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Cost Segregation: More Important Than Ever?

Posted by Don Warrant on 11/15/18 4:26 PM

cost-segregation-more-important-than-everYou and your clients may be thinking that the proposed tax reforms will impact the utilization of cost segregation. Will the proposed changes to the tax law make cost segregation obsolete?

In recent years, the IRS and U.S. Treasury have created complexities when determining the proper tax treatment of expenditures related to commercial buildings. This is the result of the interaction of the federal cost recovery rules, the tangible property regulations, and the classification of improvements to commercial buildings as “qualified improvement property” and/or “qualified real property.” As a result of these changes, cost segregation has become more important than ever!

The capitalization or expensing of costs in the current year impacts the treatment of similar costs in future years under the tangible property regulations. Therefore, it is important to make the right decisions when capitalizing or expensing costs. Cost segregation is an important tool used to make these decisions.

If and when tax reform does occur, there will likely be many states that do not conform to the federal rules, or may transition over a period of years. As a result, cost segregation will continue to fulfill an important role in those states. 

In addition, as we have written before, there are many compelling reasons to perform cost segregation. Many of those reasons are discussed below.

2015 PATH Act

The Protecting Americans from Tax Hikes (PATH) Act of 2015 had a significant impact on the importance of using cost segregation specialists to compare the tax benefit of renovating an existing building vs. building construction. Since building construction doesn’t qualify for bonus depreciation, renovating existing buildings can generate significant tax savings, creating a source of funds to finance the project.

Other important uses of cost segregation include:

  • Bonus Depreciation and Section 179 Expense. A cost segregation study identifies “qualified property” for bonus depreciation and year-of-purchase expensing.
  • Accelerated Tax Deductions. A cost segregation study creates accelerated tax deductions by accelerating the period over which the cost of assets are recovered for tax purposes. Assets identified in a cost segregation study are reclassified from a 39-year cost recovery period to a 5-year, 7-year, or 15-year cost recovery period.
  • Tax Deferred Exchanges. The IRC Section 1031 exchange provision is a valuable strategy to defer the recognition of gain on the sale of buildings. Cost segregation used in connection with a tax deferred exchange can generate tax savings in addition to tax deferral.
  • Estate Tax Planning. A cost segregation study can be used to generate tax savings for both the decedent and the heirs of real estate by segregating costs for both parties before and after the date of death.
  • Partial Disposition of Building Property. Cost segregation is generally necessary to determine the adjusted tax basis of the portion of building property that was partially disposed of in connection with the partial disposition election.
  • Improvement vs. Repair Analysis. Cost segregation is generally necessary to determine whether expenditures improve or repair the building structure or any building system, and to determine the appropriate unit of property.
  • Tenant Improvement Costs Analysis. Cost segregation is often necessary to segregate the cost of tenant improvements between building property and tangible personal property, and to determine which expenditures are capital improvements or repairs.

Other uses of cost segregation include tax planning in the year of a building’s sale, to qualify for the small taxpayer safe harbor election, and for federal and state income tax planning. 

In summary, cost segregation is more important than ever, especially for buildings placed in service in years preceding any federal or state tax reform that reduces tax rates.

CSP360 is ready to assist you and your clients with these important uses of cost segregation, and to generate tax savings for your clients.

Tags: cost segregation, cost segregation study, tangible property regulations, tangible property

Build or Renovate? A Building Cost Recovery Analysis May Change Your Answer

Posted by Don Warrant on 11/15/18 4:26 PM

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Everybody loves that “new building” smell, but renovating an existing building may generate more tax savings. Only a building cost recovery analysis can tell you which way to go.

When a business reaches a point where it needs more space, it’s usually a pretty exciting, often frenetic time for the owners and employees. Whether it’s additional offices for new employees, expanded manufacturing and storage facilities for the business’ products, or a combination of both, many businesses don’t even realize that more space is the answer until long after the need has become severe.

At such a crazy time, the last thing many owners might consider is the tax impact of choosing between renovating an existing building or constructing a new building. That can be an expensive mistake.

The PATH Act made some changes to depreciation rules providing businesses that make improvements to the interior portion of existing buildings with opportunities to recover costs quicker than by constructing a new building.

  • The section 179 expensing election is available to expense up to $500,000 of “qualified real property,” a term that limits this immediate tax deduction to qualified leasehold improvement property, qualified restaurant property, and qualified retail improvement property. However, the section 179 expensing election is phased out completely when the costs of eligible property exceeds $2.51 million for the 2016 tax year. The expense limitation and phase-out are adjusted upward for inflation each year.
  • The first year special depreciation allowance, aka “bonus depreciation,” is available for “qualified improvement property” placed in service on or after January 1, 2016. Qualified improvement property is an improvement to the interior of nonresidential real property that is placed in service after the date the building was placed in service. (Certain improvements such as enlargements, escalators/elevators, and internal structural framework are excluded.)

