Service boundary: Education only. Monaco CPA does not provide real-estate accounting or cost-segregation coordination. No deduction amount or tax outcome is promised; use independent engineering and tax providers.
Updated for the One Big Beautiful Bill Act (P.L. 119-21, signed July 4, 2025) - Key 2026 changes reflected in this article: SALT cap raised to $40,000 for 2025 ($40,400 for 2026, phase-down above $505K MAGI) • 100% bonus depreciation made permanent • QBI deduction made permanent • New deductions for tips, overtime, and seniors • Federal estate exemption permanently set at $15M under OBBBA (NJ has no estate tax post-2018; NJ inheritance tax still applies by beneficiary class) • NJ does not conform on bonus depreciation, federal tips deduction, federal overtime deduction, senior bonus deduction, or Trump Accounts (§530A/§128/§6434). Last reviewed: March 2026 by Greg Monaco, CPA
In This Article
- The Short Answer
- What Is Cost Segregation?
- OBBBA and Permanent 100% Bonus Depreciation
- The NJ Trap: No Bonus Depreciation, $25,000 Section 179 Cap
- Factors in a Property-Specific Cost-Segregation Analysis
- Cost Segregation and 1031 Exchanges
- The Cost Segregation Process
- Lookback Studies for Existing Properties
- Who Should Not Do Cost Segregation
- Federal vs. NJ Depreciation Summary Table
- Why Independent Specialist Review May Be Needed
- Frequently Asked Questions
- Ready to File With Confidence?
Disclaimer: This article is educational and does not constitute tax advice or create a CPA-client relationship. Consult a licensed CPA before filing. Circular 230 applies.
The Short Answer
Combined with the applicable bonus-depreciation rules, reclassification can change first-year federal depreciation; the amount depends on the property-specific engineering study and tax facts.
What Is Cost Segregation?
Standard depreciation treats a building as a single asset. A residential rental property depreciates over 27.5 years under IRC Section 168(c). A commercial property depreciates over 39 years. Every component - the roof, HVAC, electrical, plumbing, carpet, appliances, landscaping, parking lot - all depreciate at the same slow rate.
A cost segregation study, performed by an engineering firm, identifies components that qualify for shorter depreciation lives under the Modified Accelerated Cost Recovery System (MACRS):
| Component Category | MACRS Life | Examples |
|---|---|---|
| Personal property (Section 1245) | 5 years | Carpeting, appliances, decorative fixtures, specialty electrical, signage |
| Personal property (Section 1245) | 7 years | Office furniture, certain HVAC components, security systems |
| Land improvements (Section 1250) | 15 years | Parking lots, sidewalks, landscaping, fencing, site drainage, exterior lighting |
| Building structure (Section 1250) | 27.5 or 39 years | Structural walls, foundation, standard plumbing, standard electrical |
A typical cost segregation study reclassifies 15-40% of a building's cost to shorter-lived categories. On a $1 million commercial property, that's $150,000-$400,000 moved from 39-year to 5, 7, or 15-year depreciation schedules.
OBBBA and Permanent 100% Bonus Depreciation
The Tax Cuts and Jobs Act of 2017 introduced 100% bonus depreciation under IRC Section 168(k), allowing immediate expensing of qualified property in the year it's placed in service. The OBBBA permanently restored 100% bonus depreciation for qualified property acquired and placed in service after January 19, 2025. The previous TCJA phasedown schedule (80%→60%→40%→20%→0%) was repealed. NJ still does not conform - the federal bonus is added back and depreciation is recomputed under regular MACRS without the bonus for NJ purposes.
The One Big Beautiful Bill Act (OBBBA), signed into law on July 4, 2025, made 100% bonus depreciation permanent. Eligible property acquired and placed in service after January 19, 2025 may qualify for 100% bonus depreciation under the OBBBA. Eligibility and basis allocation remain property-specific.
