new repair regulations – tangible property regulations final regulations governing repairs and...

NEW REPAIR REGULATIONS –Tangible Property Regulations

Final Regulations Governing Repairs and Capitalization Make Significant Changes; Effective January 1, 2014

The final regulations providea general framework for distinguishing

• capital expenditures • from deductible

• supply, • repair and • maintenance costs

Over 200 pages

174 Examples

The Basics• For non-incidental materials and supplies

• $200 write off per item – no policy

• De minimis safe harbor (Section 1.162-3(f)(1)• $500 write off per item

• Policy • No AFS (Applicable Financial Statements

• De minimis safe harbor (Section 1.162-3(f)(1)• $5,000 write off per item

• Policy • With AFS (Applicable Financial Statements

• De minimis safe harbor for small taxpayers (Section 1.162(a)-3(h)(1)• Eligible buildings

• Per building property amount of $1,000,000 or less• Write off per item

• Lesser of 2% of the unadjusted basis of the eligible building or $10,000• Annual election

Safe Harbor for Small Taxpayers with Buildings

The final regulations include an annual safe harbor election for buildings owned or leased by a taxpayer with an unadjusted basis (i.e., generally, cost) no greater than $1 million.

In the case of a lessee, the unadjusted basis of the building is equal to the total amount of (undiscounted) rent paid or expected to be paid over the entire lease term, including expected renewal periods.

The taxpayer must have average annual gross receipts of $10 million or less during the three preceding tax years. Gross receipts are specially defined and include income from sales (unreduced by cost of goods), services and investments .


Under the new exception, the small taxpayer is not required to capitalize improvements if the total amount paid for repairs, maintenance , improvements and similar activities during the year that are performed on the building does not exceed the lesser of $10,000 or 2% of the unadjusted basis of the building.

Amounts deducted under the de minimis rule or the new safe harbor for routine maintenance are counted toward the $I 0,000 limit.

No amount is deductible under the safe harbor for buildings if this limit (or the $1 million adjusted basis limit) is exceeded. The safe harbor is applied separately to each building owned or leased by the taxpayer.


Eligible property includes a building (including structural components and building systems) owned or leased by a qualifying taxpayer, and also portions of buildings that are owned or leased and considered separate units of property under the regulations, such as an individual condominium or cooperative unit or office space. The safe harbor does not apply to costs paid with respect to exterior land improvements that are separate units of property.

Although the new safe harbor is helpful, small businesses continue to complain that the regulations require costly accounting "paperwork " Nevertheless, under the final regulations, small taxpayers do not have to analyze the building systems.

As with the $200 materials and supplies threshold, the IRS is given the authority to adjust the $10,000, two percent, and $1 million amounts in the future through published guidance.

What We Need To DoThe IRS released final regulations in September of 2013 on the capitalization of tangible property costs.

The final regulations allow the de minimis safe harbor election which allows eligible businesses to immediately expense certain property that would otherwise have to be capitalized.

How do you qualify for the safe harbor ? You must have nontax accounting procedures in place at the beginning of the year, under which you expense amounts paid for property costing less than a specified dollar amount or that have a useful life of 12 months or less.

The amount that can be expensed under the safe-harbor election depends on whether the business has an Applicable Financial Statement (AFS). These statements include financial statements filed with the SEC or provided to a federal or state government or agency (other than the SEC or the IRS); and certified audited financial statements used for credit purposes, reporting to owners, or other substantial nontax purposes.

What We Need To Do (Cont’d)Those businesses with an AFS must have written accounting procedures in place to make the safe harbor election by January 1, 2014 for calendar-year businesses. Those that have made the election can expense property that costs up to $5,000 (per item), if in accordance with their written accounting procedures, the property is expensed on their AFS.

Those businesses without an AFS must have accounting procedures in place by January 1, 2014 for calendar-year businesses . If so, they can expense property costing up to $500 (per item), if in accordance with those procedures, property is expensed in their books and records.

Use it Or Lose It

Allowed or allowable - Depreciation allowed or allowable is now a very important issue requiring review and correcting any errors in prior year depreciation (use it or lose it). Remember that Section 1.1016-3 remains part of the final regs and will be used by the IRS to disallow depreciation deductions.

Beware!

The taxpayers could have certain current and future tax depreciationdenied and/or miss the potential write-off on previously capitalized assets.

