1. What a cost segregation study does
A building normally depreciates over 27.5 years (residential) or 39 years (commercial). A cost segregation study breaks the purchase price apart and reclassifies components like flooring, cabinetry, dedicated electrical, and land improvements into 5, 7, and 15-year property, so a large slice of the basis depreciates on much shorter schedules.
On the federal return, that reclassified property also qualifies for bonus depreciation, which restores a 100% first-year write-off for qualifying property acquired and placed in service after January 19, 2025. States set their own rules, which is where Kentucky comes in.
2. Kentucky and federal bonus depreciation
Kentucky fully decouples from IRC 168(k) bonus depreciation for both individual and corporate income tax. Under KRS 141.0101, Kentucky depreciation is computed under IRC Section 168 as in effect on December 31, 2001 (for property placed in service 9/10/2001 through 12/31/2019) or December 31, 2003 (for property placed in service on or after 1/1/2020), exclusive of later amendments, so no bonus depreciation of any vintage (30%, 50%, 100%, or OBBBA permanent 100%) is allowed. Although HB 757 (signed April 2026) advanced Kentucky's general IRC conformity date to December 31, 2025 for tax years beginning on or after January 1, 2026, the depreciation carve-out in KRS 141.0101 was not changed, so OBBBA's permanent 100% bonus for property acquired after January 19, 2025 does not flow to the Kentucky return. Mechanically, taxpayers add back ALL federal depreciation from Form 4562 (Schedule M line 3), recompute depreciation on a created 'Kentucky Form 4562' with the special depreciation allowance line (Part II line 14) struck out, and subtract the Kentucky-computed depreciation (Schedule M line 12); C corporations and pass-throughs make the equivalent adjustments on Form 720/PTE.
Full disallowance, not a timed addback schedule: add back total federal depreciation on Schedule M line 3 (or the equivalent 720/PTE adjustment), deduct separately computed Kentucky depreciation (no bonus) on line 12, and track a separate Kentucky basis. The disallowed bonus is recovered through larger Kentucky regular MACRS deductions over the asset's life and through a smaller Kentucky gain (computed on a 'Kentucky' Schedule D/Form 4797 using Kentucky basis) when the asset is sold.
Worked example
A $1,000,000 building, with and without a study
Illustrative only. A residential rental purchased for $1,000,000 of building basis (land excluded), acquired and placed in service after January 19, 2025.
Building basis
$1,000,000
Reclassified to 5, 7, and 15-year property (25%)
$250,000
Federal first-year deduction at 100% bonus
$250,000
Year 1 on that $250,000 without a study (27.5-year straight line)
about $9,100
On the Kentucky return, the $250,000 federal bonus deduction is not allowed. Full disallowance, not a timed addback schedule: add back total federal depreciation on Schedule M line 3 (or the equivalent 720/PTE adjustment), deduct separately computed Kentucky depreciation (no bonus) on line 12, and track a separate Kentucky basis. The disallowed bonus is recovered through larger Kentucky regular MACRS deductions over the asset's life and through a smaller Kentucky gain (computed on a 'Kentucky' Schedule D/Form 4797 using Kentucky basis) when the asset is sold.
Model your own numbers with the tax strategy projector.
3. Section 179 in Kentucky
Kentucky Section 179 cap: $100,000 (property placed in service on or after 1/1/2020; no phase-out). $25,000 cap with $200,000 phase-out for property placed in service 9/10/2001 through 12/31/2019..
Kentucky allows Section 179 only as the IRC read on December 31, 2003 for property placed in service on or after January 1, 2020: a $100,000 expensing cap with the investment phase-out expressly turned off (KRS 141.0101; 2025 Schedule M instructions direct entering $100,000 on line 1 of the created Kentucky Form 4562). Kentucky does not conform to the TCJA/OBBBA federal caps (about $2.5M federal for 2025). The Kentucky income limitation is computed using Kentucky net income before the 179 deduction rather than federal taxable income.
4. Does it still help in Kentucky?
Yes. The MACRS class lives and methods a cost seg study relies on (5/7/15-year personal property and land improvements, 27.5-year residential, 39-year nonresidential) are identical under the 2001/2003-vintage IRC Kentucky uses, so reclassifying components into shorter lives still accelerates Kentucky depreciation materially; the investor just takes regular MACRS (200%/150% DB) instead of 100% bonus on the Kentucky return.
- •Kentucky has decoupled from bonus depreciation continuously since the first 30% bonus in 2002; no legislative session (including 2025 and 2026) has conformed, and 2026's HB 757 updated general IRC conformity to 12/31/2025 while leaving the KRS 141.0101 depreciation carve-out untouched.
- •No addback-recovery schedule like other states: Kentucky requires a full parallel depreciation system via a self-created 'Kentucky Form 4562' (write 'Kentucky' at the top of a federal 4562, strike the special depreciation allowance line), with addback on Schedule M line 3 and subtraction on line 12. If no bonus or excess 179 was taken federally, you must still enclose the federal 4562 to prove no adjustment is needed.
- •Separate Kentucky basis must be tracked for every bonus-depreciated asset; on sale, gain/loss is recomputed on a 'Kentucky' Schedule D/Form 4797, so the federal-vs-state difference reverses at disposition (smaller Kentucky gain).
- •Qualified improvement property (QIP) 15-year treatment post-dates Kentucky's 12/31/2001 and 12/31/2003 depreciation conformity dates, so interior improvements that are 15-year bonus-eligible QIP federally generally remain 39-year property for Kentucky.
- •Kentucky's Section 179 cap of $100,000 (no phase-out) is one of the lowest in the country vs. the roughly $2.5M federal 2025 cap; property placed in service before 2020 was limited to $25,000 with a $200,000 phase-out.
- •HB 757 (2026) also decoupled Kentucky from OBBBA's deductions for tips, overtime, and car loan interest, from IRC 174A immediate R&E expensing (Kentucky requires 5-year amortization), and from the post-2024 IRC 163(j) EBITDA-based interest limit.
- •Kentucky's individual income tax is a flat rate: 4% for 2025, dropping to 3.5% for 2026, so each dollar of state depreciation deduction is worth less than in high-rate states; the state also levies the LLET (Limited Liability Entity Tax) on gross receipts/gross profits of LLCs and other limited-liability pass-throughs, which depreciation does not reduce.
- •Kentucky NOLs (post-2017) are limited to 80% of Kentucky taxable income with indefinite carryforward, and Kentucky applies its own excess business loss limitation (Form 461-K), which can defer large cost-seg-driven losses at the state level.
5. The exit: recapture and timing
The accelerated deductions come back into view when you sell. Gain attributable to the 5, 7, and 15-year property is Section 1245 recapture, taxed at ordinary rates, and the straight-line depreciation on the building itself is unrecaptured Section 1250 gain, taxed at up to 25%. A study does not create that bill, it moves deductions forward, but the timing of the sale decides how much of the benefit you keep.
Two levers manage the exit. A 1031 exchange defers both flavors of recapture along with the rest of the gain, and simply holding the property lets the time value of the early deductions do its work; most owners want a 3 to 5 year horizon before a taxable sale for the math to stay comfortably positive. Model the exit before you commission the study, not after.