Illustrative Single-Family Rental Acquisition
A worked example of allocating a house purchase among land, 27.5-year building, 5-year appliances, and 15-year driveway. Educational information, not tax advice.
Educational information, not tax advice.
Updated 2026-10-14
Assumptions
- Educational information, not tax advice.
- Assume the house is rented as a dwelling and meets the residential rental definition in §168(e)(2)(A) and IRS Publication 527.
- Assume a reasonable land allocation has already been made from the closing statement or an appraisal; this page does not pick a land percentage.
- Assume there is no written §1060 purchase-price allocation in the file. If one existed, Peco Foods would be a risk to discuss with a CPA before subdividing the building further.
- Any dollar figures below are invented for arithmetic only. They are not a typical mix and not a client result.
Key takeaways
- Purchase-price allocation comes before component classification: land first, then depreciable basis.
- If the 80% dwelling-unit test is met, the building stays 27.5-year residential rental property.
- Appliances, some removable floor covering, and a driveway are the usual extra classes on a house, not a guaranteed short-life share.
- The CPA, not the study narrative, files Form 4562. A later look-back, if any, is generally a method-change question.
Imagine a closed purchase of a rented house. The closing statement shows one contract price for land and improvements. Before any cost segregation, land must be removed from depreciable basis. Land is not depreciable. IRS Publication 946 lists land among property that cannot be depreciated, and Publication 527 walks through the same split for rental housing. Suppose, for arithmetic only and not as a typical purchase, a $400,000 contract price of which $80,000 is assigned to land and $320,000 remains as depreciable basis. Those numbers are invented. They do not imply a land ratio, a reclassification percentage, or a tax result.
A study would then inspect the house, list appliances, note whether floor covering is strippable, and measure the driveway. Those items are classified using the same residential matrix and regulations discussed in the property and asset guides. The remaining structure stays 27.5-year property. The IRS Cost Segregation Audit Techniques Guide (Publication 5653, rev. February 2025) added a residential rental matrix. It treats kitchen appliances as §1245, class 57.0, 5-year property, and treats kitchen cabinetry, counters, and sinks as §1250 residential rental property. Dedicated appliance circuits and hook-ups are 5-year in that matrix; general kitchen wiring and plumbing stay with the building. The matrix is examiner guidance, not a statute, and it may not apply outside its stated facts.
Order of operations on this illustration is the point, not a claimed outcome. First, confirm the activity is a rental of a dwelling, not a personal residence and not transient lodging. Second, remove land. Third, look for a written allocation in the purchase documents. Fourth, inspect and classify components. Fifth, reconcile every line to depreciable basis. Sixth, hand the schedule to the CPA who will decide how Form 4562 is prepared. This page does not compute depreciation, bonus depreciation, or tax.
What this example is for
It shows the order of operations: land, then building versus site versus personal property. It does not show a reclassification percentage. Educational information, not tax advice.
Cost segregation does not increase basis. Under §1012, basis generally starts with cost. Closing costs that Publication 527 treats as added to basis, if any, ride along in the same total. The study only divides depreciable basis among MACRS classes under §168.
Building class before components
Section 168(e)(2)(A) treats a building as residential rental property when 80% or more of the gross rental income is from dwelling units. A house held out for rent usually meets that test. Hotels, motels, and similar transient occupancy are excluded. Publication 527 is the IRS explanation for landlords. If the owner still lives in part of the house, the rental-value rules in that publication matter before any component list is drawn.
Residential rental property is recovered over 27.5 years, straight line, using the mid-month convention. Getting that building class right matters more than missing a dishwasher. AmeriSouth XXXII, Ltd. v. Commissioner, T.C. Memo. 2012-67, is a reminder that exploding a residential building into hundreds of short-life lines does not make those lines personal property. AmeriSouth involved apartments, not a single house, but the caution about over-segmentation travels.
Written allocations and Peco Foods
Not every house purchase includes a written §1060 allocation. Many residential closings simply state one price. If the file does contain a written allocation of the purchase price among asset classes — especially in an asset purchase of a small rental business — Peco Foods, Inc. v. Commissioner is the risk. The Eleventh Circuit affirmed that a written allocation in a §1060 acquisition can bind the parties and block a later reclassification that contradicts it.
The IRS audit guide notes that the scope of that holding beyond §1060 acquisitions is unclear. This illustration does not say Peco applies to every house closing. It says: read the contract, the settlement statement, and any exhibits before subdividing the building. That is a CPA and, if needed, tax-counsel question.
Inspection, records, and personal-property candidates
A quality study, as the audit guide describes it, uses appropriate documentation and a site visit. For a used house the original contractor invoices are usually gone. The guide’s detailed engineering cost-estimate approach exists for that fact pattern: quantities from inspection and drawings, unit costs from a cited source, then a reconciliation to purchase price less land. Rule-of-thumb percentages without a takeoff are the weakest method in that guide.
Candidates on a rented house often include appliances, furniture if the rental is furnished, removable carpet or vinyl, and site items such as a driveway, walk, or fence. Ceiling fans that are the primary light source stay with the building in the residential matrix. Cabinetry stays with the building in that matrix. Each label still needs facts: how the item is attached, what it serves, and which authority is cited. Courts have split on similar assets in other building types; nothing here is a rule that an asset “is” 5-year property in every house.
Reconciliation and filing
Every depreciable line must add back to the $320,000 invented depreciable basis in this example, or to whatever actual basis the file supports. Land stays out of that total. The audit guide treats reconciliation of allocated costs to actual costs as a principal element of a quality study. A schedule that does not add up cannot be tested.
The owner’s CPA applies MACRS, conventions, and any additional first-year depreciation under §168(k) on Form 4562. As of Notice 2026-11, 100% additional first-year depreciation applies to qualified property acquired after January 19, 2025; earlier binding-contract property stays on the prior phase-down. This illustration does not decide eligibility or compute a first-year deduction. If the house was already being depreciated as a single 27.5-year asset and a later study changes classes, filing is generally a method-change question (Form 3115 / §481(a)), referred to the CPA. See the look-back illustration.
Sources
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- 3IRS Publication 5653 — Cost Segregation Audit Techniques Guide (rev. 2-2025)(opens in a new tab)
Written for IRS examiners. The guide states it is not an official pronouncement of law and cannot be cited as authority. It predates the July 2025 law.
- 4IRS Publication 946 — How To Depreciate Property (2025)(opens in a new tab)
Appendix B reproduces the Rev. Proc. 87-56 class lives.
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