This exposure is greatest for depreciation and related building issues, since that is where the greatest dollar amount, exist.

There is high potential for depreciation errors, and the time to correct is limited (i.e., only through 2014). Data gathering is a consideration.

PolicyA capitalization policy

$500 Safe Harbor It is ABC Company policy to capitalize assets that cost $500 or more each. All capitalized assets will be depreciated in accordance with the business 's depreciation policy, according to tax rules and regulations. Assets that cost less than $500 individually will be expensed in the period purchased.

Even though the regulations do not define accounting procedures or describe what the procedures should include, what they mean is a capitalization policy. What is a capitalization policy? Many businesses establish a minimum dollar amount that must be spent before a cost is capitalized, as illustrated below. The following are sample capitalization policies that can be used or modified to fit a business's particular needs

$5,000 Safe Harbor It is the ABC Company policy to capitalize assets that cost $5,000 or more each. All capitalized assets will be depreciated in accordance with the business's depreciation policy, according to tax rules and regulations . Assets that cost less than $5,000 individually will be expensed in the period purchased.

$500 or $5,000

In a concession principally to smaller businesses, the final regulations add a safe harbor for taxpayers without an applicable financial statement (AFS) (the $500 threshold).

The per-item or invoice threshold amount in that case is $500. The IRS argued that it was justified in imposing that lower threshold since there would be less assurance that the accounting procedures clearly reflect income.

The $500 limit (like the $5,000 ceiling for taxpayers with applicable financial statements) is all or nothing. If the cost of an invoice or item exceeds the applicable limit, then no portion of the cost is deductible under the safe harbor.

Determining Invoice PriceThe final regulations provide an anti-abuse rule that prohibits taxpayers from "manipulating a transaction"to avoid the $5,000 or $500 per item limit. The rule specifically prohibits "componentization" of an item of property. For example, a taxpayer who purchases a truck cannot split the cost of the truck into three components (such as the engine, cab and chassis) on three invoices in order to avoid the dollar limit.

Determining Invoice Price (Cont’d)

The final regulations also clarify the treatment of transaction costs and certain other additional costs paid in connection with the acquisition of property for purposes of the $5,000/$500 per item limit.

A taxpayer must include all additional costs, such as delivery fees, installation services and similar costs, that are included on the same invoice as the invoice for the cost of the property.

If these additional costs are not included on the same invoice as the property, the taxpayer may, but is not required to, include the additional costs in the item of property.

Example 1: ABC Company buys ten printers at $250 each, for a total cost of $2,500, as indicated by the invoice. ABC Company does not have an AFS, but does have accounting procedures in place at the beginning of the year to expense property costing less than $500, and treats the printers purchased as an expense on its books and records. ABC Company meets the requirements for the de minimis safe harbor. If it elects to apply the safe harbor, it can deduct the cost, assuming it is an otherwise deductible trade or business expense. Example 2: ABC Company buys ten computers at $600 each, for a total cost o/ $6,000, as indicated by the invoice. ABC Company does not have an AFS, but does have accounting procedures in place at the beginning of the year to expense property costing less than $1,000, and treats the computer purchase as an expense on its books and records. The purchase does not meet the requirements for the de minimis safe harbor because the computers cost more than $500 each, per invoice.

5 Main Areas

Materials and supplies (Reg. 1.162-3);

Repairs and maintenance (Reg. 1.162-4);

Capital expenditures [Reg. 1.263(a)-1];

Amount s paid for the acquisition or production of tangible property [Reg. 1.263(a)-2]; and

Amount s paid for the improvement of tangible property [Reg. 1 .263(a)-3].

New ElectionsIn the case of entities, entities make elections, not individuals

The three new common annual elections created by the regs, are as follows:

The de minimis safe harbor (DMSH); ($500, $5,000)

Safe harbor for small taxpayers (SHST) (Buildings 1,000,000 or less); and Partial asset dispositions (PAD) (If taxpayer wants to apply to prior period, then it is an accounting method change).

The other three new elections are those enabling a taxpayer to capitalize and depreciate as follows:

Certain materials and supplies;

Amounts paid for employee compensation ; and

Overhead as amounts that facilitate the acquisition of property and/or capitalize repairs and maintenance costs.

