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A medical or dental building is one of the most component-rich properties a cost segregation engineer sees: dedicated plumbing, vacuum and compressed air at every chair, circuits that exist only to power imaging, lead-lined walls, dense low-voltage cabling, casework built around the equipment. A standard schedule puts all of it in a 39-year building. A fully engineered and accounted cost segregation study moves the parts the engineering supports into 5-, 7- and 15-year classes, and with 100 percent bonus depreciation back for property acquired and placed in service after January 19, 2025, those parts are deducted in year one. The catch comes first: most practice owners hold the building in one entity and rent it to their own practice, and the self-rental rule makes a loss from that arrangement passive while making income from it nonpassive. Unless the building and the practice are properly grouped, or another path applies, the deduction sits. Healthcare buildings typically land in the upper part of the 20 to 35 percent of depreciable basis an engineered study reclassifies.
Dr. Gene Whitlock runs a four-operatory dental practice in Montgomery, Alabama, through an S corporation. In March 2025 he bought the 6,000 square foot professional building he had been renting, through a separate LLC, for $2,400,000, and leased it back to the practice at market rent. The prior owner was a medical group, so the operatory plumbing, the radiography shielding and the sterilization area were already in place. No renovation. The building was placed in service the month he closed.
His CPA said two things on the same call. First, that a cost segregation study would likely produce a first-year deduction north of half a million dollars. Second, that he might not be able to use a dollar of it against his dental income unless they made a specific election on the return. Both were right. Dr. Whitlock is illustrative; the arithmetic and the rules below are real.
A general office is open floor plates, standard lighting, standard HVAC and carpet. A dental building is built around the work: water, drain, vacuum, compressed air and power at every chair; exam rooms with sinks and casework; an imaging room with shielding and dedicated power; a sterilization area with its own plumbing and often its own exhaust. A surgery center adds medical gas, specialized ventilation and emergency power.
The tax question is how each item is classified, however expensive or important it is to the practice. Nonresidential real property depreciates over 39 years under Section 168. Property outside the structural components of the building may be personal property on 5 or 7 years, and land improvements are 15-year property. The Tax Court set out the factors for drawing that line in Whiteco Industries v. Commissioner, 65 T.C. 664 (1975), and applied them to hospital components in Hospital Corporation of America v. Commissioner, 109 T.C. 21 (1997), where kitchen water and steam piping, branch electrical serving equipment, carpet, vinyl wall covering and kitchen hoods were held to be personal property rather than structural components. Our guide to Section 1245 versus Section 1250 property explains the line.
No two buildings are alike, and every classification rests on the function of the item, how it is installed and the documentation behind it. With that said, these are the categories the engineering typically supports.
The foundation, framing, shell, roof, windows, elevators, general plumbing, general lighting and electrical, and the HVAC that conditions the building for people. Climate-control HVAC stays with the building unless its sole justification is a piece of equipment; a dedicated exhaust for a sterilization room may qualify, while the rooftop units that cool the waiting room stay with the building. A credible study does not stretch these categories, and our breakdown of the IRS audit technique guide covers why conservative beats aggressive.
Equipment sits outside the study. Dental chairs, imaging units, autoclaves and exam tables are already personal property on their own invoices, depreciated separately and eligible for Section 179 or bonus on their own. The study is about the building and site around the equipment.
The One Big Beautiful Bill Act, signed July 4, 2025, restored 100 percent bonus depreciation under Section 168(k) for qualifying property acquired and placed in service after January 19, 2025, with no phase-down. Bonus is automatic; the election is to opt out. Property acquired under a binding contract on or before that date is under the old phase-down even if it closed later, which is why both dates matter. Our guide to 100 percent bonus depreciation covers the dates.
The same law raised the Section 179 limit to $2,500,000 for tax years beginning after 2024, phasing out above $4,000,000 of purchases. Section 179 reaches equipment and certain improvements to nonresidential buildings: roofs, HVAC, fire protection and alarm systems, security systems. Section 179 is capped at business taxable income, a limit bonus does not carry. Choosing between them is your CPA's call.
