IRS Issues Final “Repair” Regulations On Tangible Property Costs

As expected, the regulations take effect January 1, 2014. Some provisions apply only to amounts paid or incurred in tax years beginning on or after January 1, 2014. The IRS is not expected to delay these effective dates, since taxpayers were informed of the impending changes in the rules almost two years ago. Complying with the final regulations will require significant time and effort, despite several taxpayer-friendly changes. Every business, especially those with significant fixed assets, must develop an understanding of the regulations and their requirements.

The regulations will provide simplification and reduce controversy to the extent they allow taxpayers to follow their financial accounting (“book”) policies. For example, the de minimis rules provide a $5,000 safe harbor per item, provided taxpayers have a policy on their books to deduct items within the safe harbor. The rules for repairs and maintenance also allow taxpayers to follow their book policies.

Among the significant provisions in the final regulations are the following:

Materials and supplies – The threshold for deducting materials and supplies was increased from $100 to $200. Materials and supplies include many items that are expected to be consumed in 12 months or less, or that have an economically useful life of 12 months or less.

De minimis safe harbor – The final regulations eliminate a controversial ceiling on the use of this safe harbor. Taxpayers with financial statements can apply the safe harbor to an item that costs $5,000 or less. The regulations extend the safe harbor to taxpayers without a financial statement, but only for property that costs $500 or less. Taxpayers must have written book policies in place at the beginning of the year to use this safe harbor. This puts a premium on taxpayers developing a policy by the beginning of 2014.

Routine maintenance and improvements – The final regulations retain controversial unit of property rules that apply the rules for real property to eight separate building systems, as well as to the overall structure. However, the rules do provide some relief by extending the routine maintenance safe harbor to real property and by providing a new safe harbor for small taxpayers. While the routine maintenance safe harbor usually looks at whether taxpayers will have recurring maintenance over the class life of the property, the regulations limit the measuring period to 10 years, rather than the 40-year class life, for real property.

Capitalization election – The final regulations allow taxpayers to capitalize repair and maintenance costs if they are capitalized for financial accounting purposes. This is a significant simplification over the temporary regulations.

The repair regulations are extensive and complex. Determining whether particular costs should be deducted or capitalized will be challenging, especially with the January 1, 2014 effective date looming. If you would like assistance or further clarification, please contact Jim McNeeley or Tim Adams we can help you address these rules or for additional information and questions at (517) 323-7500.