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The Complex Process of Simplifying Tangible Property Regulations (Part 3 of 3)

Posted by Don Warrant on 1/14/16 9:06 AM

2015 Compliance with the Tangible Property Regulations

Tangible Property Regulations - CSP 360As tax advisors begin working with the new rules introduced with Revenue Procedure 2015-20, it’s important to review 2014 returns to understand the choices made by taxpayers, either by filing required Forms 3115 for specific method changes, or adopting all applicable method changes incorporated in Rev. Proc. 2015-20. This post is the third and final of our series on this issue:

  • The first post focused on the method changes that each qualifying taxpayer who followed Rev. Proc. 2015-20 adopted and whether they are in compliance with the regulations.
  • The second post examined the consequences for those taxpayers who were required to file Form(s) 3115 and did not.
  • This post will focus on issues related to complying with the tangible property regulations in 2015.

A Quick Look Back at 2014

Beginning with the 2014 tax year, taxpayers may no longer claim depreciation for repairs and maintenance expenses capitalized in prior tax years. These amounts should have been included in a Section 481(a) adjustment for the 2014 tax year. The election to capitalize and depreciate repairs and maintenance in accordance with book procedures is only available beginning with the 2014 tax year. In order to elect into this treatment each year going forward, taxpayers must file an election statement with the tax return. A failure to file the election statement may result in the loss of depreciation claimed for repair expenditures in the event of an IRS examination.

Likewise, beginning with the 2014 tax year, taxpayers may no longer depreciate assets disposed of in prior tax years that were not removed from the fixed asset records. Treasury Regulation 1.1016-3 provides the authority for the IRS to deny these deductions.

Businesses with tangible property fall into one of the following categories:

  • Small business under Rev. Proc. 2015-20 and did not opt out (Please see Post 1 for discussion.)
  • Properly filed required Forms 3115 for 2014
  • Improperly filed or missed filing a required Form 3115 (Please see Post 2 for discussion.), or
  • Did not file required Forms 3115 for 2014

Tax return preparers who work with businesses that filed Forms 3115 with their 2014 tax returns should review these forms and confirm that the client’s fixed asset records have been updated accordingly. it's also important to make sure that the Form 3115 wasn’t missing information and that the taxpayer didn’t erroneously report a $0 Section 481(a) adjustment. Corrections to Forms 3115 should be made ASAP before discovery by IRS examiners. Otherwise, the taxpayer may have made an impermissible change in accounting method that could result in an additional tax liability as well as potential penalties and interest.

Tangible Property in 2015 and Beyond

Each year, tax advisors serving clients with tangible property will need to review the taxpayers’ treatment of the following:

  • Costs to acquire or produce tangible property,
  • Materials and supplies,
  • Repairs & maintenance,
  • Improvements, and
  • Dispositions of property (including removal costs).

The new methods of accounting required by the tangible property regulations change the way that many businesses treat these types of expenditures beginning in 2014. These changes should be reflected in the 2014 return and all future year returns.

In addition, return preparers should maintain a list of the elections made by the taxpayer each year. The regulations offer a variety of elections that require an annual review, such as:

  • Elections to expense tangible property under the de minimis and small taxpayer safe harbors,
  • Election to capitalize repair & maintenance costs in accordance with book treatment,
  • General asset account elections,
  • Partial disposition elections,
  • Elections to capitalize employee compensation and/or overhead costs as facilitative costs, and
  • Elections to capitalize and depreciate rotable, temporary and/or emergency spare parts when the alternative method of accounting is not used.

Cost Segregation

Cost segregation plays an important role in a business’ compliance with the new tangible property regulations. A cost segregation study identifies the appropriate unit of property needed to apply the new improvement rules to each building system and the major components of the building itself. Any costs incurred to improve real property must be segregated between real and tangible personal property before applying the improvement rules. In addition, cost segregation is necessary to recognize partial dispositions of building structures and systems, and to segregate removal costs from acquisition or production costs.

