Detailed Engineering Cost Estimates: When Actual Costs Are Not Available

Actual construction costs are valuable evidence, but they are not always available. An acquired commercial property may come with extensive construction records, or the buyer may have little more than a purchase price and an existing building. The 2025 IRS Cost Segregation Audit Technique Guide addresses this situation through the detailed engineering cost estimate approach. It follows many of the same engineering steps as the detailed cost approach, but estimates costs instead of relying on actual costs. For investors, the important lesson is that estimating does not mean guessing. A defensible estimate starts with the physical property, reliable construction-cost data, and a documented engineering process.

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Key Takeaways

• The detailed engineering cost estimate approach estimates costs when actual construction cost records are unavailable or insufficient.
• Engineers use property inspections, construction documents, estimating sources, quantities, and unit costs to develop the allocation.
• An estimate must be supported by reliable data and consistent estimating techniques rather than a convenient percentage.
• The approach is particularly relevant to acquired property where historical construction records may be limited or unavailable.
• A thorough field inspection becomes especially important when drawings and specifications are missing or incomplete.
• Estimated costs should be tested against available project or system costs whenever possible rather than accepted without comparison.
• When actual costs are missing, the estimate must be built from the property and the evidence.

What Is the Detailed Engineering Cost Estimate Approach?

The detailed engineering cost estimate approach, also called the detailed estimate approach, is one of the six approaches identified by the 2025 ATG.

It is similar to the detailed engineering approach from actual cost records.

The critical difference is simple:

The detailed cost approach uses actual costs. The detailed estimate approach estimates costs.

The ATG explains that this approach is used when cost records are not available, including acquisitions involving land, existing buildings, land improvements, and personal property.

That makes the approach particularly relevant to investors who purchase existing commercial real estate.

An acquired property may have been constructed recently or decades earlier.

The available information can range from a complete construction file to little more than the purchase price. The ATG recognizes that when construction cost information is unavailable, property costs must be estimated using construction cost data, methods, and techniques normally employed for property appraisal.

This does not turn the study into an appraisal.

It means the engineer has to develop a defensible estimate of the property's components using appropriate cost information and then account for the property's condition at acquisition.

How Does the Detailed Estimate Approach Work?

The detailed estimate approach follows most of the same engineering process used when actual cost records are available.

The difference occurs when the engineer reaches the point of determining the cost of individual property units.

Instead of relying on actual contractor costs, the engineer uses reliable estimating data.

The ATG identifies several types of supporting information, including:

• Blueprints
• Specifications
• Contracts
• Job reports
• Change orders
• Payment requests
• Invoices
• Appraisals

When estimates are necessary, the ATG says they should be based on costing data from contractors or reliable published sources. The source should be clearly referenced, including the specific volume, page, and item number where applicable. Consistent estimating techniques and unit-cost data sources should be used across the items being estimated.

The basic engineering sequence therefore remains familiar:

1. Identify the property and assets.
2. Inspect the property.
3. Review available construction documentation.
4. Classify the assets.
5. Develop quantities.
6. Determine appropriate unit costs.
7. Apply the estimated costs to the identified assets.
8. Account for applicable indirect costs.
9. Reconcile the resulting property values to the overall acquisition economics.

The process is still engineering-based.

The evidence used to establish cost is simply different.

This is why how engineers perform cost segregation matters. The engineer must understand the physical property before selecting and applying the appropriate estimating data.

Why Does Estimating Require Engineering Judgment?

A cost manual does not know what exists inside a particular building.

A published unit cost can tell an engineer what a particular type of construction may cost under defined assumptions.

It cannot inspect the property.

It cannot determine whether a particular system was actually installed.

It cannot determine whether the building's construction matches the assumptions behind the cost data.

That is why the engineering process remains essential.

CostSegRx engineers start with the property.

They ask:

What exists?

How was it constructed?

What materials and systems are present?

What does each asset support?

What documentation is available?

What cost information can reasonably be applied to those assets?

