Chris Henderson, VP Operations
However, in January 2011, the IRS issued Revenue Procedure 2011-14 that provided an alternative accounting method. Rather than amending tax returns, architectural firms that have not previously taken the deduction may go back as far as 2006 and claim the deduction on their current year’s return using a Form 3115. A certification report and allocation letter must be filed with the Form 3115.
In most cases, claiming the §179D deduction on a Form 3115 is the preferred method. However, if a firm has already claimed the deduction on amended returns, their accounting method is established and should remain the same. For more information on the EPAct §179D tax deduction, please contact me at chris.henderson@sourcecorptax.com.
Chris: My concern with this deduction is with all of the unintended consequences of this S 179D deduction, and especially with Amending (or using the new Rec Proc 2011-14) all open years. Most people don’t realize this, but according to the Office of Chief Counsel Memorandum AM 2010-007 dated last December, although this is not a “real deduction” where a disbursement occured, it does reduce the basis in S Corporation stock and Partnership units. Thus, by amending a return, it will displace your other deductions as far as your basis is concerned. Thus also, if you have S Distributions, they may suddenly be partially subject to LTCG in all affected years. And if you have an “inside” and “outside” basis that is different with anyone, now you’ve got some serious analysis. This “Memo,” in my humble opinion, is in direct conflict with Notice 2008-40, Sec 3.06. Is there any hope that I’m wrong on the above?
Unfortunately, you are correct. The usability is predicated on the entity having sufficient basis to absorb the 179D deduction. To the extent that there is insufficient basis in the entity because of routine distributions, the deduction creates the potential for long term capital gain treatment where distributions are in excess of basis. The benefit in this scenario would be the tax rate arbitrage between ordinary income and the long term capital gains rate.
While section 3.06 of Notice 2008-40 states that the designer will not include any amount in income on account of the 179D deduction, the mechanics of flow-through entities often create the unintended, but correct, long term capital gain situation you mention.
We presented this issue to Treasury in a face to face meeting last year and, while they were sympathetic, they did not see a resolution outside of legislative action.
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