The Norris Group Real Estate Podcast

Maximizing Real Estate Returns Through Cost Segregation with Sean Graham | Part 2 #930

• The Norris Group, Craig Evans

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In Part 2 of our conversation wtih Sean Graham, Founder of Maven Cost Segregation Tax Advisors, we dive deeper into powerful tax strategies, focusing on cost segregation and accelerated depreciation. Sean explains the Look Back Strategy and how it can help amend past tax returns, shares insights on renovations and CAPEX opportunities, and outlines how cost segregation applies to new construction. We also discuss the importance of working with trusted professionals and reveal the biggest red flags to watch for in tax advice. 


Sean is an entrepreneur, investor, and registered CPA with a background in public accounting and private equity. He manages a portfolio of residential rentals and invests in self-storage developments. Sean is also the founder of Maven Cost Segregation Tax Advisors, a national leader in cost segregation services for commercial real estate. His expertise in real estate taxation helps investors accelerate depreciation and maximize after-tax returns.



In this episode:

  • Cost Segregation & Depreciation Strategies: How investors can accelerate depreciation to maximize after-tax returns.
  • Look Back Strategy: Understanding how this approach works and its impact when amending prior tax returns.
  • Identifying value-add improvements that can boost property performance and tax benefits.
  • Cost Segregation in New Construction
  • Why experienced tax and cost segregation experts are essential for accuracy and compliance.
  • Biggest Red Flags in Tax Advice : Common pitfalls to watch for when receiving tax guidance.




The Norris Group originates and services loans in California and Florida under California DRE License 01219911, Florida Mortgage Lender License 1577, and NMLS License 1623669.  For more information on hard money lending, go www.thenorrisgroup.com and click the Hard Money tab.


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Narrator:

Welcome to The Norris Group real estate podcast, a show committed to bringing you insights from thought leaders shaping the real estate industry. In each episode, we'll dive into conversations with industry experts and local insiders, all aimed at helping you thrive in an ever-changing real estate market. continuing the legacy that Bruce Norris created, sharing valuable knowledge, and empowering you on your real estate journey. Whether you're a seasoned pro or a newcomer, this is your go-to source for insider tips, market trends and success strategies. Here's your host, Craig Evans.

Joey Romero:

The Norris Group is proud to present our 18th annual gala. I Survived Real Estate at The Nixon Presidential Library on Friday, September 12. Since 2008, our event has raised well over a million dollars. This year, we'll be raising funds again from Make-A-Wish OC and IE. Individual Tickets are available now. To get your tickets, go to isurviverealestate.com click the link here in the card. We would like to thank the following platinum sponsors, uDirectIRA Services, The San Diego Creative Investors Association, DouglasBrooke Homes, MVT Productions, Realty411, and DBL Capital.

Craig Evans:

Hey guys, welcome back part two of cost segregations with Sean Graham. Let's get started. I've had this asked a few times. I'd love for people to hear it. So what kind are, so you've got somebody that does a cost seg, and they, seven years later, five years later, five years later, decide, hey, we're gonna go and sell this property, you know, so, if you're gonna invest in the cost segregation, what is kind of a timeframe that you typically see, and is it, maybe that's based on the size of the project, you know? But, what's the timeframe that you believe they should hold before they start saying, hey, well, you know, we, we did all this work. We've saved you all this in depreciation, and now you got to pay a catch up, because you've sold it.

Sean Graham:

Yeah.

Craig Evans:

You've got to catch that up. So, what do you recommend to your clients in that process?

Sean Graham:

Yeah, so I think just to for the your listeners, just so they're on the same page as well. What happens is, you know, depreciation is really it's a tax deferral. It's a tax deferral strategy, meaning it's not a permanent expense. So if you take $100,000 in depreciation, let lowers your taxable, lowers your lowers your basis in the property by$100,000 and when you go sell the property, that comes back as a gain, and so there's different ways to offset that gain and to keep kicking the can down the road, down the road. But if you just sell the property outright, like you know, you're gonna have to pay depreciation recapture on that. Now, I think, like, what I always say to clients is, you know, it's less about the time and it's more about what your strategy is. Are you in real estate for the long run? Do you continue? Are you going to plan to continue invest in real estate? Are you going to hold this property for multiple years? Like, what is your overall strategy, because if your property, if you're plan simply to buy rental property and then fix it up or something, and, you know, have it for like, a year or two years, and then you sell it and, like, that's it, well, that recapture is going to come back, and you're going to have to pay taxes on it. And there you go. So just be prepared to do that. Now, if you're going to reinvest in real estate through 1031 exchange buy another property, you just roll the funds forward into another property. Or let's just say you have multiple properties that you're buying, and so if you sell one, well, that's okay, because you have so much depreciation on the others that you can use that to offset the recapture and the gains on the other right? So that's a great strategy as well. Or you just hold on to these things until you die and they pass on, and then, you know, everything gets reset anyway. So it's a great, great strategy for mitigating your taxes. But ideally, you hold this, you would hold the properties for a couple of years, I would say that's kind of my default answer, but it comes down to a situational basis.

