By Greg K. Bryant, Managing Partner
When will Bonus Depreciation be extended?
What’s happening to the 179D extensions?
Any news on the status of tax incentive extenders?
These are but a few of the questions we receive from our clients on an almost daily basis. Since 2001, there have been various levels of tax incentives introduced and we have become accustomed to last minute legislation extending bonus depreciation, 179D deductions or Qualified Leasehold/Retail/Restaurant Improvements. Up until this year, most of us in the industry simply assumed that the folks in Washington, DC would eventually get around to attaching tax extenders provisions to some obscure legislation in the event a specific extender bill failed to make its way through Congress. Well, I guess 2014 is not looking like a typical year (at least thus far).
While we continue to hear rumors and conjecture regarding possible extensions of these incentives and given the upcoming mid-term elections, expectations are high that with the stroke of a pen “all will be right with the world” once again. It’s anybody’s guess if this will happen and in the interim, we have to deal with what we know today.
Perhaps the most noteworthy development relative to our industry has been the release of the Tangible Property Regulations (TPRs) which provide a higher level of common sense and guidance to taxpayers who wish to expense certain items that would have been capitalized using past or current practices. While the TPRs might seem a bit complex, the decision process by which assets are tested for expense treatment are based on two primary considerations that should become standard terminology within your organization. These two terms are Betterment and Materiality. Simply put, if a taxpayer is replacing an existing asset with a better or stronger, more efficient item, it is Betterment and must be capitalized. On the other hand, if you are replacing an existing asset with a similar one, you can potentially expense 100% of the new asset based on Materiality. Material to “what?”, I’m sure you are asking – and I’m glad you did because here is your best tax planning tool ever created. It’s called Unit of Property.
In essence, Unit of Property breaks a building down into various categories such as building structure, building systems and some other items as defined by the IRS. The Unit of Property (UoP) is not subject to depreciation meaning the only time the different categories are increased is when a new improvement is Betterment and needs to be capitalized. Reduction of the UoPs is only made when property is disposed of. Speaking of limbo, we are still waiting on final rules for disposition, but I digress and will cover this in next month’s Bottom Line. The significance of UoP should not be downplayed. It will serve as a reference point for all incoming future improvements to buildings that are not capitalized as Betterments. Here is an example:
In a $3 million building which contains a HVAC UoP of $350,000, the property owner can expense $50,000 of new rooftop units if they are not Betterments. Generally speaking the Materiality threshold for expense treatment is 30%. In this example, the new HVAC is only 14.2% of the overall HVAC UoP.
One might ask how UoP is calculated. In most cases it starts with a well prepared Cost Segregation Study that is modified to create UoP values. If the data is adequate for analysis, an existing study can be upgraded to establish the correct UoP amounts. A word of caution on upgrades though – all capitalized building-related assets included on a depreciation schedule must be included in the UoP calculation, so if you conducted a Cost Segregation Study ten years ago, any subsequent assets from that period on, need to be added to the initial amount covered by the study. In the case of an upgrade, we can often identify capitalized items that can now be expensed under the TPRs using the UoP to test for Materiality. In a recent UoP upgrade engagement, we identified over $495,000 of capitalized assets that are now eligible for expense treatment under these new regulations. Not so bad for a summer in tax extender limbo!
Please contact your local Bedford representative to learn more about this valuable tax strategy and to determine just how powerful your UoP report can be for your organization. We have the ability to upgrade not only Bedford studies, but also studies done by other firms.