For example, a business with a $10 million budget can use the full budget on constructing a new building or spend $2.5 million to acquire an existing building and $7.5 million on renovations. Although cost segregation can accelerate building cost recovery by assigning property to the property 5-year, 7-year, and 15-year recovery periods, a significant portion of the $10 million construction cost will be assigned to a 39-year recovery period.

If the business acquires and renovates an existing building, in addition to cost segregation of the building acquisition and renovation costs, a portion of the $7.5 million renovation costs will be classified as qualified improvement property and qualified real property. As a result, cost recovery will occur more quickly by acquiring and renovating an existing building than constructing a new building up to a certain cost point. Therefore, it is important to perform a building cost recovery analysis before decisions are made regarding new building construction.

When to Start the Conversation

It is important to raise this issue when you learn that a client is expanding or taking on a new product or process that will require more space or adding employees. When you learn that a client is expanding and needs more space, it’s important to get this information on their radar before decisions are made. Even though construction lead times can be considerable, the decisions that make a difference for tax purposes often happen very early in the process. You don’t want to find out after the fact that a client didn’t perform a building cost recovery analysis before deciding to construct a new building.

Keep in mind that the 50% bonus depreciation is available for property placed in service by December 31, 2017. For qualified improvement property that is placed in service during calendar year 2018 and 2019, the bonus depreciation rates are 40% and 30% respectively. And bonus depreciation will be completely phased out by 2020 (2021 for certain property).

The threshold at which the recovery of costs for new building construction is faster than the recovery of costs to renovate an existing building is based in part, on the price paid for an existing building. The lower the purchase price, the more cost that can be assigned to qualified improvement property and qualified real property to accelerate building cost recovery and tax savings.

Obviously, the acceleration of building cost recovery and tax savings are not the only concern when making the decision, but they can provide a valuable incentive to either reduce construction costs or extend the capital budget.

Need Help with a Building Cost Recovery Analysis?

CSP360 has over 20 years of experience focused on cost segregation services and cost recovery rules. Our cost segregation database makes us the perfect resource to perform a building cost recovery analysis. Contact us to learn more.

Tags: Don Warrant, tax saving opportunities, PATH Act, building cost analysis

Cost Segregation Services: It’s Not Too Late for Your Clients to Qualify for 2016 Tax Deductions

Posted by Don Warrant on 4/13/17 9:00 AM

IRS cost segregation guidance in 2016 and 2017 makes it possible to qualify for 2016 deductions even after January 1, 2017.

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Both the president and the Majority-Republican House of Representatives have proposed significant changes to the Internal Revenue Code (IRC). While they don’t agree on every point, they share a common cornerstone in that both would significantly reduce income tax rates for businesses and individuals. There is no guarantee that a tax rate reduction will occur in 2017, but the Trump administration is on record with a statement that a tax package will be part of its agenda in the first 100 days. That means legislation could be in play before the end of April this year.

In any year, you will generally recommend accelerating deductions (unless certain circumstances exist) based on savings resulting from the time value of the money deducted. That recommendation becomes stronger in a year like 2016, when there’s reason to expect that rates may drop in 2017.

The deductions are worth more in the year of higher rates. Effectively, you have a small window of opportunity to deliver tax benefits that might not be available next year.

Cost Segregation Studies and 2016 Tax Deductions

For the most part, your ability to generate tax deductions for clients for 2016 are generally limited once the calendar year ends. However, recent IRS rule changes make it possible to claim 2016 deductions based on cost segregation studies performed in 2017.

In some cases, a study may even result in tax-reducing amendments to returns already filed for the 2016 tax year. We often hear that clients put off cost segregation studies because the accelerated deductions are “only a temporary timing difference.” At this point, the significant possibility of reduced tax rates in the near future adds incentive in the form of a permanent timing difference to claim available tax deductions in a year with higher tax rates such as 2016.

The result of a cost segregation study performed on building property placed in service in prior years is reported as additional tax depreciation for the 2016 tax year using the automatic change in accounting method procedures outlined in Rev. Proc. 2015-13 and Rev. Proc. 2016-29. Under these procedures, your client automatically has until the extended due date to claim the additional tax depreciation on an original or amended tax return.

Five-Year Eligibility Rule Waiver

In addition, Notice 2017-6 waives the five-year “eligibility rule” that otherwise would prohibit your clients from using the automatic method change procedures to make the same change in method of accounting for a specific item more than once within a five-year period. 

The waiver of the five-year eligibility rule found in Section 5.05 of Rev. Proc. 2015-13 applies to the following automatic changes in accounting method allowed by Rev. Proc. 2016-29: 

  • Section 6.14 for a change in method of depreciation from a permissible method to another permissible method;
  • Section 6.15 for a change in method of accounting for dispositions of a building or structural components;
  • Section 6.16 for a change in method of accounting for dispositions of tangible depreciable property (other than a building or structural components);
  • Section 6.17 for a change in method of accounting for dispositions of depreciable property in a general asset account; and
  • Section 11.08 for a change in method of accounting for tangible property under the final tangible property regulations.

