On September 14, 2016, the IRS released a new audit techniques guide for the Tangible Property Regulations. This guide provides IRS examiners with a tool to identify potential audit issues arising from the use and adoption of the Tangible Property Regulations and prior law provisions. The guide covers not only the substantive rules relating to acquisitions, betterments, adaptations, restorations, and improvements, but also the safe harbors, MACRS accounting, materials & supplies, dispositions, and related accounting method changes.
Overview: In 2010, the IRS released an audit techniques guide that dealt with capitalization issues for repairs and improvements. With the release of the final TPR in 2013 and the final disposition regulations in 2014, an update to the ATG was widely anticipated. The new TPR ATG, at 185 pages, is over six times longer than the prior ATG. Though most of this increase is explained by the greater breadth of coverage for dispositions and other issues, some of it is attributable to the voluminous detail given to procedural issues like accounting method changes and many useful charts. It is also important to note that many of the Examination Considerations or Audit Procedures identified at the end of each chapter relate to Large Business and International taxpayers, especially to public C corporations. Notwithstanding this focus, the very thorough steps provide an excellent guideline for practitioners to assess taxpayers of all sizes.
Even though the Service has provided a hitherto unseen level of written documentation in this ATG, there are no real surprises for regular readers of iTaxblog or attendees at our CPE sessions. The guidance is consistent with prior informal comments from Service personnel at conferences, the IRS TPR FAQ, and prior IRS webinars on the TPR. We will look at the highlights of some of these issues.
- The De Minimis Safe Harbor.
- The ATG confirms that, if the DMSH is elected, assets and improvements in excess of the DMSH safe harbor may be expensed, but subject to a clear reflection of income analysis unless the amounts are immaterial.
- The ATG also provides that the safe harbor amount, ($5000 for taxpayers with an Applicable Financial Statement or $2500 for taxpayers without an AFS), also applies to items with a useful life of 12 months or less, though those items in excess of the safe harbor amount may be classified as material or supplies.
- Leasehold or Tenant Improvements.
- Following prior Service comments, the ATG explicitly describes breaking out section 1245 assets from possible section 1250 improvements as the first step when dealing with tenant improvements. Generally speaking, a newly acquired section 1245 asset like a desk, carpeting, or a file cabinet would be capitalized when replacing prior tenant improvements. In this situation, each item, (e.g. each desk or file cabinet), is a newly acquired asset and a separate Unit of Property. (These assets still may qualify for expensing under another provision, like the DMSH.) After breaking out section 1245 assets, taxpayers would then apply the improvement tests to section 1250 improvements.
- The ATG continues the Service’s policy of applying section 263A as an independent capitalization provision. This means that even if a tenant improvement is not an improvement under the BAR rules of section 1.263(a)-3, its constructions still might constitute “production” under section 263A and require capitalization. Since this interpretation of section 263A is contrary to its historical treatment, we will keep you apprised of developments in this area.
- Single Asset Accounts. The ATG confirms that a building can be in a Single Asset Account (assuming all other requirements are met). Though the example used involved an acquisition, there is no reason that a newly constructed building that is placed in service all at once would not also qualify for Single Asset Account treatment.
These highlights represent areas where the Service has been consistent in its pronouncements, but may be at odds with how many repair studies or TPR projects have been implemented. If you have any questions about how these areas or other TPR issues affect your clients or your firm, please reach out to one of our directors of business development.