Mixed-use buildings combine ground-floor retail or office space with apartments above. Few asset types are harder to depreciate correctly. A single building can contain residential rental property (27.5-year recovery), nonresidential real property (39-year recovery), and dozens of components that qualify for much shorter lives. Treating the whole thing as one 39-year asset leaves substantial deductions unclaimed in the early years of ownership.

For investors who hold mixed-use property, a Cost Segregation Study can change the tax picture. When the owner renovates or replaces parts of the building, a Partial Asset Disposition (PAD) election can add to the benefit.

Consider a hypothetical investor who buys a mixed-use building in 2026 for $12 million. It has about 24 apartments over 8,000 square feet of ground-floor retail. Assume roughly 20% of the price is allocated to land, leaving about $9.6 million of depreciable basis.

Without a study, the building would be depreciated over 27.5 or 39 years, depending on the use of each portion. That is roughly $250,000 to $350,000 of annual deductions.

Industry experience suggests a cost segregation study on this kind of property often reclassifies somewhere in the range of 15% to 30% of the depreciable basis into shorter-lived categories. These include 5-year and 7-year personal property (appliances, specialty electrical, certain finishes, and fixtures) and 15-year land improvements (parking, paving, landscaping, and site utilities).

Suppose 25% of the basis is reclassified. That is about $2.4 million of property with recovery periods of 15 years or less. Under current bonus depreciation rules, much of it may be deductible in the year the property is placed in service.

Now assume the owner later spends $1.5 million to renovate the retail storefronts and replace the roof. A PAD election could let the owner write off the remaining tax basis of the demolished or replaced components, instead of continuing to depreciate them alongside the new ones. The write-off might be in the range of $100,000 to $300,000 depending on the age and original cost of the components.

Under the One Big Beautiful Bill Act (OBBBA), 100% bonus depreciation under Section 168(k) was restored and made permanent for qualifying property acquired after January 19, 2025. This applies to property with a recovery period of 20 years or less. That includes most of what a cost segregation study identifies. The building structure itself (27.5 or 39 years) does not qualify. Used property can qualify if it meets the acquisition requirements. Confirm the acquisition date and placed-in-service date for each property.

A cost segregation study is an engineering-based analysis that identifies the parts of a building that can be depreciated over 5, 7, or 15 years instead of 27.5 or 39. In a mixed-use property the study also has to separate residential from commercial costs. That allocation affects the recovery periods and can affect how the property is classified for tax purposes. For example, residential rental property generally requires that at least 80% of gross rental income come from dwelling units.

Under the tangible property regulations (Treas. Reg. §1.168(i)-8), an owner can elect to treat a replaced part of a building as disposed of. The owner then deducts the remaining undepreciated basis of the old component. Without the election, the old component continues to be depreciated even though it is no longer in the building. The election is made on a timely filed return for the year of disposition. It is a useful complement to a cost segregation study in any property with recurring capital work, because the study provides the component-level cost data needed to support it.

Accelerated deductions can reduce taxable income early in the hold period. That frees cash that can go toward tenant improvements, debt reduction, reserves, or the next acquisition. For investors planning a 1031 exchange, it is worth modeling the tradeoffs with a qualified advisor. Accelerated depreciation can increase depreciation recapture on a later sale, and those results should be planned in advance.

Passive activity rules, the at-risk rules, and the real estate professional status test can limit how quickly deductions offset other income. The benefit is real but not automatic, and a CPA should review it before the study is commissioned.

The IRS Cost Segregation Audit Techniques Guide describes the elements of a defensible study. These include detailed engineering analysis, supporting documentation, and a clear method for allocating costs. Quick estimates or rule-of-thumb percentages carry more audit risk. A well-documented study is also the foundation for any PAD election.

The ranges above are generic. Actual results depend on the purchase price, land allocation, building age and design, the mix of residential and commercial space, how much was spent on improvements, and the owner's overall tax position. Nothing here is tax advice for any specific situation.

Does a cost segregation study work for mixed-use buildings?
Yes. Mixed-use buildings often have good candidates for reclassification because they contain both residential and commercial components. The study must allocate costs between the two uses accurately.

What is the bonus depreciation rate in 2026?
Under the One Big Beautiful Bill Act, 100% bonus depreciation is available for qualifying property acquired after January 19, 2025. Property acquired earlier may be subject to the prior phase-down percentages.

Can I do a cost segregation study on a building I bought years ago?
Often yes. A look-back study can capture missed depreciation as a catch-up adjustment through a change in accounting method, without amending prior returns.

What is the difference between cost segregation and partial asset disposition?
Cost segregation reclassifies costs into shorter depreciation lives. PAD lets you deduct the remaining basis of building components that you replace or remove. They are often used together.

Will accelerated depreciation increase my tax on a future sale?
It can. Depreciation recapture may apply on a sale, so modeling the exit strategy, including a possible 1031 exchange, is part of good planning.

If you own a mixed-use property, or advise clients who do, I'd be glad to walk through whether a study makes sense. Reach out for a no-obligation conversation.

Tom Murphy
 (858) 342-1377
 tom@murphytaxstrategies.com
Murphy Tax Strategies — https://murphytaxstrategies.com/