How to Help Give Your Clients the Good News About Cost Segregation Tax Deductions

Actions like these show that the IRS is doing what it can through its guidance channels to facilitate the transition to the tangible property regs. In doing so, the Service is also opening opportunities for you to help your clients claim deductions in 2016 or earlier based on the results of cost segregation studies and related information.

If your practice is currently in the midst of the typical filing season rush but you have clients that could benefit, this could be an excellent time to outsource a cost segregation study to a provider focused on this specialized practice. CSP360’s CPA Partnership Program could be just what you need to deliver this valuable additional service to your clients at a time when your staff is at full capacity.

For more information on the cost segregation services that CSP offers, call Don Warrant, CPA at 716-847-2651.

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Tags: Don Warrant, deductions, cost segregation, cost segregation study

Tangible Property Regulations Compliance: New Client Due Diligence

Posted by Don Warrant on 4/11/17 8:55 AM

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If your firm has taken on new clients since 2014, make sure your new clients are in compliance with the tangible property regulations.

Background

All taxpayers are required to comply with the tangible property regulations for tax years beginning on or after January 1, 2014. These regulations address every phase of an asset’s life cycle from acquisition, to repair and maintenance, to disposition. To comply with the regulations, taxpayers filed Form(s) 3115 to make changes in accounting methods and received IRS audit protection for all prior years, or small businesses elected to change their accounting methods beginning with the 2014 tax year and forgo IRS audit protection for all prior years.

The regulations create new criteria for classifying costs as de-minimis, materials and supplies, and repairs and maintenance, and new rules for the disposition of assets, and include many taxpayer favorable elections and safe harbors. The elections and safe harbors require annual consideration by tax return preparers. Certain elections require a statement to be filed each year with a timely filed tax return and other elections are made by reporting on the tax forms. In addition, certain safe harbors require a change in accounting method to adopt.

New Client Tangible Property Regulation Due Diligence

For each new client, you should maintain documentation in your tax file supporting their compliance with the tangible property regulations as required, beginning with the 2014 tax year. This documentation is needed to support your firm’s tax return signing position and in the event of an IRS examination.

If your new client was a small business that elected to follow the procedures outlined in Rev. Proc. 2015-20, then you should maintain the documentation supporting the method changes required by that procedure which are as follows:

  1. Capitalize costs that facilitate the sale of property per Reg. Sec. 1.263(a)-1(e);

  2. Capitalize amounts paid or incurred to acquire or produce tangible property per Reg. Sec. 1.263(a)-2;

  3. Capitalize or expense amounts that improve or repair a unit of property (UoP) per Reg. Sec. 1.263(a)-3;

  4. Make changes in identifying the UoP per Reg. Sec. 1.263(a)-3(e) or, in the case of a building, identifying the building structure or building systems under Reg. Sec. 1.263(a)-3(e)(2);

  5. Adopt new rules for the identification and disposition of property per Reg. Sec. 1.168(i)-1, 7, & 8; and

  6. Consider new elections and safe harbor provisions that were created in connection with these regulations.

If your new client is unable to provide this documentation or you independently determine that your new client has not complied with the tangible property regulations, then Forms 3115 should be filed with the 2016 tax return. In the case of a small business, any Section 481(a) adjustment calculated in connection with a method change should not precede the 2014 tax year.

Tangible Property Regulation Compliance Assistance

CSP360 has developed expert knowledge of the tangible property regulations and implementing procedures and providing training and reference materials to our strategic partners. Please contact us regarding the benefits of a tangible property regulation compliance review for your new clients.

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Tags: Don Warrant, tangible property regulations, tax accounting

New Tangible Property Regulations Updates: What CPAs Need to Know

Posted by Don Warrant on 3/22/17 8:50 AM

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During 2016, the IRS and Treasury issued additional guidance for clients who are required to comply with the final tangible property regulations. These regulations address every phase of an asset’s life cycle—from acquisition, to repair and maintenance or improvement, to disposition. 

All clients that acquire tangible property were required to comply with these regulations beginning with the 2014 tax year by filing Forms 3115 with their 2014 tax returns or, for your small taxpayer clients, by following the procedures outlined in Rev. Proc. 2015-20. 

Fortunately, for those clients who may have missed making a required method change for tangible property or who need to correct a previously filed method change, the IRS is waiving certain eligibility rules that would otherwise prevent your clients from using the automatic method change procedures for the 2016 tax year. However, it is important to file Forms 3115 before being contacted by the IRS for exam to receive audit protection for improper methods used in prior tax years. 

