To all businesses and especially real estate owners: the IRS has recently finalized new rules for tangible property which go into effect for the 2014 tax year. The new rules change the way businesses deduct repairs, maintenance, materials, and supplies.
The new regulations are complex, and compliance is crucial in order to properly complete your tax filings. Each tax return will likely need one or more elections added to its annual filing, and additional forms may be required. The needs of every business will be different, but the step-by-step guide below should get you started.
Step 1: Keep immaculate records. Every purchase or repair of tangible property requires retention of the proper support and documentation. The new rules may be applied on an item by item basis. It is in your best interest to have your vendors specify the price of every single item and what exactly you are purchasing. The same holds true for materials, supplies, repairs, and improvements. Speak to your tax professional before embarking on a large construction project to find out which details are important. This could make it easier to take certain deductions.
Step 2: File a de minimis safe harbor election. $500 is generally the magic number, unless your company has annual audited financial statements. Generally, if the proper election is filed, tangible property purchases and repairs of $500 or less will be deducted currently, regardless of its nature, if you file this election. The election is a simple statement and gets attached with your tax return each year. A repair above the $500 must be carefully analyzed to determine if it should be capitalized under the new regulations. If the election is not filed, you may lose the safe harbor for the tax year.
Step 3: Consider filing a form 3115, a change of accounting method. Many tax experts are indicating that this may be required on nearly every business tax return for the 2014 tax year. This form should be given serious consideration as sources close to the IRS have indicated that a failure to file form 3115 for the 2014 tax year could expose the taxpayer to a higher risk of audit. A copy of the form must be attached to the tax return of the business (or individual who owns a sole proprietorship or 100% owns a limited liability company). In addition, a second copy must be filed separately.
Step 4: Real estate owners beware! The new IRS rules will heavily affect the real estate industry, and there are even special portions that apply specifically to real property owners. There are two such items of particular importance. The first is the prior year partial asset disposition, which allows a taxpayer to look back at construction in prior years and take a current deduction for the portion that is calculated to be a partial asset disposition. This is a potentially huge deduction that is automatic and available for free for 2014. After that, the taxpayer would be subject to a $7,000 user fee and would not be granted the deduction automatically. The second major item is the safe harbor for small taxpayers. This is an annual election that allows the owner of a building with an initial cost of $1,000,000 or less, and gross receipts of $10,000,000 or less, to deduct all repair and improvement costs, so long as those costs do not exceed $10,000 or 2% of the unadjusted basis of the building.
The most difficult aspect of the new regulations is the unknown. Previously, it was safer to simply capitalize a purchase when unsure. That may no longer be the case, as the IRS could disallow depreciation in future years if they determine the asset should have been deducted in the year of the purchase. This is just one example of the major change that the business world now faces.
Some argue that the IRS has overstepped its authority, and the American Institute of Certified Public Accountants (AICPA) has written a letter requesting that the rules be adjusted. The letter was written long ago, but sources are saying the IRS has met with the AICPA in early February. The results of that meeting, which are not yet public, could change the filing requirements. Regardless of the ongoing politics, it behooves each and every taxpayer to comply in the meantime. So stop what you’re doing, and get on board.
Joshua Goldstein of SRF Accounting Group LLC is a CPA who has been practicing tax compliance for 8 years. To contact Joshua call 201-525-1222 or visit srfcpas.com.
By Joshua Goldstein
