The IRS has issued long awaited final regulations on the treatment of costs to acquire, produce or improve tangible property. Taxpayers will need to apply these regulations going forward to determine whether they can deduct costs as repairs and maintenance under Code Sec. 162 or must capitalize the costs and depreciate or amortize them over a period of years under Code Sec. 263.

The final regulations retain the basic requirements and the structure of the temporary and proposed regulations issued in December 2011 (the 2011 regulations). The final regulations make significant changes that will benefit taxpayers, including new and revised safe harbors, as well as new relief provisions for small business. The regulations take effect January 1, 2014.

In order to aide in your compliance with these new regulations Newburg and Company will be providing every business client with a draft capitalization policy with their 2014 tax return. These policies should be signed and retained in your office, and a copy forwarded for our files. Under  the most recent regulations small businesses without audited financial statements are allowed a de minimis capitalization policy threshold amount of $500 or any other reasonable amount when considering the business activity (small businesses are those with average revenues under $10 million over the past three years). Please note that the capitalization policy threshold should be based on a “reasonable basis” and may vary depending on the size of the company. We have found $1,000 to be a popular threshold amount for closely held companies.

Taxpayers with audited financials are allowed a de minmis election capitalization threshold of $5,000. Please note that these de minimis amounts are only allowed if a capitalization policy is maintained by the business. These policies must be followed for financial and tax purposes beginning January 1, 2014.

Newburg is taking the initiative to protect business clients by making appropriate elections for de minimis safe harbor on every return for small business taxpayers. These elections allow for automatic application of the following:

  • a change to deducting amounts paid or incurred for repair and maintenance;
  • a change to capitalizing amounts paid or incurred for improvements to tangible property, and if depreciable to depreciating such property;
  • a change in the method of identifying a unit of property (UOP), or in the case of a building, identifying the building structure or building systems for purposes of making the changes above;
  • a change to the regulatory accounting method;
  • a change to deducting nonincidental materials and supplies when used or consumed;
  • a change to deducting incidental materials and supplies when paid or incurred;
  • a change to deducting nonincidental rotable and temporary spare parts when disposed of;
  • a change to the optional method for rotable and temporary spare parts;
  • a change by a dealer in property to deduct commissions and other transaction costs that facilitate the sale of property;
  • a change to deducting certain costs for investigating or pursuing the acquisition of real property;
  • a change by a nondealer in property to capitalizing commissions and other costs that facilitate the sale of property; and
  • a change to capitalizing acquisition or production costs and, if depreciable, to depreciating such property.

Newburg and Company will also be reviewing each business for application of some of the more favorable elections under these new regulations that may allow for reduction in current year taxable income. One such rule is the election that allows businesses to retroactively apply new rules for their 2012 or 2013 tax years. Making this election allows taxpayers to expense amounts under their new threshold in these years, reducing current year’s taxable income (no amendments needed as changes are reflected on the current tax year’s return).

Additional regulations that apply to some of our business clients are:

Materials and supplies – The threshold for deducting materials and supplies was increased from $100 to $200. Materials and supplies include many items that are expected to be consumed in 12 months or less, or that have an economically useful life of 12 months or less.

Routine maintenance and improvements – The final regulations retain controversial unit of property rules that apply the rules for real property to eight separate building systems, as to the overall structure. However, the rules do provide some relief by extending the routine maintenance safe harbor to real property and by providing a new safe harbor for small taxpayers.

Partial asset dispositions – The election made by taxpayers owning buildings to dispose of assets replaced on the property. For example, in the past if you had replaced a roof you were not allowed to dispose of the prior asset on the books for the old roof. Under the new regulations you can go back and dispose of that old roof and remove it from your books.

 These new regulations are complex and continually evolving. Please contact us should you have any questions regarding your particular situation.