Highlights of the New Tangible Property Regulations

2016_tangible_property_regulations_updateWe’ve prepared a whitepaper with greater detail that you can get here, but we summarize four key changes below: 

Expired Provisions

Two provisions that were available for the 2014 tax year have expired. 

Rev. Proc. 2015-20, allowing your small taxpayer clients to change their methods of accounting for tangible property without filing a Form 3115, only applied for the 2014 tax year. Under this procedure, your small taxpayer clients agreed to change their methods of accounting for tangible property on a cut-off basis without a Section 481(a) adjustment for prior tax years. These clients elected to forgo IRS audit protection for prior tax years. 

In addition, the late partial disposition election method change was only available for the 2012-2014 tax years. 

New List of Automatic Method Changes (Rev. Proc. 2016-29)

On May 5, 2016, the IRS and Treasury issued a new comprehensive list of automatic method changes. One of the most significant changes affects taxpayers who used the property’s tax basis to claim a federal income tax credit or who elected to apply Section 168(k)(4) to claim a refundable tax credit in lieu of bonus depreciation. These clients must now use the non-automatic method change procedures to make a change in accounting method for this property. 

New Audit Techniques Guide

On September 14, 2016, the IRS issued a new Audit Techniques Guide (ATG) on Capitalization of Tangible Property, which helps IRS agents spot potential tax-related compliance issues. The ATG can provide you with insight into the questions that examiners will ask and documentation they will request. 

The IRS has started to examine taxpayer compliance with these regulations. To prepare for an IRS audit, you should keep copies of all Forms 3115 filed by your clients in prior tax years, work papers supporting any Section 481(a) adjustments, and documentation supporting changes in accounting methods. You should also ensure that new accounting methods were adopted in 2014 and consistently followed in subsequent tax years. 

Waiver of the Five-Year Eligibility Rule (Notice 2017-6)

On December 20, 2016, the IRS waived the five-year eligibility rule that would otherwise prevent your clients from using the automatic method change procedures to make the same change in method of accounting for tangible property within a five-year period. The waiver applies to Forms 3115 that are filed for the 2016 tax year. 

The wavier creates an opportunity to re-visit the work that was performed in 2014 to comply with these regulations. Any missed or corrective method changes should be filed with the 2016 tax return while the waiver is in effect. 

Need Assistance? 

CSP360 is well versed in the Tangible Property Regulations and implementing procedures, and the method changes that can result in significant tax savings. If you have any question or concerns regarding compliance with the Tangible Property Regulations, you can schedule a complementary Tax Situation Review with a member of our Tax Team here.

Tags: tangible property, tangible property regulations, accounting method changes, tax accounting, Don Warrant

The Research and Development Credit: Opportunities and IRS Examination Issues

Posted by Don Warrant on 3/15/17 8:55 AM

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During 2016, our cost segregation team attended several tax conferences where we received feedback from other tax practitioners around the country regarding their experience with claiming research and development tax credits for their clients. In many cases, the CPA firm commissioned an outside consultant to perform a research credit study, and in other cases their client commissioned the research credit study without their CPA’s knowledge. In both cases, issues arose with those studies upon examination by the IRS.

The tax practitioners we heard from overwhelmingly agree that research and development tax credits (R&D tax credits)—a tax credit for engaging in qualified research activities (QRAs)—can result in significant tax savings for their clients and are worth their time and effort.

R&D tax credits may be claimed by companies based on qualified activities and not necessarily based on the industry in which they operate. For example, CPA firm clients generally interact with customers over the internet, which requires the development of computer software. The IRS recently clarified that the development of customer-facing computer software does not need to achieve a high threshold of innovation test that applies to computer software developed for such internal use as administration functions. This development expands the universe of potential clients for research tax credits significantly.

Issues with R&D Tax Credit Studies

The tax practitioners we heard from shared troubling experiences they have had with studies performed by outside consultants that arose during an IRS examination. The issues we heard relate to research credit studies that were prepared on a contingent fee basis, studies that didn’t establish the requisite nexus between qualified activities and expenses, studies that were commissioned before performing the requisite due diligence to determine whether credit limitations apply, and studies that failed to address the requisite rights and risks in contracted research.

Contingent Fees

A contingent fee is a fee arrangement in which the amount of the fee is dependent on the amount of the R&D tax credit that is generated by the outside consultant. The IRS stated the following when they added research credit claims as a Tier I examination issue: “Thus, a taxpayer faces limited risk when claims are prepared under a contingency fee agreement. Audit teams expend enormous resources perfecting these claims and generally disallowing a large portion of a claim.” As a result, IRS agents are highly skeptical when they are handed a pre-packaged report that was prepared under a contingent fee arrangement.

We heard of a R&D tax credit study that was prepared under a contingency fee arrangement and, after the IRS examination concluded, the contingent fee that was paid for the study exceeded the amount of the research credit that was sustained.

