Prepare to Change Accounting Methods
While the regulations bring some (small) measure of clarity to the repair vs. improvement determination, they also require nearly all taxpayers to file accounting-method changes. If you previously deducted costs considered improvements, under the regulations you must file an accounting-method change to capitalize the previously deducted repair costs.
In plain English, that means there will be an adjustment (called a Section 481(a) adjustment) to take into account the difference between the amount claimed as a repair-expense deduction and the amount of depreciation allowed if costs had been capitalized.
The new rules may, however, work to your advantage. If you had previously capitalized costs that are now deductible repairs under the new standards, you’ll file a change of accounting method to write off the costs that had been improperly capitalized.
Assume Carlos from the previous example replaced his roof in 2008 and capitalized the expense. Under the old rules, Carlos would have continued to depreciate the remaining value of the old roof over what remained of the 39-year period. At the same time, he would depreciate the new roof’s cost over an overlapping 39-year period.
Under the new rules, the replacement is a repair. Thus, Carlos must file a change of accounting method to claim a loss for the old roof based on the value in the year it was replaced. He will claim a significant loss, reducing his tax liability in the year of the change.
Leave It to the Professionals
These explanations and examples highlight only some of the issues surrounding expenses related to property upkeep and improvements. Expert advice is required. A tax professional is in the best position to unravel the tangled web of regulations and provide advice on the timing and structure of expenditures based on your business’s specific facts and circumstances.
In addition, several safe harbors—provisions of statutes or regulations designed to reduce a party’s liability under the law—help ensure an expense is deductible as a repair. But the rules are complex, and professional advice will help ensure they are met. Consulting with your tax advisor when you plan your projects will guarantee the best tax savings.
Marcia Richards Suelzer has more than 25 years of experience writing and teaching about tax and business. Her work on the BizFilings Business Owner’s Toolkit team helps provide more than 3,000 pages of free cost-cutting tips, step-by-step checklists, real-life case studies, startup advice and business templates to small business owners and entrepreneurs. For more information, visit www.bizfilings.com/toolkit .