New Call-to-action As we’ve noted before, it has been clear from the start that these tangible property regulations would have a significant impact on tax accounting methods for businesses. As time passes, we continue to learn even more about how the new rules and the efforts of the IRS to implement them affect small businesses.

To consult with a CSP360 professional about the effect of the rules on your clients in 2015 and beyond, please contact us.

Tags: tangible property regulations, Revenue Procedure 2015-20

The Complex Process of Simplifying Tangible Property Regulations (Part 2 of 3)

Posted by Don Warrant on 1/12/16 8:48 AM

Due Diligence Reviews for Compliance with the Tangible Property Regulations: Missed Forms 3115 or Incorrectly Filed Forms 3115

IRS Form 3115 Filing -  CSP 360The IRS has made several efforts to simplify the process for small businesses to start applying new tangible property regulations, culminating with the release of Revenue Procedure 2015-20. It’s critical to review 2014 returns to understand taxpayers' choices, either by filing required Forms 3115 for specific method changes, or adopting all applicable method changes incorporated in Rev. Proc. 2015-20.

In our previous post, we focused on the method changes that each taxpayer who followed Rev. Proc. 2015-20 adopted and whether they are in compliance with the regulations. This post examines the consequences for those taxpayers who were required to file Form(s) 3115 and did not, or who may have filed a Form 3115 with missing information. The last of the three will focus on issues related to complying with the tangible property regulations in 2015.

Taxpayers Who Failed to File Required Forms 3115

A taxpayer who failed to file a required Form 3115 for the 2014 tax year may file Form(s) 3115 beginning with the 2015 tax year. The same holds true for taxpayers who qualified for Rev. Proc. 2015-20 in 2014 but chose to opt out by filing a statement with their return. The IRS requires that taxpayers continue the use of their current tax accounting methods until the taxable year in which a Form 3115 is properly filed.

If you’re working with a new client who failed to file a required Form 3115 with their 2014 return, you may find a Form 8275-R Regulation Disclosure Statement. If a paid preparer felt that a client had reasonable basis for not filing a required Form 3115, this disclosure statement is filed with the return to avoid the penalties that can be imposed on preparers who prepare a tax return that does not comply with Treasury Regulations.

Automatic Extension of Time to File Forms 3115

Section 6.03(4) of Rev. Proc. 2015-13 provides an automatic six-month extension of time to file Forms 3115. Fiscal year taxpayers may be able to file the required Form(s) 3115 with their 2014 tax return if they are within six months of the original due date of their 2014 tax return.

Correcting a Previously Filed Form 3115

Section 6.03(1)(e) of Revenue Procedure 2015-13 provides the procedures to submit additional correspondence regarding a previously filed Form 3115. For example, if the Form 3115 was missing information or the section 481(a) adjustment was incorrectly reported as $0, then the taxpayer has made an impermissible change in method of accounting. If a taxpayer reported a $0 Section 481(a) adjustment for repairs but in fact, had capitalized repairs in prior years, then corrections to a previously filed Form 3115 should be made since the taxpayer may no longer treat these items as depreciable fixed assets.

It’s important to review the 2014 returns of your clients with the information from this post and our previous one in mind. When onboarding new clients over the next several years, a review of Forms 3115 filed in prior years will continue to be a key step. If it’s there, was it filed correctly? If it’s not there, was the failure to file permitted under Revenue Procedure 2015-20? If the IRS discovers an incorrectly filed Form 3115 before you make New Call-to-action corrections, the IRS can propose examination changes for the oldest year under audit and assess penalties and interest. In other words, the taxpayer may have lost the IRS exam protection that is available when a Form 3115 is properly filed and be exposed to penalties.

Our first two posts on this topic have focused on what to do if you review a 2014 return that doesn’t have a Form 3115 attached, either because the client chose to follow Revenue Procedure 2015-20 or because the client failed to file a Form 3115 that was required by the regulations. Our next post will look ahead to the work that needs to be done for tangible property calculations on Tax Year 2015 returns.

