Dealer Insights - July/August 2012 - The IRS’s New Tangible Property Rules
The IRS has issued new rules on when taxpayers must capitalize — and when they can deduct — amounts paid to acquire, lease, produce or improve tangible property. Tangible property includes your dealership’s building, machinery, furniture, equipment and vehicles. Issued in December 2011, the new regulations apply to 2012 and future years.
The rules provide a general framework for capitalization. They also revise some of the provisions previously proposed by the IRS, including those on how to determine whether a unit of property has been repaired or improved. Costs that qualify as repairs are deductible, while improvement costs must be capitalized.
MORE CAPITALIZATION MAY BE REQUIRED
An improvement to a building takes place if there has been a betterment, restoration or adaptation of a property unit. Under the new regulations, the unit of property for a building consists of the building and its structural components.
In determining whether an expense is for a building improvement, the regulations require the taxpayer to apply the improvement separately to the building structure and any of the specifically defined systems, such as the heating, ventilation and air conditioning (HVAC) system, plumbing system, electrical system and security system. In other words, the improvement standards no longer can be applied to the building in its entirety.
So, you must treat a cost as a capital expenditure if it results in an improvement to the building structure or to any of the enumerated building systems. This standard is likely to mean more capitalization. For example, costs such as replacing all bathroom fixtures could now rise to the level of being a major component of the plumbing system and require capitalization.
BUT THERE ARE PLUSES
The regulations include provisions that expand the definition of “dispositions” to include the retirement of a structural building component. This may be particularly helpful in light of the dealership re-imaging projects currently required by some auto manufacturers.
Now when you dispose of a structural component of your dealership building (such as windows or tile flooring) before you dispose of the entire building, you can immediately recognize a loss on that structural component. This means that, for example, old building facades and gutted interiors can be written off for a tax deduction. The regulations allow reasonable estimations.
OTHER TANGIBLE PROPERTY
The regulations provide a safe harbor to deduct certain routine maintenance costs for tangible property other than buildings. An activity isn’t considered an improvement if the taxpayer expected to perform it as a result of his or her use of the property to keep the property in its ordinarily efficient operating condition. The activity is considered routine if, at the time the property was placed in service, the taxpayer reasonably expected to perform the activity more than once during the property’s life. Replacing car tires, for example, would be considered routine maintenance.
Capitalization related to the restoration of property will now be measured by whether the replacement component is a “major” component: that is, a large portion of the unit of property or a portion that performs a discrete and critical function. Unfortunately, this subjective definition doesn’t help taxpayers looking for safe answers.
HOW IT APPLIES TO YOU
The new rules also address materials and supplies, a de minimis rule for expensing and more. Contact your CPA to see how the new rules affect your tangible property expenditures.
Dealer Insights - July/August 2012 Issue