Responding to requests from the small business community, IRS issued Rev Proc 2015-20 last week, which provides an alternate simplified method for qualifying taxpayers to adopt the new repair regulations on their 2014 tax returns. However, simplicity comes with a price and a decision must be made whether the administrative benefits of the new procedure are worth the costs.
IRS requires the new repair regulations to be adopted on 2014 income tax returns. This involves a separate filing of at least one Form 3115, Request for Change in Accounting Method, with an IRS group in Ogden, Utah. Most taxpayers will need to file several of these forms to comply with a number of required accounting method changes. A copy of the filed forms are required to be attached to the 2014 income tax return.
The Form 3115 is a complex form and requires an analysis of tax information from prior years. The cumulative effect on prior years must be calculated as if the new methods of accounting had been used in those years. This prior year analysis can produce an income adjustment, reported over a four year period beginning in 2014. Alternately, the prior year impact may produce a deduction which can be used entirely in 2014.
Those filing a Form 3115 can also make a “late partial disposition election” so as to deduct costs of the components of property which were replaced in prior years. For example, if the costs of a new roof for a building are capitalized, under prior law the costs of both the old roof and the new roof continued to be depreciated into the future. Under the new rules, the net tax basis of the old roof can be deducted in the year of replacement, even though this is a disposition of only a portion of the overall asset. The regulations allow an election to be made to deduct the net tax basis of assets which were disposed of before the 2014 tax year. However, this election must be made on the 2014 tax return. It will not be allowed in a later year.
The procedures described above can impose great burdens on small businesses, which may not have sophisticated accounting systems so as to acquire the needed information. The IRS solution in Rev Proc 2015-20 is to provide an alternate procedure for “small business taxpayers” – i.e., a business with either:
- total assets as of the first day of the tax year of less than $10 million, or
- average annual gross receipts of $10 million or less for the three prior tax years.
A small business taxpayer can adopt certain selected method changes without the need to file a Form 3115. Additionally, the method change does not require a determination of the prior year cumulative effect of the method change. The new accounting method uses “cut-off” method. This is a much simpler procedure for qualifying taxpayers.
However, there are potential disadvantages to the new method for certain taxpayers.
- Since the new procedure does not consider items of revenue or expenditures before 2014, those qualifying taxpayers able to take advantage of a deduction for the cumulative prior year impact of the method changes will lose this benefit.
- A late partial disposition election is not allowed if the new procedure is followed.
- Those adopting a method change on a Form 3115 get “audit protection” from IRS for prior years for issues related to the related accounting method changes. This audit protection does not apply under the new procedure.
These costs must be fully considered before deciding on the appropriate method for adopting the repair regs.
Rev Proc 2015-20 covers only certain listed accounting method changes. If a non-covered change is also being adopted, there may still be a need to file a Form 3115.
Should you believe you and your business are subject to these rules, contact your Marcum Tax Advisor to determine how the new procedures may apply.
|A special thanks to article contributor Michael D'Addio, Principal, Tax & Business Services.|