More About Elections

De minimis safe harbor is elective. The final regulations provide that the de minimis rule is a safe harbor that is elected annually by including a statement with the taxpayer's tax return for the year elected. The election applies to all qualifying expenses, including materials and supplies that meet the requirements for qualification. An electing taxpayer cannot exclude particular qualifying expenses. An election to use the safe harbor may not be made through the filing of an application for change in accounting method. A late election may be made on an amended return only with IRS consent. The election is irrevocable. A transitional rule allows taxpayers to apply the de minimis rule contained in the final regulations to a tax year beginning in 2012 or 2013 by filing an amended Federal tax return.

Even More About ElectionsSafe Harbor for Small Taxpayers with Buildings

Election [Reg. Section l.263(a)-3(h)(6)] - The election is made annually on a timely filed (including extensions) original income tax return.

In the case of a partnership or S corporation that owns or leases a building, the partnership or S corporation makes the election.

The election may not be made by filing an application for a change in accounting method or on an amended return unless permission to file a late election on an amended return is first obtained . The election is irrevocable.

This is an annual election made building by building Attach statement to tax return for year in question (due with return).

And Still More About ElectionsThis is a yearly election, building by building. The original return must be filed timely, including extensions.

Titled "Section l.263(a)-3(h) Safe Harbor Election for Small Taxpayers“

Include taxpayer's name, address, taxpayer identification number, and a description of each eligible building property to which the taxpayer is

applying the election.

Amend return if filed within 100 days from due date (includes extensions), even if you didn't actually file an extension.

A transitional rule allows taxpayers. By filing an amended Federal tax return, to apply the safe harbor as contained in the final regulations to a tax year beginning in 2012 or 2013, even though a timely election was not initially made. This relief is also provided for certain other provisions that require an election.

Election to Capitalize Repair and Maintenance Costs

The final regulations allow taxpayers to make an annual election to opt out of expensing repair and maintenance costs if the taxpayer treats the costs as capital expenditures on its books and records.

A taxpayer must elect to capitalize these expenses on its return. An electing taxpayer must also depreciate the expenditures.

The preamble to the final regulations provides that this annual election may not be revoked.

The new election allows a taxpayer to treat amounts paid during the tax year for the repair and maintenance of tangible property as amounts paid to improve that property, and as an asset subject to the allowance for depreciation.

The election applies only to amounts that the taxpayer incurs in carrying on a trade or business, and treats as capital expenditures on its books and records used for regularly computing income.

Election to Capitalize Repair and Maintenance Costs

The election applies to all amounts paid for repair and maintenance to tangible property that the taxpayer treats as capital expenditures on its books and records for the tax year.

An electing taxpayer must begin to depreciate the cost of such improvements when they are placed in service by the taxpayer under the applicable provisions of the Tax Code and regulations.

The election is made by attaching a statement to the taxpayer's timely-filed original tax return (including extensions) for the tax year in which the repair and maintenance expenditures are paid.

The election may not be made by filing an application for a change in method of accounting, or, unless permission to file a late election is first obtained, on an amended return.

This election allows a taxpayer to align its tax treatment with capitalization policies used for its books and records, thus eliminating book-to-tax differences and reducing administrative costs. Taxpayers making this election also can avoid the application of difficult and often subjective rules in determining whether a particular expenditure is currently deductible as a repair or must be capitalized.

Partial Disposition Election (PAD) - Now an Election

To defer a loss on the retirement of a structural component, the temporary regulations required taxpayers to place the building in a general asset account. It seemed more practical to most practitioners to simply make the recognition of gain or loss on the retirement of a structural component or other component that was treated as a separate asset elective. The final regulations that were issued on September 13, 2013 adopt this position by creating a "partial disposition" election for assets that are not, in general, asset accounts. If the annual election is made, a taxpayer may recognize a loss on the retirement of a structural component. If the election is not made, the taxpayer will continue to depreciate the basis of the retired component.

The election is made by completing form 4797 and other applicable forms with a statement of election.

Materials and supplies (Reg. 1.162-3)The cost of non-incidental materials and supplies are generally deducted in the tax year first used or consumed.

