Part 2 of our recapture series. Educational only — not tax advice.
How Is a Sale Price Allocated After Cost Segregation?
After cost segregation, a property's sale price is generally allocated across land, the building shell and the short-life components, supported by an appraisal, relative fair market value, or a residual split after carving out land, because recapture is computed component by component. That allocation decides how much gain is ordinary income, unrecaptured §1250 gain or residual §1231 gain.
Because recapture is tested at the component level, a single property-wide gain number is rarely enough. The way you allocate the sale price across land, the building shell, and the short-life assets a cost segregation study identifies directly determines how much gain lands in the ordinary, unrecaptured §1250, and capital layers from Part 1, the three layers of gain a sale produces. Allocation is not an afterthought — it is the lever.
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Method 1 — What Is the Strongest Support for an Allocation?
The strongest support is a contemporaneous appraisal or valuation workpaper that allocates total value among land, building shell, site improvements, and personal-property-like components. This is especially useful in larger transactions or where the cost-seg classifications are material to the expected character of the gain.
Method 2 — What if No Separate Appraisal Is Available?
Where a separate appraisal is not available, proceeds can be allocated by relative fair market value across identifiable components, using engineering support, replacement-cost approaches, or market-derived allocation keys. The principle: each component's gain or loss should be tested against its own adjusted basis.
Method 3 — Residual Allocation After a Land Carve-Out
A practical middle ground: carve out land first (it is never depreciable, so its gain is never recapture), then spread the remaining proceeds across the depreciable components using a relative-value matrix derived from the cost segregation schedule, prior appraisals, or a valuation memo. This is often the minimum viable structure for investor reporting and disposition underwriting.
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A Control Table for the Allocation
Whatever method you use, work through the same four steps and watch the same four risks:
- Land carve-out — separates non-depreciable gain. Risk: overstating depreciation-related gain by under-allocating to land.
- Building shell — identifies the straight-line §1250 base. Risk: misstating unrecaptured §1250 gain.
- §1245 components — allocates proceeds to short-life assets. Risk: over- or understating ordinary recapture.
- Retired / partial assets — separates disposed portions from the continuing asset. Risk: duplicated depreciation or a missed write-off (the subject of Part 3, on partial dispositions and double-counting).
What Should You Keep for the Full Hold?
Keep the cost segregation schedule and any appraisal support with the property file for the full hold, because how long you hold decides whether acceleration is timing or drag. When the sale comes, that documentation is what lets your advisor allocate the proceeds rationally and characterize the gain correctly — instead of defaulting to a blended estimate that may overstate the ordinary layer. ClickDrag retains your component schedule for exactly this reason — a study started today is also the exit file you will want in year 7. Coordinate the final allocation with your tax advisor. If you are still comparing providers, how cost segregation firms compare covers what separates them, and a cost segregation study shows the component schedule this allocation later runs on.
Frequently Asked Questions
How is the sale price allocated after a cost segregation study?
After a cost segregation study, the sale price is generally allocated across land, the building shell and the short-life components, supported by a contemporaneous appraisal, a relative fair market value split, or a residual split after carving out land, because recapture is computed component by component.
Why does the sale price allocation matter for depreciation recapture?
On a taxable sale at a gain, the allocation decides how much of the gain is ordinary income, unrecaptured §1250 gain or residual §1231 gain, because each component's gain is tested against its own adjusted basis: proceeds allocated to the 5- and 7-year §1245 components produce ordinary recapture up to the depreciation taken on them, and proceeds allocated to the building shell produce unrecaptured §1250 gain, taxed at up to 25% for a noncorporate taxpayer, to the extent of its prior depreciation.
Is gain allocated to land subject to depreciation recapture?
Gain allocated to land is never depreciation recapture, because land is not depreciable, so under-allocating the sale price to land overstates the depreciation-related gain.
Which cost segregation records should you keep until the property is sold?
Keep the cost segregation component schedule and any appraisal support with the property file for the full hold, because that documentation is what lets your advisor allocate the proceeds and characterize the gain instead of defaulting to a blended estimate that may overstate the ordinary layer.