Illustrative. Land comes out first, and the March mid-month table rate on 39-year property is 2.033 percent.
| Line | No study | Engineered study |
|---|---|---|
| Purchase price | $2,400,000 | $2,400,000 |
| Land (15%, appraisal and county ratio) | $360,000 | $360,000 |
| Depreciable basis | $2,040,000 | $2,040,000 |
| Reclassified to 5-, 7- and 15-year (28%) | $0 | $571,200 |
| Bonus depreciation, year 1 (100%) | $0 | $571,200 |
| Building on 39 years | $2,040,000 | $1,468,800 |
| Building depreciation, year 1 (2.033%) | $41,473 | $29,861 |
| Total first-year deduction | $41,473 | $601,061 |
| Additional deduction | $559,588 | |
| Federal tax at 37%, in the year it is usable | $207,048 |
The $571,200 was the operatory plumbing and utilities, the dedicated electrical, the shielding, the casework, the low-voltage systems and the parking lot, site lighting and landscaping. The phrase that matters in the last row is "in the year it is usable." One more number sits on top: Dr. Whitlock and his wife file jointly, so Section 461(l) caps the business loss they can deduct against other income at $626,000 for 2025 ($313,000 single), adjusted annually; for 2026 the cap is $512,000 joint and $256,000 single. His $559,588 clears the 2025 joint cap once the loss is nonpassive; a single filer would carry $246,588 forward as a net operating loss. The 15 percent land figure came from the appraisal and the county ratio, never from a default.
Dr. Whitlock's LLC rents the building to his practice. Whether the $559,588 offsets his dental income depends on how Section 469 treats that arrangement, and the answer surprises most owners.
A rental activity is passive, and passive losses offset only passive income. A large study deduction on a leased building is a passive loss. With no exception, it is suspended and carried forward rather than offsetting wages or practice income.
Reg. 1.469-2(f)(6) covers property rented to a business in which the owner materially participates. Net rental income from it is recharacterized as nonpassive, and a net rental loss stays passive. So in a normal year the rent Dr. Whitlock's practice pays produces nonpassive income he cannot shelter with passive losses from elsewhere, and in the study year the loss is passive and cannot touch his practice income. We cover this at length in the self-rental trap.
Reg. 1.469-4 lets a taxpayer treat a rental and a business as a single activity if they form an appropriate economic unit and one of the exceptions to the no-grouping rule applies. The one that fits here is Reg. 1.469-4(d)(1)(ii): each owner of the business holds the same proportionate interest in the rental. Dr. Whitlock owns 100 percent of the practice and 100 percent of the LLC. Grouped, the building and the practice are evaluated as one trade or business, his material participation in the practice carries to the combined activity, and the loss is nonpassive. That is the election his CPA was talking about.
It is technical. The grouping has to reflect a real economic unit, it must be disclosed on the return under Rev. Proc. 2010-13, and once made it generally cannot be changed without a material change in facts. It is a return position the CPA evaluates before the study is ordered. Our article on how a grouping election freed a dentist's loss walks through one.
Passive income from other rentals absorbs the loss. A spouse who qualifies for real estate professional status, more than 750 hours and more than half of working time in real property businesses, and who also meets material participation in the rental itself, makes the rental nonpassive on a joint return; a full-time clinician will not get there alone. And a suspended loss survives; it releases against future passive income and in full on a fully taxable sale of the entire interest. Above all of it sits the Section 461(l) limit covered in our excess business loss article.
Rodney Bell owns a 20,000 square foot medical office building in Gastonia, North Carolina, leased to four physician groups and a physical therapy practice. He uses a property manager and owns two other rentals. The self-rental rule does not apply; he does not participate in his tenants' businesses. His study loss is passive and offsets the passive income from his other buildings, with any excess carried forward.
His study is also different. The tenant build-outs hold the densest concentration of reclassifiable components, and interior improvements he funded after the building was in service are qualified improvement property, 15-year straight line and bonus-eligible, excluding enlargements, elevators and escalators, and structural framework. And because he financed 70 percent of the purchase, the deduction is computed on the whole depreciable basis while his cash in the deal is the down payment.
You just bought. The cleanest case. The study uses the closing documents, drawings and a documented review of the building, and prices components under Approach 2, engineered estimates reconciled to the purchase price.
You built or are building. Actual cost records exist, so the study can use Approach 1, detailed engineering from contractor invoices, schedules of values and change orders. Bring the study in during construction so the cost records are broken out the way it needs.
You renovated. The renovation is studied on its own, and the pieces you tore out come off the books under Reg. 1.168(i)-8 as a partial asset disposition, elected on a timely filed return for that year.