What This Means for Cost Segregation
Before OBBBA, the value of cost segregation was declining because bonus depreciation was phasing out. A study done in 2025 only captured 40% bonus depreciation on reclassified components. The restored 100% rate changes the federal timing comparison for eligible reclassified components; it does not establish that a study is appropriate or produce a promised result.
For a $1 million commercial property with 30% of costs reclassified to 5 and 7-year property and 10% to 15-year property:
| Approach | Year 1 Federal Depreciation |
|---|---|
| Standard depreciation (39-year) | ~$25,641 |
| Cost segregation WITHOUT bonus depreciation | ~$73,000 (accelerated MACRS on reclassified components) |
| Cost segregation WITH 100% bonus (OBBBA) | ~$400,000 (immediate expensing of all reclassified components) |
The stated assumptions produce a $374,000 first-year deduction difference. Multiplying that difference by 37% equals $138,380, but that is a single-rate illustration rather than a return-level tax saving; limitations, passive-activity rules, recapture, state adjustments, and other facts are omitted.
The NJ Trap: No Bonus Depreciation, $25,000 Section 179 Cap
Here is where NJ property owners get caught. New Jersey does not conform to federal bonus depreciation. Period. NJ also caps Section 179 deductions at just $25,000 (compared to $2,560,000 federally in 2026, after the OBBBA doubled the base limit).
NJ Depreciation Rules
- No bonus depreciation: NJ requires you to add back any federal bonus depreciation claimed under IRC Section 168(k). You then depreciate the property over its regular MACRS life for NJ purposes.
- Section 179 cap: NJ limits Section 179 expensing to $25,000, regardless of the federal limit. Any federal Section 179 deduction above $25,000 must be added back for NJ.
- NJ recovery: The bonus depreciation you added back on your NJ return is recovered over the remaining MACRS life of the asset. So you're not losing the deduction permanently - you're spreading it over more years.
Example: $1M Commercial Property in NJ
| Federal | New Jersey | |
|---|---|---|
| Standard 39-year depreciation | $25,641 | $25,641 |
| Reclassified to 5/7/15-year (cost seg) | $400,000 (with bonus) | Varies by MACRS schedule |
| Year 1 deduction with cost seg + bonus | ~$400,000 | ~$73,000 (no bonus, regular MACRS) |
| NJ add-back required | N/A | ~$327,000 (bonus depreciation add-back) |
| NJ recovery of add-back | N/A | Spread over remaining MACRS life |
In Year 1, your federal taxable income is $374,000 lower than it would be with standard depreciation. But your NJ taxable income is only about $47,000 lower ($73,000 accelerated MACRS minus $25,641 standard). The NJ add-back creates a situation where you owe significantly more NJ tax in the early years than your federal return would suggest.
Multiplying the illustrative $327,000 add-back by 10.75% equals $35,152.50. That is a single-rate arithmetic illustration, not an actual NJ liability; brackets, limitations, entity treatment, later recovery, and the complete return determine the result.
Factors in a Property-Specific Cost-Segregation Analysis
A property-specific analysis compares federal timing, NJ add-backs and recovery, passive-activity limitations, recapture, study cost, holding period, and the complete return. No typical benefit or breakeven is stated.
Properties Over $750,000
Independent study fees vary with property size and complexity. Property value alone does not establish a breakeven; compare the engineering scope, reclassified basis, limitations, holding period, recapture, state treatment, and complete return.
Rental Properties (27.5-Year to 5/7/15-Year)
Residential rental property uses a 27.5-year baseline while commercial property generally uses 39 years. Reclassification and bonus eligibility change timing, but the direction and usable effect depend on the property and taxpayer facts.
High-Income Property Owners
Subtracting 10.75% from 37% and multiplying the 26.25-point difference by $300,000 yields $78,750. This simplified rate illustration omits federal and NJ brackets, passive-loss limits, QBI, recapture, basis recovery, and other return items, so it is not a net tax benefit.
