Cost Segregation Study in Texas

Texas is the cleanest state in the country for cost segregation math, and the reason is simple: there is no individual income tax, so there is no state addback, no separate state depreciation schedule, and no divergence between your federal and state basis. What the study produces federally is what you keep.

That simplicity does not mean there is nothing to plan around. Texas raises revenue through the franchise tax on entities and through some of the highest effective property tax rates in the country. Both interact with real estate ownership, and the second one interacts with cost segregation in a way most investors do not anticipate.

How Texas Income Tax Interacts With Federal Strategy

Texas has no individual income tax and no corporate income tax. What it has instead is the franchise tax, often called the margin tax, imposed on taxable entities doing business in the state. The no-tax-due threshold for 2026 reports is $2.65 million of annualized total revenue, up from $2.47 million for 2024 and 2025 reports.

For entities above the threshold, the tax is 0.75% of taxable margin, or 0.375% for entities primarily engaged in retail or wholesale trade. Taxable margin is total revenue less the greater of cost of goods sold, compensation, or 30% of total revenue. Depreciation is not a direct deduction in that calculation the way it is on a federal return, which means a cost segregation study does not reduce Texas franchise tax the way it reduces federal income tax.

Many real estate holding entities qualify as passive entities under Texas Tax Code Section 171.0003 and are exempt from franchise tax entirely, provided at least 90% of federal gross income comes from passive sources such as rents from real property held for investment, dividends, interest, and capital gains. Actively managed short-term rentals frequently fail this test because substantial services push the income out of the passive category.

Texas Pass-Through Entity Tax

Texas does not have a pass-through entity tax, and it does not need one. The entire purpose of a PTET is to move state income tax from the individual return, where the SALT cap limits deductibility, to the entity return, where it is fully deductible. Texas imposes no individual income tax, so there is nothing to shift.

That is a structural advantage worth quantifying when you compare Texas to a high-tax state. A California owner running a PTET election is doing work to recover a federal deduction on tax they still have to pay. A Texas owner never pays the tax in the first place.

The franchise tax, where it applies, is an entity-level tax and is deductible on the federal return as a business expense. It is not subject to the individual SALT cap. No election is required to get that treatment.

Texas Depreciation Conformity

Because Texas has no income tax, there is no state conformity question for bonus depreciation. Federal bonus depreciation under IRC Sec. 168(k) flows through with no addback, no subtraction modification, and no separate state depreciation schedule to maintain.

This is a genuine administrative advantage. Investors in decoupling states like California, New York, and Virginia carry two sets of asset basis for the entire holding period and reconcile them at sale. Texas investors carry one.

The one place depreciation surfaces in Texas is the franchise tax cost of goods sold calculation, which does permit depreciation on certain property used in production of goods. That is relevant to manufacturers and builders. It is generally not relevant to a rental real estate portfolio.

Cost Segregation Considerations Specific to Texas

The Texas planning conversation moves off the income tax and onto two other issues.

The first is business personal property tax. Texas counties tax business personal property, and taxable entities must file an annual rendition with the county appraisal district under Texas Tax Code Chapter 22. A cost segregation study produces a detailed, engineering-supported schedule of tangible personal property and its cost. That schedule is useful, but it is also discoverable. Investors sometimes assume a study only ever helps. In Texas the same document that supports your federal five-year classification also documents personal property that may be renditionable. Coordinate the two rather than letting them contradict each other.

Second is the property tax burden itself. Texas effective property tax rates run well above the national average and are the dominant recurring cost of holding Texas real estate. Cost segregation does not reduce ad valorem tax. What it does is improve after-tax cash flow in the early years of ownership, which is precisely when a Texas property is most cash-constrained by its property tax bill. For investors buying with leverage in high-rate counties, front-loading depreciation is often the difference between a property that is cash-flow negative in year one and one that is not.

Third, the passive activity rules still govern. Texas offers no relief from IRC Sec. 469. A large first-year loss on a Texas rental is only usable against non-passive income if you qualify through short-term rental treatment with average stays of seven days or less plus material participation, through real estate professional status, or by having passive income to absorb it. The absence of a state income tax does nothing to change that federal analysis.

Working With AE Tax Advisors in Texas

AE Tax Advisors works with real estate investors, business owners, and high-income professionals across Texas and all fifty states. We are a licensed CPA and IRS Enrolled Agent practice based in Billings, Montana, and we handle the engineering-based cost segregation study, the Texas conformity adjustments, the entity structuring, and the return preparation as one engagement rather than three vendors who do not talk to each other.

That matters more in Texas than it does in a state with simple conformity. A cost segregation provider who delivers a federal-only report leaves you and your preparer to work out the Texas treatment after the fact, which is where the errors happen. We model the federal and Texas outcome together before the study is commissioned, so you know what the number actually is on both returns before you spend anything.

Related reading: the complete guide to cost segregation, our cost segregation study service, short-term versus long-term rental tax treatment, lookback studies and Form 3115, and multi-state tax planning.

Texas tax rates, pass-through entity tax rules, and depreciation conformity provisions described on this page reflect law in effect as of August 2026 and are provided for general information only. State conformity changes frequently and often retroactively. Nothing here is tax advice for your situation, and no client relationship is created by reading it. Talk to us about your facts before acting.