You have owned it for years. Not too late. A look-back study with a change in accounting method on Form 3115 claims the missed depreciation as a Section 481(a) catch-up in the current year, with no amended returns, at the bonus rate of the year the building was placed in service. Cost Seg America prepares the Section 481(a) computation and, for a separate fee, the Form 3115 itself; your CPA files it.
The estimated study cannot tell a dedicated vacuum line from the restroom plumbing, and in a dental building that is the whole study. A fully engineered and accounted cost segregation study prices each component under the first two approaches the IRS Audit Techniques Guide describes, Approach 1 from actual cost records and Approach 2 from engineered estimates reconciled to actual cost. On a building Dr. Whitlock's size, the review is an in-house analyst's proper inspection or a live video walkthrough operatory by operatory; on a smaller clinic the owner follows a guided photo and video checklist and the team reviews every frame. The deliverable is a component schedule your CPA can import and the engineering support behind it, each asset with its class, its reasoning and its cost, signed by credentialed professionals and engineered in the United States, which an examiner can trace line by line. Cost Seg America defends it for as long as you own the building, with no time limit, hour cap or additional fee, through written responses and participation in examiner calls alongside your CPA, and its studies have been through 125+ IRS examinations with zero losses and $0 returned.
Depreciation on 5- and 7-year components is Section 1245 recapture, ordinary income up to the depreciation taken. Building depreciation is unrecaptured Section 1250 gain at a top rate of 25 percent. Fifteen-year land improvements are Section 1250 property with ordinary recapture on the excess over straight-line. Two things are specific to healthcare. Owners often sell the practice and the building at different times, and sometimes keep the building and lease it to the successor practice, which changes the self-rental analysis the day the practice changes hands. And a 1031 exchange can defer the gain, with the Section 1245 recapture deferred only to the extent the replacement property carries 1245 property of its own. Our recapture guide works the numbers.
If the building has less than $180,000 of depreciable basis after land, the fee approaches the benefit. If you cannot group the building with the practice, your spouse is not a real estate professional, and you have no passive income, the loss will sit suspended with no date on it; the study can wait for a year when the answer changes, and a Form 3115 brings the deduction forward then. If you plan to sell the building within a couple of years without exchanging, recapture outruns the time value. And if you are in a 24 percent year now and expect to sell as a 37 percent taxpayer, you are trading a cheap deduction for an expensive recapture.
Yes. Dedicated plumbing, electrical, shielding, casework and data systems are examined as 5- and 7-year property, and site work as 15-year, on an asset-by-asset engineered analysis.
No. Chairs, imaging units and sterilizers are already personal property on their own invoices, with Section 179 or bonus available on their own. The study covers the building and site around them.
To the 5-, 7- and 15-year components a study identifies, when the building is acquired and placed in service after January 19, 2025. The 39-year structure itself is not bonus-eligible.
Not automatically. The self-rental rule makes net rental income nonpassive but leaves a net loss passive. A proper grouping of the building with the practice under Reg. 1.469-4, disclosed on the return, is the usual fix, and your CPA evaluates it before the study.
A rental and a business can be grouped as one activity when they form an appropriate economic unit and the owners hold the same proportionate interests in both. The grouping is disclosed under Rev. Proc. 2010-13 and is generally binding going forward.
The same-proportionate-ownership exception requires each owner of the business to hold the same percentage of the rental. A mismatch can defeat it. Fixing the ownership before the study is a conversation for your CPA and attorney.
Yes, while you still own it. A look-back study with a Form 3115 claims the missed depreciation as a Section 481(a) adjustment in the current year, no amended returns.
Component depreciation is recaptured as ordinary income and building depreciation at up to 25 percent. A 1031 exchange can defer it, subject to the replacement property.
Healthcare buildings usually land in the upper part of the 20 to 35 percent range, depending on age, build-out and documentation. No percentage should be assumed without an engineered analysis.
Before the building is placed in service if you can, and well before the return is filed in any case, so the CPA can plan around the passive rules, estimated taxes and the grouping disclosure.
Start with your CPA on the usability question. Then send the property address, the purchase price, the closing date and who owns the building and the practice, and Jim Dougherty and his team will send a free proposal within 24 hours showing the projected first-year deduction, so your CPA and the engineers are working from the same facts. Call 1-888-365-5023 or email info@costsegamerica.com.
This article is educational and does not constitute tax, legal or accounting advice; thresholds are indexed each year, so review your situation with your CPA before acting.
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