November 2014 WWW. E L L I N A N D T U C K E R. C O M

Transcription

1 November 2014

2 They apply to all taxpayers who own depreciable real or personal property They affect all decisions regarding capitalization, depreciation, and disposition of tangible property

3 Must capitalize amounts paid that: Add to the value of tangible property Substantially prolong the useful life of tangible property Adapt tangible property to a new or different use

4 the subjective nature of the existing standards has resulted in considerable controversy between taxpayers and the IRS over many years the final regulations clarify and expand the standards in the current regulations while achieving results that are consistent with the case law.

5 There have been various proposed and temporary versions of the new regulations over the past ten years The final versions were issued September 2013 (acquisitions) and August 2014 (dispositions) The final regulations are effective for taxable years beginning on or after January 1, 2014

6 There are over 100 pages of detailed regulations and examples May need to: Revise capitalization policy Make new annual elections File changes in accounting methods Revise prior year depreciation schedules Learn and apply new regulations going forward

7 The IRS is planning to enforce the use it or lose it (allowed or allowable) rules: the basis of property shall be decreased by the greater of the amount allowed as deductions in computing taxable income or the amount allowable a taxpayer is not permitted to take advantage in a later year of (a) prior failure to take any such allowance

8 If not enough depreciation was taken when it could have been, that deduction may be lost not permitted to catch up later If something was capitalized that should have been expensed, the deduction for the remaining basis may be lost Upon disposition, the basis of an asset may have to be decreased to reflect allowable depreciation, reducing loss or increasing taxable gain

9 Unknown at this time, however we recommend compliance as a protective measure Some aspects of the changeover to the new regulations are time-sensitive, with a one-time opportunity to do it now A 2014 tax return without any Forms 3115 (documenting compliance with the new regulations) will be an audit red flag On the positive side, adjustments to prior year depreciation may result in tax benefits

10 Trade or business expenses Materials and supplies Repairs and maintenance Capital expenditures Amounts paid to acquire or produce tangible property Amounts paid to improve tangible property Dispositions of tangible property

11 Costs to acquire or produce tangible property: Must the costs be capitalized as an asset acquisition? Or should they be expensed as materials & supplies? Costs to improve tangible property: Must the costs be capitalized as an improvement? Or should they be expensed as repair & maintenance?

12 Spare parts Unit of property costing less than $200 Unit of property with a useful life of less than 12 months Consumables such as fuel

13 Incidental (carried on hand, no records of consumption are kept): deduct as paid or incurred Non-incidental: deduct when first used or when consumed Rotable/temporary spare parts: deduct in year of disposal

14 Rotable/temporary spare parts: since they would otherwise not be deductible until disposed of Standby emergency spare parts: since they would otherwise not be deductible until placed in service Elect by capitalizing and depreciating

15 Annual election: must include statement in tax return Must have written accounting procedures in place at the beginning of the tax year treating de minimis amounts as an expense for non-tax purposes Must apply to both R&M and materials & supplies expenses, as well as to assets that would otherwise be capitalized Up to $5,000 per invoice or per item as substantiated by invoice Include allocated share of invoiced transaction costs Only applies to costs that are expensed for non-tax purposes Only for 2014 expenditures and going forward

16 Three types: Betterments, including material additions or expansions or increases in quality or output Adaptation to a new or different use Restorations, including replacement of a component Must consider all three!

17 Material addition, including a physical enlargement, expansion, or addition of a major component Material increase in capacity Expected to materially increase productivity, efficiency, strength, quality or output

18 If correcting damage, the appropriate comparison is to the condition of the property immediately before the damage If correcting normal wear & tear, the appropriate comparison is to the condition of the property right after the last time such work was done

19 Replace something that was disposed for tax purposes Return to use from a non-functional state Rebuild to like-new condition after being fully depreciated Replace a major component or substantial structural part

20 Recurrent, routine maintenance activities should not be capitalized, even if they involve replacing a major component or substantial structural part (normally a restoration): For a building, if you expect to have to perform the activity more than once in ten years For other than a building, if you expect to have to perform the activity more than once during the tax life of the asset Can t be a betterment

21 For administrative convenience, you may elect to capitalize for tax purposes expenditures that were capitalized on the books & records, even if they would properly be expensed as R&M under the new tax regulations For any year you make the election, you must capitalize for tax purposes all R&M expenses that were capitalized for the books & records Must include a statement on the tax return Let us know each year whether to include the statement

22 Indirect costs that directly benefit or are incurred by reason of an improvement must be capitalized along with the direct costs of the improvement, even if they would otherwise be deductible repair costs

23 When deciding whether an improvement is significant enough to be capitalized, the reference point is the unit of property you are improving In general, a large improvement to a small unit of property will probably have to be capitalized, while a small improvement to a large unit of property probably will not Note that under the new regulations, many expenditures that previously would have been capitalized will not rise to the level of a capitalizable expense