The final regulations define "materials and supplies" to mean tangible property used or consumed in the taxpayer's business operations that is not inventory, and that is:

A component that is acquired to maintain, repair or improve a unit of tangible property owned, leased or serviced by the taxpayer, but is not acquired as part of any single unit of tangible property;

Fuel, lubricants, water and similar items that are reasonably expected to be consumed in 12 months or less, beginning when used in a taxpayer's operations;

A unit of property that has an economic useful life of 12 months or less, beginning when the property is used or consumed in the taxpayer's operations;

A unit of property with an acquisition or production cost less than $200 under the final regulations; or

Identified by the IRS in published guidance.

Materials and supplies (Reg. 1.162-3)(Continued)

Spare Parts The final regulations retain the general rule that rotable and temporary spare parts are materials and supplies that are deducted in the year used or consumed, unless the taxpayer elects an optional method of accounting for the parts. However, the final regulations add "standby emergency parts" to the definition of a material or supply that is deducted in the year used or consumed. The optional accounting method does not apply to standby emergency parts. A rotable spare part is a material or supply which is installed on a unit of property, removed from the property, repaired or improved, and either reinstalled on the same or other property or stored for later installation. Temporary spare parts are components used temporarily until new or repaired parts can be installed, and then are removed and stored for later installation. Standby emergency spare parts are parts acquired for a particular machine and set aside to avoid substantial operational time loss.

Standby spare parts are usually expensive, and they are not subject to periodic replacement, acquired in quantity, repaired or reused.

Materials and supplies (Reg. 1.162-3)(Continued)

Under the final regulations, only rotable, temporary or standby emergency spare parts qualify for the election to capitalize and depreciate as separate asset amounts paid for materials and supplies used to repair or improve a unit of property. Without this limitation, different recovery periods could apply to a capitalized material or supply and the property it improves or repairs. The limitation is also consistent with previous IRS rulings.

Routine MaintenanceThe costs of certain routine maintenance activities for property other than a building or the structural components of a building need not be Capitalized as an improvement.

Activities are routine if the taxpayer reasonably expects to perform them more than once during the class life of the property.

The final regulations add a safe harbor for the routine maintenance provided on buildingsWhich applies if the taxpayer reasonably expects to perform them more than once during the class life of the property.

The final regulations also ( 1) remove the taxpayer's AFS as a factor to consider; and (2) clarify that a taxpayer's expectation will not be unreasonable merely because maintenance is not actually performed a second time during the relevant period, provided the expectation was reasonable when the property was placed in service.

Routine MaintenanceUnder a routine maintenance safe harbor, an amount paid is deductible if it is for recurring activities that a taxpayer expects to perform to keep a unit of property in its ordinarily efficient operating condition. The activities are routine only if, at the time the unit of property is placed in service, the taxpayer reasonably expects to perform the activities more than once during the class life of the unit of property.

Class life is the same as the MACRS alternative depreciation system (ADS) recovery period. Generally, this is longer than the regular MACRS recovery period.

Routine Maintenance-BuildingsThe final regulations expand the routine maintenance safe harbor to allow expensing for routine maintenance activities on a building and its structural components (including building "systems").

However, an activity is covered only if the taxpayer reasonably expects to perform such maintenance more than once over a ten-year period.

However, the IRS assured taxpayers that it would not apply hindsight in determining whether the taxpayer properly anticipated

maintenance more than once over a ten-year period.

Thus, so long as the taxpayer reasonably expected to perform the maintenance at least twice in the ten-year period, the safe harbor applies even if the maintenance occurs only once.

However, the IRS will look at a taxpayer's history with similar items to see if the taxpayer has a basis to "reasonably expect" to meet the safe harbor criteria.

Routine Maintenance-Buildings

Under the final regulations, the routine maintenance safe harbor does not apply to amounts paid for repairs, for maintenance, and for improvements to network assets such as railroad track, oil and gas pipelines, water and sewage pipelines, power transmission and distribution lines, and telephone and cable lines.

ImprovementsThe final regulations continue to require capitalization of amounts paid to improve a unit of tangible property. A unit of property is improved if amounts are paid for activities performed by the taxpayer resulting in:

A betterment to the unit of property;

A restoration of the unit of property; or

Adaptation of the unit of property to a new or different use.

Improvements to leased property generally follow the same rules as improvements to property owned by a taxpayer. Capitalize improvements , betterments and adaptations, while deducting repairs and routine maintenance.

Amount capitalized by lessee is a separate unit of property .

Amount capitalized by lessor is not a separate unit of property.