Properties Held for 5+ Years
The NJ add-back is recovered over the MACRS life of the reclassified components. A sale before the NJ depreciation schedule catches up can leave a remaining federal/NJ basis difference. The effect depends on the actual recovery schedules, holding period, disposition, and recapture rules; no minimum holding period is recommended.
Cost Segregation and 1031 Exchanges
Under IRC Section 1031, you can defer gain on the sale of investment property by exchanging it for like-kind property. Cost segregation interacts with 1031 exchanges in important ways:
- Depreciation recapture: When you sell a property on which you've claimed accelerated depreciation, the reclassified Section 1245 personal property is subject to ordinary income recapture under IRC Section 1245 (taxed at ordinary rates, not capital gains rates). A 1031 exchange defers this recapture.
- Step-up on replacement property: The replacement property in a 1031 exchange inherits the deferred gain, but a new cost segregation study on the replacement property can restart accelerated depreciation on the new building's components.
- NJ 1031 rules: NJ generally conforms to federal 1031 exchange treatment, but the depreciation recovery differences mean the NJ gain calculation on a deferred exchange may differ from federal. NJ add-backs carried forward must be tracked through the exchange.
The Cost Segregation Process
Step 1: Feasibility Analysis
An independent specialist may review property type, depreciable basis, acquisition and placed-in-service dates, engineering records, and tax limitations. Monaco CPA does not provide or coordinate that analysis.
Step 2: Engineering Study
A qualified cost segregation firm inspects the property and reviews construction documents to classify each component. The study produces a detailed report identifying every reclassified asset, its cost, and its MACRS recovery period.
Step 3: Tax Return Integration
The cost segregation study results get integrated into federal and NJ tax returns, including the appropriate NJ add-back schedules, depreciation recovery calculations, and Form 4562 (Depreciation and Amortization). Federal depreciation and the NJ adjustment schedules must be computed consistently from the supported study. The return result is fact-specific and no outcome is promised.
Step 4: Ongoing Tracking
Each year, the federal vs. NJ depreciation basis differences need to be tracked, the correct recovery amounts applied, and the remaining NJ add-back recovery schedule projected. This ongoing tracking is critical and is something most DIY approaches miss entirely.
Lookback Studies for Existing Properties
You don't need to have purchased the property this year to benefit. A "lookback" cost segregation study can be performed on properties acquired in prior years. Under IRS Revenue Procedure 2025-23 (automatic change in accounting method), you can claim the cumulative catch-up depreciation in a single year without amending prior returns. This is filed using Form 3115 (Application for Change in Accounting Method).
For a property purchased in 2020 with $200,000 in reclassifiable components, the lookback study would allow you to claim 5-6 years of missed accelerated depreciation in a single deduction on your 2026 return. The OBBBA bonus-depreciation rules can change the federal timing computation for eligible property; they do not establish a typical benefit.
Who Should Not Do Cost Segregation
- Smaller depreciable basis: Compare the independent study fee with the property-specific timing computation; no $500,000 cutoff or fee breakeven is universal
- Short holding periods: Depreciation recapture and unrecovered federal/NJ basis differences can change the timing computation; no holding period guarantees a result
- Passive activity loss limitations: Under IRC Section 469, passive losses (including rental depreciation) can only offset passive income unless you qualify as a real estate professional under IRC Section 469(c)(7). Cost segregation accelerates deductions, but those deductions are trapped as suspended passive losses if you can't use them
- Owner-occupied primary residences: Depreciation is not allowed on personal-use property
Federal vs. NJ Depreciation Summary Table
| Item | Federal (2026) | New Jersey (2026) |
|---|---|---|
| 100% bonus depreciation (Section 168(k)) | Yes - permanent under OBBBA | No - full add-back required |
| Section 179 expensing limit | $2,560,000 | $25,000 |
| MACRS depreciation (regular) | Yes | Yes (conforms to federal MACRS schedules) |
| Cost segregation reclassification | Fully allowed | Allowed (shorter MACRS lives apply) |
| Bonus depreciation on reclassified components | Yes (100%) | No (must use regular MACRS) |
| Recovery of NJ add-back | N/A | Over remaining MACRS life of each component |
For current IRS guidance on bonus depreciation under the OBBBA, see IRS Publication 946 (How to Depreciate Property) (opens in a new tab).