Tags: tangible property regulations, Revenue Procedure 2015-20

The Complex Process of Simplifying Tangible Property Regulations (Part 1 of 3)

Posted by Don Warrant on 1/7/16 8:52 AM

How did Revenue Procedure 2015-20 impact small businesses?

Tangible Property Regulations - CSP 360Throughout the recent implementation of the tangible property regulations, the IRS made several attempts to simplify the process for small businesses to start applying the new rules. These efforts culminated with the release of Rev. Proc. 2015-20 that allowed small businesses to make changes in methods of accounting using a cut-off method without filing a Form 3115.

As the dust settles and tax advisors begin working with the new rules going forward, it’s important to review 2014 returns to understand the choices made by taxpayers, either by filing required Forms 3115 for specific method changes, or adopting all applicable method changes incorporated in Rev. Proc. 2015-20. We’re going to look at this issue in 3 consecutive posts:

  1. This post will focus on the method changes that each taxpayer who followed Rev. Proc. 2015-20 adopted and whether they are in compliance with the regulations.
  2. The next one will examine the consequences for those taxpayers who were required to file Form(s) 3115 and did not.
  3. And the last of the three will focus on issues related to complying with the tangible property regulations in 2015.

2014 Compliance Review

For existing clients or for new clients that you bring in this year, one of the first things you’ll want to review from the 2014 return is the Form(s) 3115 that were or were not filed. If Form(s) 3115 were not filed, then you’ll want to confirm the taxpayer qualified as a “small business” under Rev. Proc. 2015-20 and if so, did they comply with their new methods of accounting for the 2014 tax year. (We’ll cover the “if not” option in the next post.) Form(s) 3115 filed in prior years are important data points for any new client you take on and should be kept as part of your permanent records.

What Impact Does Rev. Proc. 2015-20 Have on Small Businesses?

Taxpayers who followed Rev. Proc. 2015-20 have adopted all method changes that are necessary to comply with the tangible property regulations without benefit of a negative section 481(a) adjustment for amounts paid or incurred, or dispositions, in taxable years beginning before 2014. These taxpayers automatically adopted each of the following methods of accounting, as applicable to their business:

  • #184 – Repairs & maintenance, improvements, routine maintenance safe harbor, and unit of property
  • #185 – Regulatory accounting method
  • #186 – Non-incidental materials and supplies
  • #187 – Incidental materials and supplies
  • #188 – Non-incidental rotable and temporary spare parts
  • #189 – Optional method for rotable and temporary spare parts
  • #190 – Dealer – to deduct costs that facilitate the sale of property
  • #191 – Non-dealer - to capitalize costs that facilitate the sale of property
  • #192 – Capitalizing costs to acquire or produce property
  • #193 – Real property investigatory costs
  • #200 – Permissible to permissible method of accounting for depreciation of MACRS property
  • #205 – Dispositions of a building or structural component
  • #206 – Dispositions of tangible depreciable assets (other than a building or its structural components)

Beginning with the 2014 tax year, small businesses are required to use the new methods of accounting for tangible property listed above. For example, they may no longer depreciate repairs and maintenance capitalized in prior tax years, or assets that were disposed of in prior tax years. Fixed asset records should have been updated accordingly as of the beginning of the 2014 tax year.

Rev. Proc. 2015-20 excluded the following method changes:

  • #7 – Depreciation or amortization
  • #21 – Removal costs
  • #199 – Depreciation of leasehold improvements

Therefore, small businesses may have filed Form(s) 3115 even though they followed Rev. Proc. 2015-20.

Impact on Future Years Returns

Taxpayers that followed Rev. Proc. 2015-20 are required to continue to use the new methods of accounting adopted for the 2014 tax year unless they decide to change their methods of accounting. If a taxpayer chooses to change accounting methods, the change should be made by filing a Form 3115 and calculating a section 481(a) adjustment in a later year. The important thing to remember for clients who opted to rely on Rev. Proc. 2015-20 is that any section 481(a) adjustment is calculated by taking into account only amounts paid or incurred, and dispositions, in taxable years beginning in 2014.