24 In general, all the components of an item of property that are functionally interdependent comprise a single unit of property For plant property, each component or group of components that performs a discrete and major function or operation within the functionally interdependent machinery or equipment is a separate unit of property

25 For buildings, the unit of property is each building and its structural components (walls, partitions, floors, ceilings, windows, doors) and/or each building system: HVAC Plumbing system Electrical system Elevators Escalators Fire-protection & alarm systems Security systems Gas distribution system

26 Note that the unit of property is not necessarily the same as the asset for disposition purposes When an addition or improvement is made to a unit of property, the UOP and the addition or improvement become a single unit of property However, they are separate assets for disposition purposes The asset for disposition purposes may not consist of items placed into service on different dates

27 Election to dispose of a portion of an asset Can determine adjusted basis of disposed portion by any reasonable method Elect by making the disposition for tax purposes For 2014 only: late election to stop depreciating and recognize gain or loss on a partial asset disposed of in a previous year.

28 If you dispose of an asset or a portion of an asset and recognize gain or loss for tax purposes, you may expense the cost of removing the asset being replaced If you dispose of a portion of an asset but don t elect to recognize tax gain or loss with a partial disposition election, removal costs are expensed or capitalized in accordance with whether the removal is part of a repair effort or an improvement effort

29 Most capitalization decisions will still be simple and straightforward For those that aren t, use the decision trees to narrow down the issues Consult IRS examples for those issues and try to find a similar situation Or call us!

30 The new regulations take effect for the 2014 tax year Must adopt the new regulations as an accounting method to be in compliance Can t adopt a new accounting method without filing Forms 3115 (Change in Accounting Method) Therefore, file Forms 3115 with the 2014 tax return

31 Since these new regulations are an expansion and reinterpretation of the old ones, implementing them means changing the method of accounting It s presumed that no one is currently using a method of accounting consistent with the new regulations, since they were just written Any prior year capitalization decision that ran counter to what the new regulations say established a method of accounting that must be changed to conform to the new regulations

32 Forms 3115 filed with 2014 tax return Several will be required, since not all method changes can be filed on the same 3115 May need a set of Forms 3115 for each legal entity and/or trade or business Some method changes must include a catch-up calculation for depreciation changes from the old method to the new one

33 Calculated as of 12/31/13 to: Correct prior year errors Reclassify capital assets to repair expense or vice versa Make prior year partial asset dispositions No adjustments required for assets that were fully depreciated as of 12/31/13 Net adjustment will be taken on the 2014 or subsequent tax returns No corresponding adjustment to book depreciation

34 Opportunity to fix prior year depreciation errors before the IRS begins scrutiny Incorrect tax lives Incorrect use or omission of bonus depreciation Incorrect depreciation method or convention Depreciable assets that aren t being depreciated Any other errors

35 Identify the correct units of property Split up conglomerated assets into separate units of property If the basis is already split out on a subsidiary schedule or documentation, may not need to do this Deduct prior year R&M expenses that were capitalized Expenses that qualify for the Routine Maintenance Safe Harbor Expenses that do not rise to the level of a capitalizable improvement under the new regulations Catch-up calculation required Adopt RMSH for future use Adopt RMSH for future use

36 Capitalize prior year improvements that were deducted as R&M Look only at large $ amounts in the past three years Catch-up calculation required Materials & supplies: Adopt method of deducting incidental M&S when paid or incurred Adopt method of deducting non-incidental M&S when used or consumed Adopt method of deducting rotable & temporary spare parts when disposed of

37 Identify the correct assets for disposition and make partial asset dispositions: #205/206 Identify portions of assets that were disposed in prior years but are still being depreciated Change method to recognizing gain or loss on disposal Catch-up calculation required Election to make a late partial asset disposition: #196

38 Adopt new rules on removal costs for future use Write off prior year removal costs Identify portions of assets that were disposed in prior years and had removal costs that were capitalized along with the replacement asset Change method to deducting the removal costs Catch-up calculation required

39 Looking backward Revise prior year depreciation schedules File Forms 3115 to change to new accounting methods Looking forward Capitalization policy Annual elections Apply new regulations to 2014 and future tangible property expenditures Apply new regulations to 2014 and future dispositions of tangible property

40 Thank you! For more information about our professional tax services, please visit and follow us on: Baltimore Office 400 East Pratt Street Suite 200 Baltimore, MD D.C. Office 655 Fifteenth Street, N.W. Suite 250 Washington, D.C Frederick Office 30 West Patrick Street Suite 105 Frederick, MD Belcamp Office 4692 Millennium Drive Suite 302 Belcamp, MD