Can You Donate a Building After Cost Segregation and Deduct Full Market Value?

TL;DR

Usually not. If you donate a building after cost segregation, the tax code cuts your charitable deduction by the depreciation recapture that would have been taxed as ordinary income if you had sold the building instead. That rule is Section 170(e)(1)(A). The cut comes from the 5-year and 7-year pieces of the study and from the part of the 15-year depreciation that ran faster than straight line. The 27.5-year or 39-year depreciation on the building itself doesn't shrink the deduction at all. And the cut is often smaller than people fear, because it's measured against what those components are worth on the day of the gift.

In Episode 35 of The Tax Strategy Playbook, I walk through how a charitable remainder trust lets you sell an appreciated building with no tax at closing and get paid for life. One section of that episode covers this rule. This post takes that one rule apart line by line, with a worked example, because it's the piece of charitable planning that sits right on top of cost segregation and almost nobody explains it.

Key Takeaways

• Section 170(e)(1)(A) reduces a property gift by any gain that would not have been long-term capital gain if you'd sold at fair market value.
• The statute names Section 1245 and Section 1250 recapture as the kind of gain that triggers the cut.
• Bonus depreciation counts as depreciation for Section 1245, and the regulations say it is not a straight line method for Section 1250.
• Straight-line depreciation on the building shell creates unrecaptured Section 1250 gain. That's long-term capital gain, so it doesn't reduce the deduction.
• Recapture on a component can't exceed that component's gain. A worn-out carpet worth a few thousand dollars can't cost you its whole original deduction.
• Giving the building away doesn't trigger recapture tax. The gift exceptions in Sections 1245(b)(1) and 1250(d)(1) see to that. The price is the smaller deduction.
• The study's component schedule is what your appraiser and tax professional need to get the number right.

Can you donate a building after cost segregation and deduct its full market value?

No. You deduct market value minus the recapture.

The general rule for a gift of property you've held more than a year is generous. Give appreciated real estate to a public charity and you can usually deduct what it's worth today, not what you paid. Nobody pays tax on the appreciation, and you get a deduction for it anyway. That's why real estate gifts get pitched so hard.

Then comes the exception. Section 170(e)(1)(A) says the deduction "shall be reduced by" the amount of gain "which would not have been long-term capital gain" if you had sold the property at its fair market value on the day you gave it. A rental building or a commercial building you own is Section 1231 property, and the statute treats it as a capital asset for this test with one carve-out. That carve-out reads: "other than in the case of gain to which section 617(d)(1), 1245(a), 1250(a), 1252(a), or 1254(a) applies."

So the code points straight at depreciation recapture. Treasury Regulation Section 1.170A-4(b)(4) says the same thing in plainer words: gain on business property is treated as ordinary income to the extent it "would have constituted ordinary income by reason of the application of section" 1245(a) or 1250(a), among others. IRS Publication 526 (2025) puts it this way: property used in a business is ordinary income property "to the extent of any gain that would have been treated as ordinary income because of depreciation."

A cost segregation study creates exactly that kind of gain. That's the whole issue.

Which parts of a cost segregation study shrink the deduction?

Two parts. And the biggest number on the study, the building shell, isn't one of them.

The 5-year and 7-year components. Carpet, cabinetry, dedicated electrical, decorative lighting, signage. These are personal property for depreciation purposes, which makes them Section 1245 property. Every dollar of depreciation on them, bonus included, is recapture waiting to happen. Treasury Regulation Section 1.168(k)-2(g)(3) says bonus depreciation "is an amount allowed or allowable for depreciation" for Section 1245.

The fast part of the 15-year land improvements. Parking lots, sidewalks, fencing, site lighting. These are Section 1250 property, and Section 1250 recapture only grabs "additional depreciation," which Section 1250(b)(1) defines as depreciation beyond what straight line would have given you. Fifteen-year property normally runs on a 150 percent declining balance method, so it builds some additional depreciation every year. Bonus builds a lot of it. The same regulation says that for Section 1250, bonus depreciation "is not a straight line method." Take 100 percent bonus on a parking lot and nearly all of it is ahead of straight line in the early years.

If you want the background on why paving and fencing land on a 15-year schedule at all, here's how land improvements are classified and depreciated.

Why doesn't the building's straight-line depreciation reduce the deduction?