The ATG's quality-study guidance similarly emphasizes that documentation, field inspection, engineering procedures, and the amount of contemporaneous construction information should influence how a study of new or acquired property is performed.

This is the difference between an engineering estimate and a generic percentage allocation.

The estimate is built from the property.

Where Is This Approach Most Useful?

The detailed engineering cost estimate approach becomes particularly important when analyzing acquired property.

Imagine an investor purchases a 20-year-old industrial building.

The seller provides:

• The purchase agreement
• An appraisal
• Some maintenance records
• Limited construction drawings

But the original contractor invoices are unavailable.

The investor still needs to establish the depreciable basis of the acquired property and determine how that basis should be allocated among land, building components, land improvements, and tangible personal property.

The ATG recognizes that situation.

For acquired property where construction costs are unavailable, the ATG describes using replacement cost new, including indirect costs, and then adjusting for the property's age and condition at acquisition. Those adjustments can include physical depreciation, functional obsolescence, and economic obsolescence.

The adjustments may differ among the various property components because a building, land improvement, and piece of personal property can have different useful lives, levels of use, and installation dates.

That is why an acquired property cannot simply be treated as though it were newly constructed on the acquisition date.

The engineer has to understand the property as it actually existed when purchased.

Why Is the Field Inspection So Important?

When original drawings and specifications are missing, the property itself becomes a critical source of evidence.

The ATG recommends a field inspection for quality studies involving both new and used properties. It states that the inspection becomes especially critical when construction drawings and specifications are limited or unavailable, as is often the case with used or acquired property.

A thorough inspection should document:

• The physical details of the building
• Type of construction
• Materials used
• Assets contained within the building
• Building size
• HVAC systems
• Plumbing systems
• Fire protection
• Electrical systems
• Data and communications systems
• Land improvements
• Property condition at acquisition

The field inspection becomes the starting point for estimating construction costs and depreciation for the individual property components.

For an investor, this has a practical implication.

A site visit is not simply an opportunity to take photographs.

It is an opportunity to establish what the property actually contains.

That information can then be connected to drawings, specifications, cost data, and the acquisition records.

A quality cost segregation study should preserve that connection so another reviewer can understand how the conclusions were developed.

How Can Estimated Costs Be Tested?

Illustrative example only. Figures shown are estimated for demonstrative purposes only. Actual land allocations, asset classifications, depreciation, and tax results depend on the specific property, supporting documentation, engineering analysis, and taxpayer circumstances.

Assume an investor acquires a commercial property and the engineer needs to estimate the installed cost of 500 electrical receptacles because the original contractor cost records are unavailable.

An estimating source produces a unit cost of $34.50 per receptacle.

The initial estimate would be:

500 × $34.50 = $17,250

But the estimate should not automatically become the final answer.

Suppose the engineer later obtains a contractor cost schedule for the broader electrical work. That information indicates the actual installed cost of similar receptacles was $21.70 each.

The comparable actual-cost calculation would be:

500 × $21.70 = $10,850

The difference is:

$17,250 − $10,850 = $6,400

The ATG uses a similar example to illustrate why estimated unit costs should be reviewed or compared with actual contractor pricing when that information becomes available. It also notes that applicable indirect costs must be considered.

The lesson is not that published cost data is inherently unreliable.

The lesson is that an estimate should be tested whenever better evidence becomes available.

What Is the Most Important Lesson?

The detailed engineering cost estimate approach exists because real-world property records are not always complete.

An investor may acquire a property without the original construction invoices.

An older building may have incomplete drawings.

A prior owner may have retained some records but not others.

That does not make a cost segregation study impossible.

It changes the evidence-development process.

The engineer must inspect the property, understand its construction, identify its assets, locate the best available documentation, select appropriate estimating data, apply consistent unit costs, and account for the property's actual condition when required.

The ATG specifically cautions that estimated costs should be clearly documented and that substantiation using actual costs is more accurate when actual costs are available. When estimation is necessary, the methodology and sources of cost data should be clearly documented.

That leads to the central engineering principle:

When actual costs are missing, the estimate must be built from the property and the evidence, not from a convenient percentage.