Nexus

IRC Section 41 requires the taxpayer to identify Qualified Research Expenses (QREs) by business component. Although an outside consultant is not required to use a project-by-project methodology to claim the R&D tax credit, such a methodology provides an accurate measurement of QRAs and direct nexus with QREs, the essential elements of qualifying for the credit. Other cost-capturing methodologies used by outside consultants may not establish the required nexus between QRAs and QREs, and may not be sufficient to meet the taxpayer’s record-keeping requirements under IRC Section 6001.

A common example of the nexus problem is in the case of qualified wages established by capturing W-2 wage amounts by cost center and multiplying a qualified percentage to individual employees' wages or department total wages. The determination of a qualified percentage may be based on time estimates or selected manager’s recollection and may not be supported by measurable corroborative records. In some cases, the percentage is determined and applied to total department wage costs rather than to individual employees.

R&D Tax Credit Due Diligence

Before engaging an outside consultant to perform a R&D tax credit study, the consultant must determine whether any limitations apply. Certain consultants only address QRAs and QREs and ignore the client’s tax situation. In fact, we heard of an instance where a client commissioned a R&D tax credit study directly with an outside consultant without consulting with their CPA. Had the client consulted with their CPA first, they would have learned they couldn’t use research credits due to limitations based on their individual tax situation. Unfortunately, the client paid for a R&D tax credit study that had no monetary value.

Rights & Risk

Clients may engage outside contractors to perform research on their behalf. The payments made to these outside contractors are included in QREs when the client retains rights to use the research and is at economic risk. Therefore, it is imperative that the outside consultant commissioned to prepare a research credit study review contracts with outside contractors to determine who retains the rights to the research and who is at economic risk.

We heard of an instance where the outside consultant didn’t review the contracts and generated a research credit on a contingency fee basis. Upon IRS examination, the IRS agent reviewed the contracts and disallowed over one-half of the original credit. A settlement was reached for the remaining amount.

Research Credit Studies

Now that R&D tax credits are a permanent part of the Internal Revenue Code and the PATH Act enhanced the ability of small businesses to use research credits, the popularity of research credits will continue to grow. However, research credit studies must be prepared in accordance with Treasury regulations to withstand an IRS examination. That means more time must be spent before the study begins to determine whether the client has qualified activities and expenses, has documentation sufficient to meet the requirements of IRC Section 6001 and has requisite rights and risks in contracted research, and whether the client will benefit from claiming research tax credits.

An outside R&D tax credit consultant should always provide a Phase I feasibility study and be commissioned through the CPA firm who has knowledge of the client’s tax situation.

CSP360 partners with CPA firms by providing a Phase I - scoping the potential for research and development tax credits, Phase II - detailed analysis and credit calculations, and Phase III - preparation of the research credit study report in accordance with Treasury regulations. Call Don Warrant at 716.847.2651 or connect with us here to learn more about R&D tax credit services.

Tags: R&D, tax credits, research tax credits, Don Warrant

Most Significant Items for Tax Practitioners to Consider Before Filing 2016 Tax Returns

Posted by Don Warrant on 3/1/17 9:00 AM

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Below, we have compiled a list of the most common and important items that tax practitioners should consider as they request information from their clients to prepare 2016 tax returns. Some of these items are necessary for general tax compliance and others present tax planning opportunities.

  1. Tax Credits: Dollar-for-dollar reduction of tax 
  2. Capitalization: IRC Section 263(a) and 263A requirements to capitalize costs to acquire tangible and intangible property
  3. Deductions: Dollar-for-dollar reduction of taxable income
  4. Automatic Accounting Method Changes: Dollar-for-dollar reduction of taxable income when negative Section 481(a) adjustment
  5. Tax Elections: Each year, tax practitioners must consider a number of available elections and safe harbors, which generally must be made with a timely filed tax return.

Tax Credits

  • Research credit
  • Work opportunity tax credit
  • Small employer health care credit
  • IRC Section 45L tax credit for construction of energy-efficient homes
  • State employment tax credits
  • Fuel tax credits
  • Federal empowerment zones

Capitalization

  • Building improvements
  • Facilitative costs
  • Loan-acquisition costs
  • IRC Sec. 263A (including interest capitalization rules)
  • Non-incidental materials, supplies, and spare parts

Deductions

  • Routine maintenance safe harbor
  • Abandoned assets
  • Building repairs & maintenance
  • Bonus depreciation (including qualified improvement property)
  • Incidental materials and supplies
  • IRC Sec. 179D – energy efficient improvements to commercial buildings
  • IRC Sec. 199 – domestic production activities deduction

Automatic Accounting Method Changes

  • To deduct prepaid expenses (service contracts, advertising, insurance, postage, travel, subscription, professional fees, property taxes)
  • To correct depreciation methods (cost-segregation study)
  • To correct the depreciation method for pickup trucks that are erroneously treated as luxury vehicles, and
  • To correct the MACRS depreciation method and recovery period for qualified real property (qualified leasehold, retail and restaurant property)