Because on a sale it comes back as capital gain, taxed at a capped rate.

The 27.5-year residential and 39-year nonresidential schedules use straight line. Straight line produces no additional depreciation under Section 1250(b)(1), so Section 1250(a) has nothing to recapture as ordinary income. When you sell, that depreciation comes back as unrecaptured Section 1250 gain, taxed at up to 25 percent. But it's still long-term capital gain. Section 170(e)(1)(A) only cuts gain that "would not have been long-term capital gain." This gain was.

That's why a plain rental that never had a study can usually be given at or near full market value. Fifteen years of straight-line depreciation on the building doesn't touch the deduction. The same building with a study generally gives up some deduction, and the rest of this post is about how much.

How much does cost segregation reduce a charitable deduction? A worked example

This is an illustration I built to show how the pieces move. It isn't a client, the figures are rounded, and real numbers come from your study, your depreciation schedule and a qualified appraisal.

An owner buys a small commercial building in July 2019 for $1,000,000. The land is $200,000, so the depreciable building is $800,000. That year an engineering-based cost segregation study, with a trained professional walking the property in person, moves $160,000 into 5-year property and $80,000 into 15-year land improvements. The other $560,000 stays on the 39-year schedule. Bonus depreciation was 100 percent in 2019, so the owner writes off the full $240,000 of short-life property that first year.

By the end of 2026, straight-line depreciation on the 39-year shell adds up to roughly $107,000. In December 2026 the owner gives the building to a public charity. It's appraised at $1,600,000.

Here's the part most people get wrong. They start from how much they deducted on the 5-year and 15-year property. The statute starts from the gain those components would have produced if sold today. Section 1245(a)(1) makes the ordinary income the amount by which "the lower of" the recomputed basis "or" the fair market value of the property "exceeds the adjusted basis." Section 1250(a)(1) has the same kind of cap. Seven-year-old carpet and cabinets aren't worth what they cost.

Say the appraisal allocates $40,000 of the $1,600,000 to the 5-year components and $50,000 to the land improvements. Both have an adjusted basis of zero after bonus.

On the 5-year line, the lower of $160,000 and $40,000 is $40,000. Subtract the zero basis and you get $40,000 of ordinary income.

On the 15-year line, straight line over 15 years would have given about $40,000 by the end of 2026, using the half-year convention. Bonus gave $80,000. The extra $40,000 is additional depreciation. The component's gain is $50,000, so the ordinary income is the smaller figure, $40,000. The other $10,000 of gain is unrecaptured Section 1250 gain, which doesn't count against the deduction.

Total reduction: $80,000. The deduction is $1,600,000 minus $80,000, or $1,520,000. That's before the percentage-of-income limit, which for a gift like this to a public charity is generally 30 percent of your adjusted gross income under Section 170(b)(1)(C)(i), with five more years to use the rest under Section 170(d)(1).

Without the study, the same building would have produced a $1,600,000 deduction. With it, $1,520,000. The owner deducted $240,000 in 2019 and gives up $80,000 of deduction in 2026. Look at the value column and the gap makes sense. Most of that 5-year property didn't hold its value. The depreciation tracked real wear, and nothing in Section 170(e) claws back wear.

Here's the mistake I'd watch for. Someone assumes all $240,000 comes back and cuts the deduction to $1,360,000. They just left $160,000 of deduction on the table. The component values decide this, which is why a study with a real component schedule matters long after the first-year write-off.

Was the cost segregation study a mistake if you end up donating the building?

No. Run the comparison and the study still wins.

Start with what giving the building away does not do. It doesn't trigger recapture tax. Section 1245(b)(1) and Section 1250(d)(1) both say recapture "shall not apply to a disposition by gift." The charity sells the building, pays no income tax, and the recapture simply never gets taxed to you. What you give up instead is $80,000 of deduction. At your top rate, that costs about what the recapture tax on a sale would have cost.

Now look at the other side. In the example, the owner took $240,000 of deductions in 2019 against ordinary income, at their full rate, and kept that cash working for seven years. Of that, $160,000 never comes back in any form. The $80,000 that does come back comes back as a smaller deduction, years later.

The study did its job. You just can't deduct the same dollars twice. Anyone who tells you to cost segregate, take the big write-off, then donate at full value and deduct everything again is describing a double deduction the statute was written to stop.

