retroactively. However, cost segregation can still be relevant for older properties in some situations, particularly if the study was never done and the investor is approaching a sale where suspended losses would be released.
A look-back cost segregation study, filed using IRS procedures for accounting method changes, can sometimes allow investors to claim previously unclaimed accelerated depreciation on older properties without amending returns. Whether that approach makes sense depends on the specific facts and the investor’s ability to use the resulting losses.
What qualifies for bonus depreciation in a real estate context?
Not all components of a building qualify. The building structure itself does not qualify for bonus depreciation under current law — residential and commercial real property is specifically excluded. What qualifies is personal property and land improvements with shorter recovery periods: appliances, carpeting, specialized lighting, parking lots, landscaping, and similar items that can be identified and segregated from the structure through a cost segregation study.
The study is what makes the classification defensible. Claiming accelerated depreciation without a supporting engineering-based study creates documentation risk. The IRS expects that component classifications are supported by a detailed analysis of the property.
→ IRS guidance on depreciation of rental property: IRS.gov — Rental Income and Expenses
What happens to the deductions when I sell the property?
Two things happen at sale that relate directly to cost segregation. First, suspended passive losses accumulated over the holding period are generally released in full in the year of a fully taxable disposition. An investor who has been unable to use passive losses while holding the property can deduct them in the year of sale, often substantially reducing the taxable gain.
Second, depreciation taken during the holding period — including bonus depreciation claimed through cost segregation — is subject to recapture at sale. Depreciation recapture on real property components is taxed at a maximum rate of 25% as unrecaptured Section 1250 gain, separate from and in addition to capital gains tax on appreciation above the original purchase price. For investors who have taken significant accelerated depreciation, the recapture amount at sale can be substantial.
This does not mean cost segregation was a mistake. Accelerating deductions today and paying recapture tax later still produces a time-value benefit — tax dollars deferred are worth more than tax dollars paid today. But the recapture obligation should be understood and modeled before a sale, not discovered after closing.
How much does a cost segregation study typically cost, and who orders it?
Study costs vary depending on property size, age, construction type, and the complexity of the analysis required. For a straightforward residential rental property, studies commonly run between $3,000 and $6,000. Larger commercial properties or complex mixed-use buildings can run significantly more. The study is typically ordered by the property owner, often in coordination with their tax advisor, and performed by an engineering firm or specialty cost segregation provider. The tax advisor reviews the results to ensure consistency with the tax return and to model the actual impact before the study is filed.
Can I order a cost segregation study on a property I’ve already owned for several years?
Yes, through a process called a look-back study combined with a change in accounting method using IRS Form 3115. This allows investors to catch up on depreciation they could have claimed in prior years without amending those returns. The catch-up deduction is taken in the year of the accounting method change. Whether this makes sense depends on how much unclaimed depreciation exists, the investor’s current ability to use the resulting losses, and the cost of the study. It is not always the right move, but for investors who never did a study on a property with significant reclassifiable components, it is worth evaluating.
Even with 100% bonus depreciation restored, there are situations where a cost segregation study is not the right call.
When losses will be suspended, the near-term tax benefit is zero. An investor with W-2 income, no passive income, and no path to real estate professional status will generate suspended losses that sit on the books until the property is sold or passive income develops. The study may still have long-term value, but the timing benefit that makes it compelling is not there.
When the property has limited reclassifiable components, the study may not produce enough accelerated depreciation to justify its cost. Properties that are primarily land, unimproved structures, or assets that have already been heavily depreciated may not have enough qualifying components to make the math work.
When a sale is imminent and not structured as a 1031 exchange, the recapture implications deserve careful attention before ordering a study. Accelerating depreciation into the current year only to trigger recapture tax at sale shortly after may not produce a net benefit depending on the timing and the investor’s tax situation.
When the investor is planning a 1031 exchange, the deferred gain and the basis of the replacement property carry forward, including the recapture that would have been triggered on the relinquished property. A study ordered immediately before a 1031 exchange should be modeled carefully, because the depreciation benefit and the recapture interaction across both properties affect the analysis.
The restoration of 100% bonus depreciation is a genuine change that reopens analysis that many investors had set aside. For investors who acquired properties after January 19, 2025, or who are considering acquisitions, the question of whether a cost segregation study makes sense is worth revisiting with current numbers.
The most important question is not whether the study will generate large deductions. It almost certainly will. The question is whether those deductions will be usable in the near term, deferred to some point in the future, or released at sale. That answer depends on the investor’s full tax picture — participation status, passive income from other sources, and the anticipated holding period — not just the size of the study’s output.
For investors who have never had a detailed conversation about how their rental losses are being treated, or who assumed that depreciation deductions were automatically reducing their tax bill without knowing whether they were being suspended, this is a good moment to get that picture clarified.
The combination of cost segregation and bonus depreciation is one of the more powerful tools available to real estate investors who can use it. The operative phrase is ‘who can use it.’ Getting that answer right before ordering a study is as important as the study itself.
Want a clearer picture of how depreciation is being handled in your rental portfolio?
Download Where Tax Returns Go Wrong — a short guide to common gaps in more complex returns, including real estate activity, passive losses, cost segregation, and planning coordination.
This article is general educational content. It is not tax advice and does not address any individual’s specific tax situation. Tax laws change; the bonus depreciation provisions discussed here reflect legislation enacted in 2025 and related IRS guidance. Verify current law and consult a qualified tax professional before making any decisions based on what you read here.
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