Tax Elections

  • De minimis safe harbor election
  • Safe harbor for small taxpayers
  • Election to capitalize and depreciate repairs
  • General asset account election
  • Partial asset disposition election
  • Election to capitalize and depreciate employee compensation and overhead costs
  • Election to capitalize and depreciate rotable, temporary and emergency spare parts
  • Sec. 179 expense election (including qualified real property)
  • IRC Sec. 1031 exchanges
  • Sec. 179 election for qualified real property
  • Opt out of bonus depreciation for a class of property

 

Are you looking for a partner to provide cost segregation services and other private-label tax minimization strategies to your clients? CSP360 is the only firm that offers a combination of engineered tax solutions with tax credit/incentive discovery programs; private labeling, and comprehensive business development assistance. Learn more about our unique approach or contact us today.

Tags: tax saving opportunities, deductions, accounting method changes

IRS Issues Tangible Property Audit Guide to Help Examiners Recognize Tax Issues

Posted by Don Warrant on 11/10/16 9:00 AM

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Tangible Property Regulation Compliance Audits

In September 2016, the IRS released its Audit Techniques Guide (ATG) on Capitalization of Tangible Property which IRS examiners will use to identify potential tax issues when examining taxpayer compliance with the tangible property regulations. With the release of the ATG, it is fair to say that IRS audits of tangible property will begin soon if not already underway.

The 202-page ATG provides useful insight into the questions that examiners will ask and the documentation that they will request. Each chapter concludes with a list of “Audit Procedures,” including specific questions that examiners should ask about the concepts explained in the chapter.

The guide also includes some new examples that offer additional insights and clarification on certain issues. The ATG gets more specific about the treatment of certain types of repairs, noting for instance that the replacement of a roof membrane is not always a repair. A new example clarifies the treatment of an HVAC unit that is part of a multi-unit system. Previous guidance suggested that replacement of one unit in a three-unit system did not constitute replacement of a substantial portion of the HVAC system. The ATG points out that if each unit serves a different part of the building, the replacement of one unit may constitute an improvement to the HVAC system.

The IRS recognizes the importance of cost segregation and its interaction with the tangible property regulations. Specifically, the ATG recognizes the increased importance of cost segregation studies to identify building systems for purposes of applying the improvement rules. Examiners are instructed to request and review all cost segregation studies, past and present in connection with their examination to make sure the study was conducted properly. This information is needed by the examiner to determine the following:

  • Whether the taxpayer changed the classification of property after it was originally placed in service through a cost segregation study
  • How the taxpayer determined the unit of property for buildings and building systems
  • Whether the taxpayer took into account prior method changes that may affect the calculation of the Section 481(a) adjustment for the year of change
  • Whether a prior year cost segregation study was used to determine the adjusted basis of disposed assets
  • Whether the taxpayer is consistent in its treatment of the unit of property for both depreciation/disposition and determination as to repair-expense deduction

The ATG highlights the importance of selecting a cost segregation provider who understands how the tangible property regulations interact with cost segregation studies. All prior year and current year studies are now subject to examination by IRS specialists in connection with tangible property regulation compliance audits. In addition, cost segregation reports should always include information the taxpayer needs to comply with the tangible property regulations. 

Compliance with the Tangible Property Regulations

All taxpayers are required to comply with the tangible property regulations for tax years beginning on or after January 1, 2014. These regulations address every phase of an assets life cycle from acquisition, to repair and maintenance, to disposition. To comply with the regulations, taxpayers either:

  • Filed Form(s) 3115 as required to change accounting methods and received IRS audit protection for all prior years;
  • Followed Rev. Proc. 2015-20 making changes in accounting methods for tangible property starting with the 2014 tax year without receiving IRS audit protection for prior years (See our blog post on the topic.); or
  • Failed to file required Form(s) 3115 (See our blog post on the topic).

The regulations create new criteria for classifying costs as de-minimis, materials and supplies, and repairs and maintenance, and new rules for the disposition of assets. In addition, the regulations include taxpayer favorable elections and safe harbors. The elections and safe harbors require annual consideration by taxpayers and tax return preparers. Certain elections require a statement to be filed each year with a timely filed tax return and other elections are made by reporting on the tax forms. In addition, certain safe harbors require a change in accounting method to adopt.

How to Prepare for a Tangible Property Regulation Compliance Audit

For many taxpayers and the preparers who serve them, compliance with the tangible property regulations remains a work in progress. With IRS examiners now prepared to begin examining taxpayer compliance starting with the 2014 tax year, it’s time to conduct a tangible property regulation compliance review. We recommend a thorough review of the client’s overall compliance with the tangible property regulations and filing of corrective Forms 3115 in advance of being contacted for audit. The IRS ATG serves as a useful guide for this review.