The same logic drives what happens on a sale, which I cover in what happens when you sell a property after cost segregation.

Does the reduction still apply if the building goes into a charitable remainder trust?

Yes, in proportion.

With a charitable remainder trust, you aren't giving the whole building to charity. You're giving the remainder, the piece projected to reach charity after your payments end. Treasury Regulation Section 1.170A-4(c)(1)(i) says that when you give "less than his entire interest in appreciated property, whether or not the transfer is made in trust," the reduction rules of Section 170(e)(1) apply "to the contributed portion of the property." So the remainder's value gets the same haircut, scaled to its share.

The recapture also shows up a second time, when the trust sells and starts paying you. Episode 35 shows how a trust's payments are taxed and what happens to your depreciation inside one, with a fourplex run both ways.

What do you need before you give a cost segregated building away?

Three documents, and one conversation before you sign anything.

First, the cost segregation report itself. Its component schedule shows what went into 5-year, 7-year and 15-year property, and when. If you can't find it, call the firm that did the study. Second, your full depreciation schedule, every year, including any bonus and any catch-up taken on a Form 3115. Third, a qualified appraisal. Section 170(f)(11)(C) requires one for property gifts over $5,000, and under Section 170(f)(11)(D) you attach it to your return when the deduction tops $500,000. Ask the appraiser to value the short-life components separately, because that allocation sets the reduction.

Then the conversation. If the building has a mortgage, stop and get advice first. Treasury Regulation Section 1.1011-2(a)(3) says debt on donated property "must be treated as an amount realized," which can turn part of your gift into a taxable sale. Timing matters too: once a sale is lined up, it can be too late to give the property and avoid the gain. Episode 35 covers both traps.

Frequently Asked Questions

Does donating a building trigger depreciation recapture tax?

No. Sections 1245(b)(1) and 1250(d)(1) exclude a disposition by gift from recapture. Instead, Section 170(e)(1)(A) reduces your charitable deduction by the recapture that would have been ordinary income on a sale.

Does straight-line depreciation on the building reduce my charitable deduction?

No. Straight-line depreciation on a 27.5-year or 39-year building creates unrecaptured Section 1250 gain, which is long-term capital gain. Section 170(e)(1)(A) only reduces the deduction for gain that would not have been long-term capital gain.

Is the reduction equal to all the bonus depreciation I took?

Usually not. Recapture on each component is capped by that component's gain, measured against its fair market value at the time of the gift. Short-life components that lost value produce less recapture than the depreciation taken on them.

What if I've owned the building for one year or less?

Then the whole building is ordinary income property under Treasury Regulation Section 1.170A-4(b)(1), and IRS Publication 526 says the deduction rule generally limits you to your basis in the property, not its market value.

Can I use the 50 percent limit instead of 30 percent for a donated building?

You can elect it under Section 170(b)(1)(C)(iii), but the election applies the reduction rules to all your capital gain property gifts that year. That generally cuts the deduction down to your basis, so it rarely makes sense for a building that has gone up in value.

Should I get a look-back cost segregation study before I donate a building?

It depends on your numbers. A look-back study creates a catch-up deduction now, and it also creates recapture that will reduce the later charitable deduction. Run both versions with your tax professional before deciding.

Before you give the building away

If a gift or a charitable remainder trust is on the table for a building you own, the order of operations matters. Pull the study and the depreciation schedule first, get the components valued, and let your tax professional and an estate attorney run the deduction with the real reduction in it. For the full picture on trusts, payout tiers and the timing rule that has cost people their deduction, listen to Episode 35 on selling a building through a charitable remainder trust.

And if you own a building that's never had a study, the look-back question cuts both ways. Want to know whether a cost segregation study would even pay for itself on your property before you decide to keep it, sell it or give it away? That's what the no-cost analysis is for. I deliver it through my relationship with CSSI, with no obligation and no pitch, and if a study won't pay for itself, I'll say so. Book a time at calendly.com/david-wiener/cs or call 770-224-8504, option two.

Have you ever given away real estate, or been pitched the idea? I'd like to hear how the deduction was figured.

Nothing here is tax or legal advice for your situation. A charitable gift of real estate needs a tax professional and an estate attorney who know your facts.