On September 12, 2013, the IRS and Treasury Department released final regulations under IRC Section 162(a) and 263(a) on the deduction and capitalization of expenditures. The final “repair regulations”, largely, are a permanent adoption of the 2011 temporary regulations, with some additional changes based largely on taxpayer feedback since the temporary regulations were released.
Taxpayers will be required to implement the changes from the final regulations for any tax year beginning on or after January 1, 2014. There is also an option to retroactively apply these final regulations as far back as January 1, 2012. (Additional guidance is expected from the IRS regarding the application of the new rules for years prior to 2014, but as of the time of publication of this article, no specific guidance had been released.)
Capital expenditures, as well as costs for supplies, repairs and maintenance, are a necessary expense for many businesses. The new regulations help to remove some of the “gray” areas in determining which of these items should be capitalized and which should be expensed in the current period. Following are a few key items to note:
One of the most far-reaching changes brought on by the new regulations is the availability of a de minimis safe harbor election to expense certain costs paid to acquire or produce a unit of tangible property. A taxpayer with audited financial statements may elect to expense up to $5,000 of the cost of an item of property per invoice. For those taxpayers without audited financial statements, a reduced election amount of $500 is allowed. In order to take advantage of the safe harbor election you must have a written capitalization policy in place by January 1, 2014 and you must follow the policy for both tax and book purposes. You must also attach an election statement to your tax return, including extensions, and the election is made on an annual basis
Materials and Supplies are defined in the regulations as being acquired to maintain, repair or improve tangible property owned or leased by the taxpayer, but not acquired as part of any unit of tangible property; used within a 12 month period of time; having a useful life of 12 months or less; or having a cost of less than $200. The cost requirement may be the greatest help to taxpayers in this arena, as there is now explicit language giving a de minimis exception for those smaller equipment items, allowing them to be expensed in the period of purchase.
Building maintenance is also addressed in the new regulations. If a taxpayer reasonably expects to perform maintenance more than once over a 10-year period, the costs are allowed to be expensed.
As there are many intricacies within these regulations, we are more than happy to discuss your specific situation with you, so as to determine what, if anything, you should do now in preparation for this next year.
New Proposed Regulations
Released along with the final repair regulations were proposed regulations addressing a related, but still separate issue; that of partial asset disposals. Previously, upon the replacement of a component of an asset, a taxpayer was required to continue depreciating the entire original asset, until the entire original asset was disposed of. The new component would also be required to be capitalized and depreciated over the proper useful life. This created situations where there was no immediate tax relief for the taxpayer. The proposed regulations allow a taxpayer to elect to treat the retirement of any portion of an asset as a disposition. This allows a taxpayer to take a loss on disposal of a portion of an asset that is replaced, giving them a tax benefit to accompany the capital costs.