CSP360, a leading provider of cost segregation and tax minimization services, has developed expert knowledge of the tangible property regulations and implementing procedures, and how the regulations interact with cost segregation studies. Please contact a CSP360 representative for assistance with a 263(a) tangible property regulation compliance review or for IRS audit assistance.

Tags: tangible property regulations, audit guide

IRS PATH Act Rev-Proc Answers Questions About 2015 for Fiscal Year Filers

Posted by Don Warrant on 10/11/16 9:00 AM

Revenue Procedure 2016-48 provides transition rules for PATH Act depreciation changes.

iStock_61137508_SMALL-006016-edited.jpgWe’ve discussed the effect of the PATH Act on real property clients before on this blog. In those discussions, we’ve noted that the PATH Act became law at the end of 2015 and that it retroactively reinstated certain depreciation provisions that had expired at the end of 2014. Even though retroactive reinstatement was widely expected, those provisions were not available during calendar year 2015 impacting fiscal year filers and short tax years beginning and ending in 2015. Therefore, the IRS provided the following guidance in Revenue Procedure 2016-48:

  • Section 4 provides the procedures for claiming or not claiming bonus depreciation while the provision had lapsed, or who elected to not claim bonus depreciation for a class of property.
  • Section 3 provides the procedures to carryover the amount of qualified real property expensed in a prior year that was limited by the taxable income limitation, to a taxable year beginning in 2015.
  • Section 5 provides the procedures for a corporation to elect to forgo bonus depreciation in order to allow tax credits generated before 2006 to be used.

Bonus Depreciation

The PATH Act retroactively reinstated and extended bonus depreciation for qualified property and made changes impacting improvements to commercial buildings placed in service after December 31, 2015 (please see our prior post). Taxpayers with a fiscal tax year that ended in 2015 or with a short tax year that began and ended in 2015 may not have claimed bonus depreciation during the period in which the provision had lapsed, or may have elected to not claim bonus depreciation for a class of property. These taxpayers have the following options:

  1. Amend the tax return to claim bonus depreciation on qualified assets before filing the return for the fiscal tax year ending in 2016;
  2. File Form 3115 under Section 6.01 of Rev. Proc. 2016-29 with a timely filed tax return for the fiscal tax year ending in 2016 or 2017; and
  3. Revoke the election to not claim bonus depreciation for a class of property by filing an amended federal tax return by the earlier of November 11, 2016, or before filing the return for the fiscal tax year ending in 2016.

Section 179 Expensing

The PATH Act reinstated Section 179 expensing of assets in the year placed in service retroactive to January 1, 2015, and made the provision a permanent part of the Tax Code. The Act did retain the limited applicability of this section to commercial real estate to only “qualified real property,” meaning:

  • Qualified leasehold improvement property,
  • Qualified restaurant property, or
  • Qualified retail improvement property.

The permanent provision allows a $500,000 deduction (up from $250,000), but still phases that deduction out dollar-for-dollar to the extent that property placed in service in the year exceeds $2 million. Both the $500,000 and $2 million are indexed for inflation going forward. If a taxpayer makes this election for qualified real property, the entire cost of the qualified real property is taken into consideration for the annual dollar limitation.

Unused deductions can be carried forward to future years. Prior to the PATH Act changes, the carryforward provision as it applied to qualified real property required that any amount carried forward must be treated as depreciable property placed in service on the first day of the last tax year ending in 2014. The Rev. Proc. allows taxpayers to carryover the amount to any taxable year beginning in 2015.

New Options for Commercial Real Estate Owners

The PATH Act has presented commercial real estate owners with new or expanded options that haven’t been available before. Advisors need to make sure that they and their clients are seeing the big picture when it comes to potential tax-saving opportunities. Under the old version of Section 179, benefits for real estate phased out quickly at a low threshold and the carryforward was limited to no later than 2014. As a result, people have gotten accustomed to not considering it in their projections. The new rules allow an indefinite carryforward and also index the deduction amount and the phase-out threshold for inflation. The deduction remains unchanged for 2016, but the phase-out threshold will increase to $2,010,000.

The PATH Act made bonus depreciation available to more property owners, expanding the previous “qualified leasehold improvement property” restriction to a broader “qualified improvement property” category. As a result, commercial real estate owners should realize even more tax savings over the next four years by engaging cost segregation professionals who can segregate costs to acquire and improve commercial buildings.

As always, CSP360 is ready to help. Some of your clients may have a fiscal year situation that was remedied by Rev. Proc. 2016-48. Our commercial real estate focus makes us an ideal back-office support team when it comes to providing specialized, high-quality service to real estate clients. Please contact us for more information about how we can help you better serve current clients and grow your real estate practice.