Why Specialist Support Matters
Cost segregation is not a DIY project. The engineering study is performed by specialists, and integrating supportable results into federal and NJ returns requires a tax professional who understands both jurisdictions.
A complete engagement addresses the calculations, engineering report, return integration, and NJ-specific basis tracking. Monaco CPA does not provide real-estate accounting or cost-segregation coordination; engage independent specialists for this work.
Frequently Asked Questions
Does New Jersey allow cost segregation?
NJ allows the reclassification of building components to shorter MACRS lives (5, 7, 15 years). What NJ does not allow is bonus depreciation on those reclassified components. You can use regular accelerated MACRS depreciation rates for NJ purposes, but you must add back any federal bonus depreciation claimed under Section 168(k). The add-back is recovered over the remaining MACRS life of each asset.
How much does a cost segregation study cost?
Independent study fees vary with property size, complexity, and type. There is no universal property-value breakeven or fee multiple; reclassified basis, limitations, holding period, recapture, state adjustments, and the complete return determine the effect.
Can I do a cost segregation study on a property I bought years ago?
Yes. A lookback cost segregation study can be performed on properties acquired in prior years. The cumulative catch-up depreciation is claimed in a single year using Form 3115 (Change in Accounting Method) under IRS Revenue Procedure 2025-23. You do not need to amend prior returns. The OBBBA may change the timing computation for eligible property, but no benefit is promised.
Does cost segregation trigger depreciation recapture when I sell?
Yes. Reclassified Section 1245 personal property (5 and 7-year assets) is subject to ordinary income recapture under IRC Section 1245 when sold. This means the depreciation you claimed is "recaptured" and taxed at ordinary income rates (up to 37% federal) rather than the 25% Section 1250 recapture rate that applies to standard building depreciation. A 1031 exchange defers this recapture. An independent specialist should include potential recapture and disposition assumptions in the property-specific analysis.
How does the NJ BAIT election interact with cost segregation?
If you hold rental property through a pass-through entity (S-Corp, partnership, or LLC) that elects the NJ Business Alternative Income Tax (BAIT), the NJ depreciation add-back affects the entity's BAIT calculation. The entity pays NJ tax at the entity level on income that includes the depreciation add-back, and the owners receive a credit on their personal NJ returns. The NJ add-back mechanics are the same, but the entity-level payment and personal credit add complexity. Learn about the NJ BAIT election.
Is 100% bonus depreciation really permanent now?
Yes. The OBBBA (P.L. 119-21, signed July 4, 2025) made 100% bonus depreciation under IRC §168(k) permanent for qualified property PLACED IN SERVICE after January 19, 2025 (OBBBA §70301). Property acquired under a binding contract dated before January 20, 2025 but placed in service in 2025 remains subject to the TCJA phasedown (40% in 2025 for that subset). The September 27, 2017 date is the original TCJA effective date - OBBBA did not retroactively apply to 2017 or 2023. There is no phase-down going forward under OBBBA. Congress could change this in the future, but as of 2026, 100% bonus depreciation is permanent for placements on or after January 19, 2025.
More NJ Tax Comparisons: LLC vs. S-Corp in New Jersey | NJ BAIT vs. SALT Cap 2026 | Sole Prop vs. LLC vs. S-Corp in NJ | TurboTax vs. CPA in NJ | View All Comparisons
Related educational reading: NJ Tax Calendar | NJ Capital Gains Tax | Airbnb NJ Tax Guide
Scope of This Guide
Tax rules change frequently. This article is educational only and is not an offer of real-estate accounting or cost-segregation services.