Craig Evans:

Tell me about the Lookback Strategy. It really doesn't require amending tax returns. If I'm understanding

Sean Graham:

It's a beautiful thing. Yeah. So what you're all that correctly? referring to is called, we use form 3115, which is a change in accounting method. So this means that rather than redoing the tax returns, let's just say, like, you've been doing straight line depreciation for the past five years, and then you're like,'Oh, I just learned about cost segregation. I want to do a cost segregation study.' Well you can do it in the current year without going back and amending the prior five years returns. You can do all this in capture that missed depreciation. We help you calculate the difference of what you actually took on your depreciation schedule versus what you could have taken. And that difference is called the 481, adjustment, and it goes on form 3115, it's a very complex form, I'd highly recommend either working with us or, you know, a CPA firm who really knows how to fill that out correctly, because you want to do it the correct way, but it allows you, it's an automatic change, and this is switching from straight line depreciation to accelerated depreciation is an automatic change, and the IRS allows you to take this difference on the current year and capture all that. So that's really cool, because, you know, I said there's multiple ways to take advantage of these depreciation losses, but like, if you didn't need them in prior years, then now you need it this year, so you can catch up on it now and take all those losses in the current year. Or if you were a real estate professional in the past, but you're a real estate professional now, well, okay, you can take those losses now and they count as active losses, and you can use them to offset all kinds of things in the current year through real estate professional status. So there's some interesting, interesting things there.

Craig Evans:

How are, how are renovations and CAPEX opportunities often overlooked through this scenario?

Sean Graham:

I explain it like, like this, when you are depreciating a property, everything, it's based on a depreciation schedule, which is your based on your in service state. And so let's say you buy a property and then you fix it up, you put all these capital expenditures into it, and then you rent it out. Well, we can include all of that capex in the cost segregation study, because it's all getting placed into service on the same date. So you buy a property in January, you fix it up, you rehab it, and then you're ready to rent it out. You place it all in service in April. Well, we can include what you bought in January, plus all the rehab from January through April. Include it all in one basis, and put it into the cost segregation study, right? And then you start depreciating it on your in service date, which is really when you either start renting it out, or it's basically available for rent, and you're trying to rent it out, and so all that gets included, anything that's done afterwards would typically need it's either it's going to be minimal enough where your CPA can just depreciate it, right, you know, him or herself, and you don't need a full cost segregation study done, right? And it's pretty straightforward, or, let's just say it's six figures of rehab. You spend another couple $100,000 on the property afterwards, we can do another study, like an ancillary cost segregation study for that work too.

Craig Evans:

How would you guys envision using cost segregation, let's say in new construction. Somebody's investing in new construction to, you know, they're, they're buying land, because we do that quite a bit. You know, we've got investors that we deal with quite a bit, whether it's our own equity fund or whether it's other investors directly that will come in. We'll help them find land. We'll build for them. How would a cost seg be beneficial to them in that aspect? Again,SFR, so you're talking about maybe a purchase price of, you know, 250 to 400 depending on the product. So how does that benefit them in a new construction?

Sean Graham:

Yeah, absolutely so if we, I think there's a couple, couple different ways to to look at cost segregation. One is, hey, we have all of the the details in the records, in the prices of the components going into the property right, like that's tracked diligently, and so we're basically on the actuals, detailed engineering based on the actuals. Other way is to look at it in hindsight, like you have this property, like if I buy a single family home and I get a costing study on it, well I don't have all the details of expenses took to build that home that was built a long time ago. I just bought the property, right? And so you're doing an estimate, which is still detailed engineering, but you're backing into those prices and those components. So we can do it either way, but I would encourage you, if you are building a home, to just have everything tracked diligently, right, and then we can, you can submit all that to us, and then we can go through those things and help categorize it correctly and break down those components and accelerate as much as possible. I think the more details that we have, the more we're going to be able to accurately define what can and cannot be accelerated.

Craig Evans:

Can you share an instance where an investor has saved, say, more than 100k off of cost segs?