Landlord must capitalize construction allowance.

BettermentsIn the final regulations, the IRS has clarified the betterment rules and revised two of the betterments tests. Under the temporary regulations, a betterment is defined as an expenditure that:

Ameliorates a material condition or defect that existed prior to the acquisition of the property or arose during the production of the property;

Results in a material addition to the unit of property (including a physical enlargement, expansion or extension) to a unit of property or its output; or

Results in a material increase in the capacity (additional space), productivity, efficiency, strength or quality of the unit of property or its output.

A building is made better by improvements and/or expansion of square footage

Unit of PropertyThe default classification is the functional interdependence rule [Reg. Section 1.263(a)-3(e)]. A unit of property for this purpose consists of a group of functionally interdependent components, such as the parts of a machine, with the machine being treated as a unit of property. In the case of a building, the building (including its structural components) is a unit of property.

However, certain major systems of the building, such as heating, air conditioning and ventilation (HVAC), plumbing and electrical, are treated as separate units of property for purposes of determining whether there has been a capitalizable betterment, restoration or adaptation to the system.

A building and its structural component equals a unit of property.

More Unit of Property

Special cases outside of functionally interdependent components

Building structure - A building and its structural components (watch the definition) are a single unit of property. An amount is paid for an improvement to a building if it improves building structure and/or its structural components [1.48-1(e)(2)].

The term "structural components" includes such parts of a building as: walls, partitions, floors and ceilings, permanent coverings (paneling), windows and doors, all components of a central air conditioning or heating system, including motors, compressors, pipes and ducts; plumbing and plumbing fixtures; electric wiring and lighting fixtures; chimneys; stairs, escalators and elevators, including all components thereof; sprinkler systems; fire escapes; and other components relating to the operation or maintenance of a building.

More Unit of Property

However, the term "structural components" does not include machinery the sole purpose of which is to meet temperature or humidity requirements essential for the operation of other machinery or the processing of materials or foodstuffs.

Machinery may meet the "sole justification" test even though it incidentally provides for the comfort of employees, or serves, to an insubstantial degree, areas where such temperature or humidity requirements are not essential.

For example, an air conditioning and humidification system installed in a textile plant in order to maintain the temperature or humidity within a narrow optimum range which is critical in processing particular types of yarn or cloth is not included within the term "structural components."

Gas distribution system

Still More Unit of PropertyCondominium - Unit of property is individual unit owned by the taxpayer

and its structural components [l.48-l(e)(2)]. Cooperative - Unit of property is that portion of the building in which taxpayer has possessory rights, and structural components that are part of that portion. Leased building - Unit of property is that portion of a building subject to the lease, and structural components associated with the leased portion.

Building SystemsHeating, ventilation and air conditioning ("HVAC") systemsPlumbing systemsElectrical systemsEscalators ElevatorsFire-protection and alarm systemsSecurity systems Gas distribution systems Other structural components identified in future published guidance that are specifically designated as building systems.

Example(1) - Lessee ImprovementsLessee improvements; Additions to building. T is a retailer of consumer products. In Year 1, T leases a building from L, to use for retail sales. The leased building consists of the building structure and various building systems, including a plumbing system, an electrical system, and an HVAC system. Under the terms of the lease.. T is permitted to improve the building at its own expense. Because T leases the entire building, T must treat the leased building and its structural components as a single unit of property. When an amount is paid to improve a leased building property, when T pays an amount that improves the building structure, the plumbing system, the electrical system, or the HVAC system, then T must treat this amount as an improvement to the entire leased building property.

Example(1) - Lessee Improvements

In Year 2, T pays an amount to construct an extension to the building for additional warehouse space. Assume that this amount is for a betterment as defined under the regulation to T's leased building structure and does not affect any building systems. Accordingly, the amount that T pays for the building extension is for a betterment to the leased building structure, and thus, is treated as an improvement to the entire leased building. Because T paid an amount to improve a leased building property, T is required to capitalize the amount paid for the building extension as a leasehold. In addition, T is required to treat the amount paid for the improvement as the acquisition or production of a unit of property. (leasehold improvement proper!)


