The IRS and the Treasury Department have published long-awaited temporary regulations that provide guidance to taxpayers on the treatment of expenditures incurred in selling, acquiring, producing and improving tangible assets, including rules on determining whether costs incurred are deductible repairs or capital improvements. The temporary regulations, which provide objective standards and rules intended to simplify compliance with the provisions contained in Sections 162(a) and 263(a) of the Internal Revenue Code, retain many of the provisions of the 2008 proposed regulations, and could have a significant impact on a wide array of industries, including utilities, telecommunications companies, manufacturers, retailers, real estate companies and other businesses.
The temporary regulations affect all taxpayers that acquire, produce or improve tangible property and generally are effective for expenditures made on or after January 1, 2012. They do not affect taxpayers’ 2011 returns. Additional guidance is to be published to advise taxpayers how to obtain automatic consent to change to a method of accounting provided in the temporary regulations for taxable years beginning on or after January 1, 2012. The automatic consent requests may be filed with taxpayers’ 2012 tax returns.
The temporary regulations clarify and expand the current standards for repairs and improvements and address a broad range of other tangible property acquisition issues, including a definition of materials and supplies and a de minimis capitalization threshold. Also, the temporary regulations continue to allow a taxpayer to elect to capitalize certain materials and supplies.
The temporary regulations retain the proposed regulation provision that amounts paid for repairs and maintenance of tangible property are deductible if the amounts paid are not otherwise required to be capitalized. In addition, the temporary regulations make minor revisions to the rule that provides that the cost of erecting a building or making a permanent improvement to property leased by the taxpayer is a capital expenditure and is not deductible as a business expense. They do, however, amend the rules to provide that a lessee or lessor must depreciate or amortize its leasehold improvements under the cost recovery provisions applicable to the improvements, without regard to the term of the lease. They also remove the rules permitting amortization over the shorter of the estimated useful life or the term of the lease.
The temporary regulations include a general requirement to capitalize acquisition and production costs and a requirement to capitalize amounts paid to defend and perfect title to property. The temporary regulations clarify how the rules apply to moving and reinstallation costs. They also retain the rule for costs incurred prior to placing equipment into service and clarify certain rules with respect to transaction costs.
The temporary regulations retain the basic framework of the 2008 proposed regulations for determining the unit of property and for determining whether there is an improvement to a unit of property. They also include the routine maintenance safe harbor and the optional regulatory accounting method.
The temporary regulations eliminate group accounts, classified accounts and composite accounts. Instead, each multiple asset account must include, in most cases, assets that have the same depreciation method, recovery period and convention, and that are placed in service in the same tax year.
The temporary regulations were released as a notice of proposed rulemaking, offering taxpayers the opportunity to comment on the rules. Written comments are requested by March 26, 2012, and a public hearing on the regulations is scheduled for April 4, 2012.
Click here for further guidance on the temporary regulations.
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