November, 24, 2015
By: Steven D. Beaucaire, MST, CCSP
Last Thursday the IRS issued Revenue Procedure 2015-56, which gives a Safe Harbor for retail remodeling and/or refresh projects. The 39-page document offers something to taxpayers who meet the criteria, but involves many restrictions.
Who Can Benefit:
Rev. Proc. 2015-56 applies to taxpayers operating certain retail and restaurant facilities that have an Applicable Financial Statement (AFS) as set forth in Regs. § 1.263(a)-1(f)(4). By way of reference, the AFS is a certified audited financial statement accompanied by the report of an independent certified public accountant produced for non-tax purposes.
Additionally, the Rev. Proc. excludes automotive dealers, other motor vehicle dealers, gas stations, manufactured home dealers, non-store retailers, taxpayers that are primarily in the trade or business of operating hotels and motels, civic or social organizations, amusement parks, theaters, casinos, country clubs, and similar recreation facilities.
Strangely, the new pronouncement provides definition for qualified costs by listing all those costs that do not qualify. Since this part of the Rev. Proc is almost three pages, a partial list of these non-qualifying costs is as follows: De Minimis costs, Section 1245 property, intangible assets, land, land improvements, the initial purchase of a building, original construction of a building, initial build out of a leased property, costs incurred prior to placing the building into service, amelioration of a material condition or defect that arose prior to the taxpayers occupation or lease of the building (no it does not matter if they knew about it or not), restoration where a § 165 loss (casualty loss) was incurred, adaptation of more than 20% of the square footage to a new use, costs arising in a temporary closing longer than 21 calendar days, and costs for which a deduction was taken under § 179, § 179D, or § 190. As previously stated, we are touching on the major elements.
Is this strategy for you?
Assuming that taxpayers wish to adopt the provisions contained in Rev. Proc. 2015-56 you must file IRS Form 3115, Application for a Change in Accounting, for this Safe Harbor. However, in doing this, you cannot use other Safe Harbors such as the Small Taxpayer Safe Harbor or the Routine Maintenance Safe Harbor. This method allows you to treat the building as one unit for these purposes but precludes you from taking partial disposition elections on that building. If you have taken any partial disposition elections on that building, you must revoke the election by filing another Form 3115. In general, there are six requirements a taxpayer must meet to adopt this method:
- The taxpayer must treat 75% of the qualified costs as expense and capitalize 25% of the costs.
- The taxpayer must document the costs.
- The capital expenditure amount must be charged to a capital account, where the expenditure for a qualified building is a separate account.
- The qualified taxpayer must not make a partial disposition election for any portion of the qualified building, any improvement, or addition to a qualified building.
- If the taxpayer recognized a gain or loss on the disposition of a component of the qualified building, including a partial disposition election, they must change their method of accounting to be in compliance with the general asset accounting rules in §1.168(i)-1, in other words, revoke the prior partial disposition election.
- The taxpayer must make a General Asset Account election for the entire qualified building (this includes a condominium or leased space).
Pros and Cons
Revenue Procedure 2015-56 does offer a bright line Safe Harbor for remodel/refresh costs for certain property types. For some taxpayers it may be a boon, but it does come with some conditions that may be just too onerous to justify adoption. It requires filing at least two Form 3115s and maybe three, one of which is for the adoption of General Asset Accounting (GAA) for that property. In simplistic terms, GAA requires the taxpayer to group assets of like kind, life, and method of accounting for depreciation purposes. GAA has limitations in that you cannot recognize a gain or loss on the disposition of an asset from the account. In the event of a sale from the account, the gross sales price is treated as taxable income. Only when every asset in the account is disposed, can you elect to terminate the account.
Taxpayers should closely evaluate the implications of this Rev. Proc. as compared to the various options and related flexibility that the Tangible Property Regulations offer under Regs. §§1.162-4, 1.168(i)-8, and 1.263(a)-3.
As we were about to hit the “send button” on this message, we have just learned that the IRS has increased the upper expense limit for De Minimus Safe Harbor for non-AFS taxpayers from $500 to $2,500. We will provide more details on IRS Notice 2015-82 next week.
For more information, please contact your local Bedford representative.
“May this Thanksgiving holiday bring you good things in abundance that stay with you all year long”.