New Call-to-action It has been clear from the start that these tangible property regulations would have a significant impact on tax accounting methods for businesses. As time passes, we continue to learn even more about how Revenue Procedure 2015-20 impacts small businesses.

This article focused on clients who relied on Revenue Procedure 2015-20 and elected to not file Form(s) 3115. Our next post will look more closely at the circumstances of taxpayers who failed to file a required Form(s) 3115 and did not qualify as a “small business” under Revenue Procedure 2015-20.

Tags: tangible property regulations, Revenue Procedure 2015-20

CPAs Should Urge Commercial Property Owners to File Forms 3115… Despite IRS “Relief”

Posted by Don Warrant on 2/19/15 11:41 AM

Benefits of filing Form 3115 include IRS audit protection and valuable tax savings from prior-year repairs and dispositions.

Revenue_Procedure_2015-20To file Form 3115 or not. That is the question of the week.
 
Our answer: Owners of commercial property should continue to file a Form 3115 with their 2014 tax returns with limited exceptions (see sidebar), even though it may require filing extensions to allow adequate time to complete and file a Form 3115.

Sure… on its face, Rev. Proc. 2015-20 appears to be a reason to celebrate. Small taxpayers can now choose to make changes in accounting methods for tangible property without filing a Form 3115, as long as they use a “cut-off” method (i.e., for tax year 2014 and going forward).
 
Whew! Tax preparers can breathe a huge sigh of relief as a looming mountain of paperwork disappears in a puff of smoke. Right? Not really.
 
Filing a Form 3115 actually provides a number of protections that your client is waiving by taking advantage of this so-called “relief.”
 

  1. IRS examination protection. When taxpayers file Forms 3115, they receive IRS examination protection for their accounting method treatment for all prior tax years. By taking advantage of the exception for small taxpayers, your client waives that protection. For clients who may have aggressively expensed items in prior years under their old methods, that protection is likely worth the cost of preparing the Form 3115 (at most a couple of hours of your time). You still need to perform the work and documentation as to the methods and elections that apply to the 2014 tax year.
  1. Current deductions of previously capitalized items. Your client could be missing out on some taxpayer-friendly provisions within the Tangible Property Regulations if they choose to use the “cut-off” method. Many owners of commercial real estate actually have been fairly conservative in the past with regard to capitalization of costs in prior years. They could have tens or even hundreds of thousands of dollars in remaining tax basis that, under the new unit of property rules, are now eligible for current deductions. Without a method change filing, those deductions are off limits.
  1. Late partial disposition. As we’ve said in prior posts on "late" partial dispositions, taxpayers have a one-time opportunity to recognize partial dispositions of property that occurred in prior years on 2014 tax returns—and only if they file a Form 3115. Your client is waiving this opportunity if they file their return without a Form 3115.
  1. Recognize an unfavorable section 481(a) adjustment over a four-year period. If you have a commercial real estate client who aggressively expensed items in prior years that now must be capitalized and depreciated, then that client will be better off by coming into compliance now and spreading the hit over a four-year period. If the IRS finds those issues upon examination, they will require an immediate increase in income.

Resistant Clients? Have Them Sign a Waiver

What if your client has heard about this so-called good news from the IRS and demands to skip the Form 3115? We recommend that you ask your client to sign a written acknowledgement of the following:

  • They waive IRS exam protection for the item for all prior tax years.
  • They forego any tax benefits associated with a method change for repairs or for dispositions—including the expiring “late” partial disposition election.
  • Filing the return without a Form 3115 is irrevocable once the return is filed.
 
IRS issued Revenue Procedure 2015-20 revising Revenue Procedure 2015-14 Of course, we believe that your commercial real estate clients will see the light when you present all the benefits that can come from digging into their fixed asset and depreciation schedules to uncover tax savings while bringing them into compliance with the Tangible Property Regulations. If you have questions about whether filing Form 3115 is right for your client, contact us to learn how our accounting method change specialists can help.

Tags: commercial real estate, tangible property regulations, Don Warrant, Form 3115, fixed asset, Revenue Procedure 2015-20

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