Tags: Revenue Procedure 2016-48, commercial real estate, PATH Act

A PATH to Tax Savings: New Law Makes Important Changes to Extended Provisions

Posted by Don Warrant on 3/7/16 9:27 AM

We’ve gotten so used to hearing that these provisions have been extended “as is” for another year that it’s easy to overlook some significant changes for commercial real estate clients in this year’s “extenders” bill.

Clear-Path.jpgIn December of 2015, Congress passed the Protecting Americans from Tax Hikes (PATH) Act of 2015, affecting a number of tax provisions that, until now, have not been permanent parts of the Tax Code. This extenders package is different from many previous ones in that it actually makes some provisions permanent and it makes changes to some provisions that can be helpful to businesses. In particular, some of the changes made to Section 179 expensing and bonus depreciation may be of interest to commercial real estate clients. When combined with the recent tangible property regulations, the new law increases opportunities for your clients to accelerate deductions using cost segregation studies.

Section 179 Expensing

The Section 179 deduction for small businesses was made a permanent part of the tax code at its pre-2015 level of $500,000 per year. The extension is retroactive to 2015. As before, the deduction will phase out on a dollar-for-dollar basis when the cost of eligible property exceeds $2 million. However, the $2 million threshold and the $500,000 deduction limit will now be indexed for inflation beginning in 2016. For the 2016 tax year, no adjustment will be made to the $500,000 deduction, but the phase-out will start at $2,010,000.

The PATH Act did not change the limited applicability of section 179 expensing for commercial real estate. The provision still only applies to “qualified real property,” which is limited to:

  • Qualified leasehold improvement property,
  • Qualified restaurant property, or
  • Qualified retail improvement property.

However, the Act did remove limitations on carrying forward Section 179 deductions that exceeded income in prior years.

A summary of PATH Act changes to Section 179 are as follows:

  • The $500,000 limit is retroactive to 2015 and made permanent going forward;
  • The deduction amount and phaseout threshold are indexed for inflation beginning with the 2016 tax year; and
  • Beginning with the 2016 tax year, the normal Section 179 carry forward provision applies to qualified real property.

Bonus Depreciation Provisions

The PATH Act retroactively extended the bonus depreciation rules for MACRS property with a recovery period of 20 years or less. For property placed in service before January 1, 2016, the act basically extended the rules that had expired at the end of 2014. For property placed in service after December 31, 2015, there are some significant changes to consider.

Bonus depreciation will phase out as follows: 50% for 2015 – 2017, 40% for 2018, and 30% for 2019.

Prior to the PATH Act, bonus depreciation was available to commercial building owners for qualified leasehold improvement property only. Qualified retail improvement property and qualified restaurant property did not qualify unless they were also qualified leasehold improvement property.

Qualified leasehold improvement property placed in service after December 31, 2015 is no longer eligible for bonus depreciation. Instead, a more expansive “qualified improvement property” is eligible for bonus depreciation. Qualified improvement property is an improvement to the interior of a nonresidential real property that is placed in service after the date that the building was placed in service.

As a result of this change, the following requirements no longer apply: 1) the building must be in service for at least three years, 2) the improvements must be made pursuant to a lease, and 3) improvements to common areas are ineligible. However, certain improvements such as enlargements, elevators/escalators, and internal structural framework continue to be excluded. Unfortunately, qualified leasehold and retail improvement property, and qualified restaurant property are not eligible for bonus depreciation unless they are also qualified improvement property.

A summary of the PATH Act changes to bonus depreciation are as follows:

  • The bonus deprecation was extended for five years: 50% (2015-2017), 40% (2018), and 30% (2019);
  • Qualified improvement property placed in service after December 31, 2015 is eligible for bonus depreciation; and
  • Qualified leasehold and retail improvement property, and qualified restaurant property are not eligible for bonus depreciation unless they are also qualified improvement property.

Cost Segregation More Important than Ever

The changes under the PATH Act make it more important than ever to properly classify improvements to commercial buildings. As a result cost segregation specialists will be in high demand to make the following classifications:

  • Repairs expense resulting in an immediate tax deduction;
  • Tangible personal property subject to shorter recovery periods and eligible for bonus depreciation;
  • Qualified improvement property eligible for bonus depreciation
  • Qualified leasehold and retail improvement property, and qualified restaurant property subject to a 15-year recovery period and Section 179 expense election, and qualification for bonus depreciation.

The misclassification of improvement to commercial buildings will likely result in missed tax deductions for bonus depreciation, Section 179 expense, and accelerated depreciation.

New Call-to-actionThe PATH Act has created additional tax saving opportunities for commercial building owners for a limited time. As a result, it is more important than ever to engage qualified cost segregation professionals to assist with the proper classification of improvements to commercial buildings.

If you would like to talk with a CSP360 cost segregation professional about how these changes may affect your clients, please click the button to schedule a free 15-minute consultation.

Tags: cost segregation, Don Warrant, PATH Act of 2015

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