Sean Graham:

Sure. So, okay, one, one person comes to mind, and this is a client who high income earner family, and he was, he inherited a lot of money. So he inherited a good amount of money. The question is, what do you do with this money? He decided to go into short term rentals, so just for your audience, so they know the IRS deems like I guess, pause on the story real quick. The IRS deems real estate to be a passive activity. Depreciation is a passive loss. So passive losses offset passive income, right? And so they can't be used to offset W-2 income or anything like that. Unless you're a real estate professional. There's something called REPS, you know, Real Estate Professional Status, so something that you have to qualify for, which means you work 750 hours in real estate, and more than anything else, like you're not working a full time job, you're working at least 750 hours a year in real estate and that's your main focus, typically on your rental portfolio. Or there's another thing called a short term rental, short term rental loophole. So short term rentals are very popular because it allows people with W-2 jobs or full time jobs to go into real estate but get the losses as active losses. The IRS says that anything that is less than seven, seven days or less average rental period and you materially participate in it, right? There's material, material participation rules like one of the most common rules is you work at least 100 hours in the property in more than anyone else. So you have 100 hours that can be attributed to this short term rental. You just rent it out for like, one week at a time, or weekends or something like that. You're the one managing it. Well, now those are active losses, and you can use those active losses to offset active income as well. So..

Craig Evans:

So even W-2 income?

Sean Graham:

You can use to offset W-2 income.

Craig Evans:

Okay.

Sean Graham:

Yep, it's very, it's a very unique strategy, because the IRS says, well, this isn't passive. This is an active business that you're managing now. And so this client bought two short term rentals with the money that he inherited. Total basis was, you know, about a million dollars in these two properties, there was a lot of things that we could accelerate the depreciation on, you know, there was a pickleball court on one of them. There's a pool in the backyard. There was all of these, basically, they really maximize the attractiveness from a short term rental perspective, right? Like it's, you know, furnished the whole nine yards, and he was in the top tier tax bracket, 37% rate, so a million dollar basis, you know, I think, I don't know how much we ended up being able to accelerate, but it was somewhere around $300,000 or so, being able to accelerate and give him a year one write off with 100% bonus depreciation, and then, you know, take that times his tax write off, and, yeah, you're right there at about $100,000.

Craig Evans:

Wow. So, so what would you say that every investor, large or small needs to be asking their CPA to make sure they're not missing out on strategies like this?

Sean Graham:

I think it's, it's important to work. First of all, you have to be around the right people, right? In terms of knowing what you're getting into, and understanding real estate and do you know, make sure you're well educated, you're well versed, and you're not just jumping into anything. The quality of the property means everything. So I always emphasize buying high quality properties and properties that are going to cash flow, where they're going to appreciate So educate yourself on the investment piece. The next piece is surrounding yourself with professionals who can help you for everything else. So you know, you want to make sure that you have your entity structure set up. That's not my, you know, forte. I'm not an attorney, but you want to make sure you set that up correctly. You want to work with a good CPA who knows and understands real estate, not just any CPA, because there's a lot of CPAs out there who just nothing against them but they just don't specialize in real estate, and so they don't know all the intricacies that you can do to utilize real estate to mitigate your taxes, right? So those are super important. That's a super important piece to it. And then you can start planning and strategizing and making sure that you're doing everything to maximize these losses, I think those pieces are really, really key. I am a CPA, but we don't do tax prep or tax return. I talk tax strategy, but ultimately, how we generate revenue as a firm is we do cost segregation studies, right? So utilizing Cost Segregation is a big, big piece of it. And if you have questions in terms of how much depreciation am I going to get from this or what should I do? There's a couple ways to do it. One, you can come to our website. It's just mavencostseg.com, and you can use that to, there's a calculator on there. You can plug in your property information and say, 'Hey, I bought this property. It's a short term rental, there's a long term rental. Here's the in service date', so on and so forth. Here's the depreciable basis, and we're going to give you an estimate there. If you submit that information to us, like there's a way you can just submit it from that the next step, then our engineer is going to take a look and actually give you a more accurate estimate based on your specific property, right? We'll take a look at pictures and everything there. So if you buy a property, just

Craig Evans:

someone is , well, let me rephrase it, you're not, come get an estimate from us. It's free. There's no charge, you know, for us to tell you what the study would cost, how much depreciation you'd get, or go use the calculator, right and just take a look. But like, if you're thinking about buying something, we're happy to give you a, you know, an estimate ahead of time, too, before you close on it. So you'll start getting an idea of what you want and where you need to be to get the depreciation losses that that you you desire. you're not dealing with a compliance aspect from them. You're advising. You're working through helping stuff, especially for cost seg. But what would you say are the biggest red flags that investors should look for when they're talking to either their CPA for compliance or for advice? From an advisor perspective, what do you think's one of the biggest red flags people should see?

