Brown Smith Wallace recently helped a large real estate company that owns multiple large buildings adopt the revised tangible property regulations, also known as the repair regs. For tax year 2014, many real estate owners can enjoy significant tax benefits resulting from the law change. Brown Smith Wallace identified more than $4 million of tax deductions for this particular real estate company.
Several smaller Brown Smith Wallace clients that own single buildings also have enjoyed additional tax deductions by, for example, replacing roofs. They are now able to write off the remaining basis of the old roof for more than $10,000 of tax savings.
Taxpayers can still make changes to their filed tax returns and re-file before Sept. 15 for corporations or Oct. 15 for everyone else.
The repair regs cover multiple topics regarding capitalizing or expensing property. These topics include materials and supplies, spare parts, repairs and maintenance, de minimis safe harbors, transaction costs, partial asset dispositions and asset removal costs.
Brown Smith Wallace is seeing the most benefit for taxpayers in three areas: repairs, partial asset dispositions and asset removal costs.
Setting the bar — clarifying what is a repair
The repair regs helped define a “Unit of Property” and clarified when the nature and amount of expenditures rise to the level of a betterment, adaption or restoration (BAR) of a unit of property, and should be capitalized. Costs which are not BAR can be expensed as a repair.
The regs also include a safe harbor for expensing routine maintenance. If you reasonably expect to perform an activity more than once during the life of the asset, or 10 years in the case of a building, you can expense the cost as routine maintenance.
Many clients have previously capitalized costs for items such as roof repairs, replacing certain HVAC units, replacing sections of flooring and resurfacing parking lots, which all qualify as repairs under the new regs. For 2014, taxpayers can take a catch-up deduction to deduct these previously capitalized repairs.
Catching up on partial asset disposition deductions
Prior law did not allow writing off old building components when they were replaced, but for 2014, taxpayers can elect to write off old assets when they capitalize new components of a building. For example, when a taxpayer replaces a roof or elevator, they are required to capitalize the new asset, but can now write off the remaining basis of the old asset. For 2014 only, taxpayers can make a late partial disposition election and take a catch-up deduction for writing off assets that were replaced in prior years.
Brown Smith Wallace has helped clients that have multiple roofs, HVAC units or elevators on their books identify and quantify the amount to be written off.
By writing off their old assets, even if almost completely depreciated, taxpayers also can avoid depreciation recapture on selling these assets. Depreciation recapture is taxed at higher tax rates than the more favorable long-term capital gain rates. If you are contemplating selling your building soon, you might find these permanent tax savings particularly attractive.
Leveraging some permanent tax savings on asset removals
Because partial asset dispositions are allowed, you can now expense demolition costs or costs to remove the old assets to make room for new construction in some cases. You can capture these as catch-up deductions, including demolition costs incurred several years ago.
Weighing tax savings vs. the burden of repair regs compliance
Tax savings win that battle. You must prepare additional tax forms to change your method of accounting to take advantage of the catch-up adjustments, but the savings can greatly outweigh these compliance burdens. It is also important to note if you have more than $10 million in revenue or $10 million in assets, you are required to file the forms even if there is no catch-up opportunity. Time is running out for real estate owners to capitalize on these tax benefits.
Click to watch our recent repair regs episode in the Brown Boarding Business Video Series to learn more.
Schedule a meeting with Rob Haggerty to discuss how to amend and refile your 2014 tax return to reap these benefits.