When a remodel removes a building component, the component's unrecovered basis becomes a current-year deduction — but only if cost seg gave it its own basis first. The Okafor-Patel inheritance Victorian shows how lookback and partial disposition stack into one return.
Adaeze and Ravi inherited a 4-bedroom Brooklyn Victorian in 2024 — stepped-up basis $1.4M. They placed it in service as a long-term rental and started taking standard depreciation.
In 2025 they gutted the kitchen — full studs-out renovation, $140K spend. Their CPA didn't just ask, "How do we capitalize the new kitchen?"
The real question was: what happened to the basis of the kitchen we removed?
Six checks in order. The lookback finds depreciation Adaeze and Ravi could have accelerated. The partial-disposition election deducts the basis of the kitchen they removed. Both flow through this year's return.
| Step | What happened | What this unlocks |
|---|---|---|
| 01 | Inherited 2024 — stepped-up basis to $1.4M under IRC §1014 | $1.12M depreciable basis |
| 02 | Placed in service as LTR; took standard 27.5-yr SL for one year | Lookback candidate identified |
| 03 | CPA ran cost seg + Form 3115 → §481(a) catch-up on the prior year | $280K catch-up |
| 04 | Cost seg gave the original kitchen its own basis line at $120K | Disposable basis exists |
| 05 | Partial disposition election under Reg §1.168(i)-8(d) on the demolished kitchen | $96K unrecovered basis deducted |
| 06 | New kitchen ($140K) capitalized on its own basis line going forward | Schedule cleaned, no double-counting |
Cost seg catch-up: $280,000
Partial disposition: $96,000
─────────────────────────────────────
Total deduction created: $376,000
Federal tax rate: 37%
~Potential federal tax value: ~$139,000
Cost segregation separates a building into its tax components. When a remodel demolishes a component, the partial-disposition election under §1.168(i)-8 lets the unrecovered basis of that component become a current-year deduction. The catch: the election only works if the component had its own basis line to begin with.
Without cost seg, the kitchen, the roof, the HVAC, and the framing all roll up into one 27.5-year residential building asset. When the kitchen is demolished, there's nothing to dispose — the building still exists.
With cost seg, the kitchen has its own basis line. When it's demolished, that basis line is closed. The remaining unrecovered amount lands on the current return as a deduction. The election must be made on a timely-filed return for the year of disposition.
Original kitchen basis (from cost seg): $120,000 Depreciation already taken (1 yr at 5-yr): $24,000 ───────────────────────────────────────────────────── Unrecovered basis at demolition: $96,000 Treatment: current-year deduction on disposition.
Inherited basis is stepped up to the fair market value at the date of death — which means the Okafor-Patels are running cost seg against a $1.4M basis, not the original cost basis from when Adaeze's mother bought the property in 1992. The full reclassification opportunity is available against the stepped-up number.
The bigger the spend, the more components get touched, and the larger the disposition deduction available. Three tiers map cleanly to typical CPA conversations: cosmetic refreshes don't trigger; partial remodels generate room-by-room dispositions; full guts produce the largest deductions.
Under $25,000
Paint, fixtures, light hardware swaps. Components stay in place. Typically capitalized as improvements; no partial disposition election available.
$25,000 – $200,000
Specific systems or rooms gutted. Kitchen, bath, HVAC. Each disposed component generates its own partial-disposition deduction — but only if cost seg established a separate basis line first.
$200,000+
Studs-out renovation. Significant dispositions of structural components, mechanicals, and finishes. The whole component schedule resets.
The Okafor-Patels' 2025 return runs the cost seg catch-up alongside the partial-disposition election. Both flow through Schedule E. Both land in the current year. Together with first-year MACRS on the building shell, the household's year-one deduction tops $376K — federal tax saved at 37% comes to $139K.
Cost seg §481(a) catch-up: $280,000
Partial disposition (kitchen): $96,000
1st-yr MACRS on shell: $0
(already
in basis)
─────────────────────────────────────────
Total year-one deduction: $376,000
At 37% federal rate:
Federal tax saved: $139,000
The election is a current-year choice — the IRS doesn't let you go back and grab last year's disposition if it wasn't elected on the timely-filed return. The defensive workflow is built into the study, not bolted on afterward.
Partial disposition has to be elected on a timely-filed return — including extensions — for the year of disposition. After that, it's lost. The engine surfaces remodel events on the property timeline so the election lands when the return is filed.
If the property never had cost seg, the demolished kitchen never had its own basis. The election fails for lack of a deductible amount. Lookback cost seg + disposition together solve this; either alone leaves dollars on the floor.
After disposition, the component must be removed from the depreciation schedule. The new kitchen capitalizes separately with its own life and bonus rules. The engine handles both — basis line closed, new basis line opened, no double-counting.
Most cost seg tools stop at the catch-up. Unlevered handles the partial-disposition workflow as a first-class step — because the disposition deduction exists only because the cost seg study made it possible. Same engine, both deductions, one audit trail.
Add a remodel as an event on the property. Engine identifies which previously-classified components were demolished, computes their unrecovered basis, and proposes the partial-disposition election with the §1.168(i)-8(d) citation.
Every reclassified component has its own basis line that depreciates on its own schedule. When it disposes, the line closes; when a new component takes its place, a new line opens. No silent double-counting.
If the return is filed without the partial-disposition election after a demolition event, the engine warns before delivery. The dollars don't go missing because nobody clicked the box.
Inherited property steps up to fair market value at date of death. The engine takes the appraisal as the cost seg basis input — no carryover-basis problem. The full reclassification opportunity is available.
Adjust the depreciable basis, remodel spend, and which components were demolished. The estimator computes the §481(a) catch-up + partial disposition together. Illustrative only — real returns depend on component-level documentation.
Run the study, show the usable deduction, and give the client a clear savings story with the audit trail behind it.