The Latest on the New Repair Regulations
By Larry Schwegel, Senior Manager, Tax & Business Services
Temporary IRS regulations were recently passed which provide guidance on the treatment of repair and maintenance costs and capitalized expenditures for amounts paid to acquire, produce or improve tangible property.The regulations are effective January 1, 2012, and are binding on all taxpayers.As Marcum has mentioned in the past within various Tax Flash announcements, taxpayers should review their accounting practices to determine the impact of the new rules and issued guidance.
The new regulations are complex and detailed and might possibly involve accounting method changes that potentially could be necessary to come into compliance with the new regulations.
Taxpayers with current capitalization policies that differ from the treatment outlined by the new regulations will have an opportunity to apply for an automatic change to their accounting method. These automatic changes will provide protection from IRS examination adjustments for as they relate to these items.
The summary outlined below is intended as a tool to begin to identify the more common areas where action might be needed or where additional review might be necessary. Further research and discussion might be necessary to make final determinations of appropriate action.
Repairs and Maintenance
General Materials and Supplies
- Incidental expenses can be deducted when incurred.
- Non-Incidental expenses cannot be deducted until material is consumed or used.
- An election is available to expense amounts under a set de minimus rule based on accounting policy and can be applied selectively to specific materials types. (In order for taxpayers to take advantage of the de mimimus rules, an applicable financial statement must be available.)
- An election is available to capitalize and depreciate costs and can be applied selectively to specific materials types.
Rotable and Temporary Spare Parts
- Default treatment is no deduction until part is disposed.
- Optional treatment is cost of part is deducted when installed.
Costs to Acquire or Produce Tangible Property
Acquisition costs include (and generally capitalized):
- invoice price
- transaction costs
- costs for work performed prior to the placed in service date
- cost of defending or perfecting title
- transportation costs
- appraisal costs
- professional fees incurred in negotiation and structure of the acquisition
- application fees, bidding costs, obtaining regulatory approval, permits, and similar expenses
- preparing and reviewing transaction documents
- title search and investigation, title fees, title registration, transfer taxes and other transfer costs
- Finder’s fees or broker’s commissions
Employee compensation and overhead related to acquisition do not have to be capitalized.
Costs to Improve Tangible Property
While the new regulations provide some guidance, they are still highly dependent on facts and circumstances determinations.A unit of property is improved if costs are paid resulting in:
- a betterment to the property
- a restoration of the property or
- an adaptation of the property to a new use
The larger a unit of property, the more likely it is that a position for repair expense can be defended. For purposes of this definition, units of property include:
- all escalators
- all elevators
- fire protection and alarms
- gas distribution and
- the shell of the building and all remaining systems not specifically listed above.
In addition to the comments above, special improvement rules must be separately applied to determine capitalization requirements.
Dispositions of Units of Property
A disposition occurs when an asset is sold, exchanged, retired, physically abandoned, destroyed or transferred to a supplies or scrap account. The cost of improvements made to leased portions of buildings that are disposed of before or on termination of the lease (by either the lessee or the lessor, whoever incurred the cost of the improvement) can now be deducted on disposition.This represents a fundamental change from prior law and one that could benefit most taxpayers undertaking capital expenditures.
As these rules are new and complex, we suggest that any taxpayer considering acquiring assets or making significant improvements should contact a tax advisor.