Repair Regulations Implementation in Private Equity-Owned Operating Companies
Author: Grace Miller
The IRS released final regulations giving guidance and clarity to taxpayers on when expenses related to tangible property should be currently expensed or capitalized in the following areas:
- Deductibility of materials & supplies
- Deductibility of de minimis expenses
- Acquisition costs
- Repairs & improvement costs
These regulations should be applied to tax years beginning on or after January 1, 2014. Due to the comprehensive nature of the regulations, all taxpayers should review these areas with their BKD advisor to implement necessary actions for compliance with IRS guidance.
Here are some noteworthy changes effective for 2014 and future year tax returns.
De Minimis Safe Harbor Election
The regulations allow for a safe harbor for expenses, tangible property and materials and supplies under what is determined to be a de minimis amount. If the taxpayer has an applicable financial statement, i.e., Securities and Exchange Commission filing or financial statement audited or filed with government agency (other than a tax return), the taxpayer can expense for tax purposes tangible property and materials and supplies of less than $5,000 per invoice or per item (as substantiated by the invoice) if they also are expensed for book purposes. Documentation of the deductibility of capital expenditures must be substantiated by a written capitalization policy on file. The safe harbor is reduced to $500 if there’s not an applicable financial statement for the taxpayer; a written capitalization policy is not required, but is recommended. A yearly election must be attached to the taxpayer’s tax return for each year the safe harbor is elected.
Accounting Method Changes
With few exceptions, conforming to the repair regulations will require taxpayers to file accounting method changes with their 2014 tax returns. These accounting method changes allow the company to conform to the regulations without having to amend prior-year tax returns. Filing a method change may or may not result in an adjustment to taxable income for the taxpayer, depending upon each taxpayer’s specific situation.
Compliance with the comprehensive rules set forth in the repair regulations is important for private equity-owned companies. By filing the applicable accounting method changes, the company is protected from IRS audit adjustments for tangible property expenditures in prior tax years. In addition, compliance with the repair regulations likely will be evaluated during due diligence for companies involved in future sale transactions.
The final repair regulations are complex and will require analysis of your specific tax situation. For more information or planning considerations for any tangible property acquisitions or improvements, contact your BKD advisor.