In Year 5, T pays an amount to add a large overhead door to the building extension that it constructed in Year 2. To determine whether the amount paid by T is for a leasehold improvement, the unit of property and the improvement rules are applied. Accordingly T's previous improvements to the leased property are included. Therefore, the unit of property is the entire leased building, including the extension built in Year 2. In addition, the leased building property is improved if the amount is paid for an improvement to the building structure or any building system. Assume that the amount paid to add the overhead door is for a betterment to the building structure, which includes the extension. Accordingly, T must capitalize the amounts paid to add the overhead door as a leasehold improvement to the leased building property. In addition T is required to treat the amount paid for the improvement as the acquisition or production of a unit of property (leasehold improvement property). However, to determine whether a future amount paid by T is for a leasehold improvement to the leased building, the unit of property and the improvement rules are again applied and include the new overhead door.


Lessee property; personal property added to leased building. T is a retailer of consumer products. T leases a building from L for retail use. Pursuant to the lease, L provides a construction allowance to T, which T uses to acquire and construct partitions for fitting rooms, counters, and shelving. Assume that each partition, counter, and shelving unit is a unit of property. Assume that for Federal income tax purposes T is treated as the owner of the partitions, counters, and shelving. T’s expenditures for the partitions, counters, and shelving are not improvements to the leased property, but rather constitute amounts paid to acquire or produce separate units of personal property.

RestorationsIn general, amounts paid to restore a unit of property, including making good the exhaustion for which an allowance is or has been made, must be capitalized if they exceed the safe harbor for repairs.

An amount is paid to restore a unit of property only if it:

Replaces a component of a unit of property for which the taxpayer has properly claimed a deduction.

Caution: Can force you to capitalize an otherwise "expense" as a

"replacement part.“

Replaces a component of a unit of property for which the taxpayer has taken the adjusted basis of the component into account in realizing gain or loss.

ls for repair of damage to the unit of property for “which taxpayer has properly taken a basis adjustment for a casualty loss under Section 165 (however, now special cap at basis level).

Restoration

The IRS claims to have clarified the terms "major component" of "substantial structural part" in the final regulations.

Major component: ( l ) A part or combination of parts that performs a discrete and critical function in the operation of the unit of property. (2) An incidental component of the unit of property, even though such component performs a discrete and critical function in the operation of the unit of property, generally will not, by itself, constitute a major component. Substantial structural part A part or combination of parts that comprises a large portion of the physical structure of the unit of property.

The final regulations provide some relief from a rule in the temporary regulations which required a taxpayer to capitalize the entire cost of repairing property that was damaged in a casualty if the taxpayer adjusted the basis of the property as a result of claiming a casualty loss.

Capitalization was required even if the adjusted basis of the building (generally, the amount to which the casualty loss is limited) was less than the amounts that could otherwise be deducted as a repair expense.

Even if a taxpayer chooses not to claim a casualty loss, the basis adjustment for the loss that could be claimed is required, and the deduction of related repair expenses is prohibited, under the temporary regulations.

Restorations

The final regulations revise the casualty loss rule to permit a deduction for amounts spent in excess of the adjusted basis of the property damaged in a casualty event, provided they would otherwise be considered deductible repair expenses. A taxpayer is still required to capitalize amounts paid to restore damage to property that would be capitalized without regard to the casualty loss rule. However, the costs required to be capitalized under the casualty loss rule are limited to the excess of:

1. The taxpayer 's basis adjustments resulting from the casualty event, over

2. The amount paid for restoration of damage to the unit of property that is otherwise considered a capitalizable restorations . Casualty-related expenditures in excess of this limitation may be deducted as repair expenses if they so qualify.

Restorations

Built Like New

The final regulations retain the rule that a capitalizable restoration includes rebuilding a unit of property to a like new condition after the end of its class life. A property is rebuilt to a like-new condition if it is brought to the status of new, rebuilt, remanufactured or similar status under the terms of any federal regulatory guideline or the manufacturer's original specifications. The final regulations clarify that generally a comprehensive maintenance program, conducted according to the manufacturer's original specifications, even though substantial, does not return a unit of property to like-new condition.

Change In Accounting MethodForm 3115

#7 to correct class lives and bonus "impermissible" methods of depreciation.

#184 to adopt proper repairs & maintenance treatment.

#186 to adopt new treatment for non-incidental materials & supply.

#21 for the right to write off removal costs.

#177 to write off prior building assets disposed of in prior

years.

#196 to elect late Partial Asset Dispositions (PADs) on those #177s filed.