Sean Graham:

Well, yeah, so when I say I guess, just to clarify what you were saying earlier. I mean, I talk tax strategy all day long. I don't sell tax strategy, meaning I'm not char I don't, I don't have a any sort of like program or anything where it's like, Hey, we're gonna do, we're gonna, like, do tax strategy, and here's your charge, here's your annual or your monthly charge. Like, that's not how we're set up, but we do talk real estate tax strategy all day long, because that's what people need to know and how they learn about cost segregation and appreciation and all these things. So the education part is very important to us, and so that does advisory does come into that as far as your CPA, I would ask them, Are they, do they know how real estate professional status works? REPS? Do they know how short term rental loophole works? Okay? Do they have any clients who invest in real estate? What kind of real estate, right, like? Okay, so everybody has clients who have, like, a rental property or two, but that doesn't mean that they truly understand it. So you're just trying to get a sense of their familiarity with real estate. I'm happy to introduce you to tax CPAs, who can do the tax prep and tax strategy for you as well. So, that's not really, really a problem, but we work with everybody's CPA. I'm not saying that, you know, I'm happy to work with your tax CPA, but if you aren't comfortable, or you want to look for somebody else, like happy to give you a referral or, you know, a recommendation, you're just trying to get an idea of what they know and they understand.

Craig Evans:

Sean, listen, I'm grateful for your time, and I appreciate you making time for us and our listeners today. But I got one last question. So what do you see as the biggest myth that you hear about cost segregation, that just that's flat out just not true.

Sean Graham:

People oftentimes forget that you can't depreciate the land. Any dirt is dirt. It's going to be there forever, God willing. You can't depreciate it. You can only depreciate what is man made. So people say, Well, I bought a million dollar property. Well, that doesn't mean that you have a $1 million dollar basis, you could be in California, and they could say, well, the dirt is 60% of the value here. And that's pretty unfortunate, and unless you have another way to prove that the dirt is worth otherwise, like that's typically what ends up happening, right? Property taxes are super, super high. Or it could be the opposite, right? You could be in the Midwest, and they say, 'Well, you know, you're in a tertiary market, and that the dirt really isn't worth anything'. But people forget that you have to subtract out the land value. Land value is not part of your depreciable basis. So that's really important. And the other thing is, like, you can't, accelerate, or just bonus out 100% of the depreciable basis, like the structural components, the roof, the walls, the foundation, the you know, like the ceiling, all that, that is part of the structural basis, the structural basis you cannot accelerate depreciation on. So our job is to break all these components into the right categories to accelerate as much as we can. But not everything in the property can just be accelerated, and I think that's something that's commonly misunderstood.

Craig Evans:

So Sean, Listen, man, it has been an honor having you on. I want to make sure that people know how to get in touch with you. So where can our listeners connect with you or learn more about Maven Cost Segregation.

Sean Graham:

So go to our web. Our website. I put a link on there for your listeners, just so they know. So it's mavencostseg.com/Norris, N-O-R-R-I-S, that way, you know, any of the listeners, if they go there, I'll put, you know, a discount on there for them. But other than that, email me. S-E-A-N sean@mavencostseg.com, MAVEN is spelled M-A-V-E-N but email me. I'll give you my calendar link to connect. Or you can just submit your property information on our website, and yeah, we'll go from there and happy to chat with you, or, you know, help you out any way I can.

Craig Evans:

Sean, man, I greatly appreciate it. I've always told people, you know, two of the biggest things that we've got in investing is time and taxes, right? And while cost segs are not always the most flashy, glamorous thing to talk about, there's a lot of money that people are missing if they're not paying attention to depreciation, so.

Sean Graham:

Yep.

Craig Evans:

I really appreciate you being on and diving into the topic of depreciation and taxes. So everybody that's going to do it for us today, we have had a great time with Sean again. If you need information from him, please make sure reach out Maven Cost Segregation, Joey, will make sure we've got links there for you guys. Sean again, thank you, my friend.

Sean Graham:

All right. Thanks, Craig. Appreciate you having me

Joey Romero:

Don't forget to visit isurvivedrealestate.com on. for tickets to the event on Friday, September 12. The Norris Group would like to thank the following Gold sponsors, Keystone CPA, The Inland Valleys Association of Realtors, Pasadena FIBI, The North San Diego Real Estate Investors Association, LA south REIA, NorCal REIA, The Wizard of the Wobbly Box, Andy Teasley, Shepherd's Finance, The Thompson Group, PropertyRadar and White House Catering. The dinner wine is provided with a generous contribution by Rick and Leanne Rossiter. Hope see you all there.

Narrator:

For more information on hard money loans, trust deed investing, and upcoming events with The Norris group. Check out thenorrisgroup.com. For more information on passive investing through the DBL Capital Real Estate Investment Fund, please visit dblapital.com.

Joey Romero:

The Norris Group originates and services loans in California and Florida under California DRE license 01219911. Florida mortgage lender license 1577 and NMLS license 1623669. For more information on hard money lending go to thenorrisgroup.com and click the hard money tab.