Change In Method Of Accounting

A taxpayer may choose to apply the final regulations to tax years beginning on or after January l , 2012, or in certain cases to amounts paid or incurred in tax years beginning on or after January 1, 2012 (application on or after January 1, 2014 is required). The IRS promised in the Preamble to the final regulations to provide separate procedures under which taxpayers may obtain automatic consent for a tax year beginning on or after January 1, 2012, to change to a method of accounting provided in the final regulations. The IRS expects to issue this guidance shortly. B. Most changes in accounting required under the final regulations will require the computation of a Code Sec. 481(a) adjustment. The IRS reported that it anticipates that where a taxpayer seeks to change to a method of accounting that is applicable only to amounts paid or incurred in tax years beginning on or after January 1, 2014, a limited Code Sec. 481(a) adjustment will apply, taking into account only amounts paid or incurred in tax years beginning on or after January 1, 2014, or at a taxpayer's option, amounts paid or incurred in tax years beginning on or after January 1, 2012.

Change In Method Of AccountingRev. Proc. 2014-16, which covers the method changes for Sections 162(a) and 263(a) addressing method changes for the following final TPR regulation sections and adds new automatic method numbers 184 to 193:

Section 1.162-3, which addresses material and supply issues;

Section 1.162-4, concerning repairs and maintenance, but also the de minimis safe harbor (DMSH);

Section l.263(a)-l , which covers the general rules about capitalization where a taxpayer must capitalize direct and indirect costs to acquire or produce tangible property ;

Section 1.263(a)-2, dealing with the acquisition of tangible property; and

Section l.263(a)-3, the more difficult section of the regulations on improving tangible property, referred to

as the Restoration, Adaptation, Betterment and Improvement (RABI) rules.

Revenue Procedure 2014-17 explains automatic accounting method changes to depreciation and cost recovery.


Some of the areas to be concerned with are as follows:

When can property be depreciated (placed in service or taken out of service)?

Proper class life.

Basis of depreciable property.

Adoption of method of accounting.

Use of Section 179 deduction and Section 168(k) (bonus depreciation).

Listed property.

Improvements.

Change In Method Of AccountingDepreciation Errors to Check - that may need to be corrected:

Bonus depreciation (If taken on some, but not all, applicable assets = Form 3115 filing under automatic method number 7) (If taken on all, but just prepared the returns wrong = amended returns, why? This is considered an error – mis-posting - which requires an amended return).

Bonus depreciation (if not taken for a class of assets, but now want to take = need for a letter ruling to change).

Improper lives for assets (considered "an impermissible to permissible method change and requires Form 3115, filing under automatic method number 7).

Depreciation taken on assets not owned (need Form 3115).

Depreciation not taken on assets owned (need Form 3115).

Change In Method Of AccountingChanging Depreciation Methods that Are a Method Change (Form 3115 needed)

Change from an impermissible method if the impermissible method was used in two or more consecutively filed tax returns.

Change in the treatment of an asset from non-depreciable to depreciable, or

vice versa.

Change in depreciation method, period or convention. Change from not claiming to claiming special depreciation allowance (bonus), if taxpayer did not make the election to claim any special allowance. Change from claiming 50% bonus depreciation to claiming 30% or 100%.


Determine if you should change methods related to: Write off or capitalization of materials and supplies; Write off or capitalzation of building components previously disposed of; Repairs and maintenance , and/or improvements; and Most importantly, correcting prior years' depreciation class or method error (i.e., you are employing incorrect depreciation methods; for example: five year asset is classified and being depreciated as seven or fifteen year asset).

Change In Method Of AccountingFile Forms 3115 with the 2012 or 2013 tax returns to:

Adopt, change or correct depreciation accounting methods (this can be automatic method #7 dealing with impermissible to permissible method changes, such as a class life of 15 years to a proper class life of 5 years; automatic method # 107dealingwith the write off leasehold improvements of a landlord that were disposed of in prior years, but still continue to be depreciated).

Adopt written accounting procedures to treat as an expense for both tax and nontax amounts ·paid for property costing less than a certain dollar amount [in order to take advantage of the new de minimis safe harbor (DMSH) rule, whether one does or does not have an AFS].

Check your depreciation schedules for class life or bonus issues, and file Forms 3115 to correct as needed.

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