Page 16 —
COLORADO REAL ESTATE JOURNAL
— February 4-February 17, 2015
Finance
M
any people will
remember 2014 for
its crazy weather
or another news story that hit
close to home. One thing that
commercial property owners
need to remember about 2014
is that the federal government
made significant changes to tax
rules that govern how busi-
nesses treat payments made to
purchase, repair or maintain
real property and other tan-
gible assets.
Business owners and execu-
tives need to be aware that
these new rules will require
many businesses to change
their tax accounting methods
before filing 2014 income tax
returns. Some aspects of the
rules apply to tax years before
2014. Any business that report-
ed amounts for depreciation,
repairs or materials and sup-
plies related to tangible assets
on tax returns prior to 2014 will
almost certainly be affected by
the retroactive changes. Those
businesses will need to analyze
prior year payments in order to
calculate the correct basis for
tangible assets and the correct
amounts for related expenses
based on the newrules. The pro-
cess of filing the tax accounting
method change includes a one-
time adjustment to bring all of
the prior year changes in asset
costs and expenses into com-
pliance with the method that
the government now requires.
These adjustments must be
made before 2014 tax depre-
ciation is calculated in order
to make sure that asset values
and related expenses are deter-
mined in compliance with the
latest guidance.
The guidance doesn’t really
change the way that deprecia-
tion is calculated on buildings
or other assets – it changes the
way some payments related to
the assets are treated. The ret-
roactive provisions in the new
rules can result in the reclas-
sification of payments that
were classified correctly under
the old rules in prior years
as expenses or adjustments to
basis. Software that calculates
tax depreciation on assets will
generate incorrect amounts
for businesses that fail to ana-
lyze prior year information
and make the proper adjust-
ments. Businesses that rely on
that software will still need to
review prior year payments
for fixed assets and repairs to
assure compliance under the
new regulations.
While the new rules will
require many businesses to
do some extra tax preparation
work this year, they are not
necessarily bad news. Many
businesses will find that the
prior year changes result in
additional deductions that
can be claimed as a one-time
expense on 2014 tax returns.
On the other hand, businesses
that fail to file the required
tax accounting method changes
could face some very serious
consequences.
Benefits of the New Rules
The recent guidance from
the IRS changes how some
payments made to repair and
maintain commercial real
property and
other assets
are
classi-
fied. In many
i n s t a n c e s ,
those chang-
es may result
in
larger
a m o u n t s
written off
as expenses
in the year
they
are
paid instead
of amounts
added to the
cost of the asset and expensed
over multiple years as depreci-
ation. Here are a few examples:
n
Partial Asset Disposition.
Under previous rules, pay-
ments for substantial repairs
were added to the basis of
an asset without any adjust-
ment for the value of what was
replaced. Roof replacement is
an excellent example. The old
treatment was to add the cost
of the new roof to the asset and
depreciate. In so doing, taxpay-
ers were actually depreciating
the cost of the original roof and
the new roof at the same time.
The new rules provide a for-
mula for expensing the remain-
ing value of the old roof before
adding the cost of the new roof
to the asset.
n
Units of Property.
The total
depreciable basis of a build-
ing will now be apportioned
among some of the significant
systems and structures within
the building, such as HVAC,
plumbing and electric. The
rules refer to these new indi-
vidual building components as
“units of property.” Each unit
of property is now deemed to
be a separate and distinct asset
and not part of the building as
a whole. The decision to clas-
sify costs to repair or maintain
a unit of property as a current
expense or an addition to asset
basis will be determined in part
by the relationship of the repair
cost to the unit of property cost,
not to the whole building.
n
Routine Maintenance
Safe Harbor.
The rules clarify
treatment for routine mainte-
nance to allow for expensing of
payments for building repairs
that businesses reasonably
expect to make at least once
every 10 years during the life
of the building. For tangible
assets other than real property,
the rule provides the safe har-
bor for maintenance costs asso-
ciated with events the business
reasonably expects to occur at
least once during the life of the
asset. When combined with the
“units of property” concept dis-
cussed above, many businesses
will find that costs they were
previously required to expense
over time through depreciation
may now be eligible for deduc-
tion in the year incurred.
n
Safe Harbor for Small
Taxpayers.
Smaller businesses
can make an annual election
to expense in the current year
costs that they might otherwise
be required to add to a build-
ing’s basis and depreciate over
time if they meet three criteria:
• The building must have an
unadjusted cost of less than $1
million;
• The average gross receipts
of the busi-
ness in the
last
three
years cannot
exceed $10
million; and
• The total
cost of repairs
and improve-
ments for the
year cannot
exceed the
lower of 2
percent of the
b u i l d i n g ’ s
unad j us t ed
cost basis or $10,000.
n
De Minimis Safe Harbor.
A business that issues audited
financial statements can elect to
expense up to $5,000 per repair
or acquisition in the current
year, whereas the prior rules
might have required those pay-
ments to be added to the basis
of the asset and depreciated
over time. To qualify, the busi-
ness must maintain a written
capitalization policy and the
amount must be expensed pur-
suant to that policy.
Consequences of Not
Filing a Proper Accounting
Method Change
Some of the new account-
ing methods and elections are
optional, and businesses can
choose to make them as appro-
priate. But many of the new tax
accounting methods require
that a business choose one
of the options available and
implement it consistently, both
on new returns filed going for-
ward and on prior returns for
a period of time. If a busi-
ness fails to make one of the
required changes before filing
its 2014 tax return, numerous
problems can arise. Here are a
few examples:
n
Increased Audit Risk.
The
IRS is expecting to see account-
ing method change forms on
nearly every 2014 business
return. If a business that filed
tax returns with depreciation
expenses and repair deduc-
tions prior to 2014 fails to file
an accounting method change
under the new rules, that busi-
ness will raise a red flag to the
IRS that it is not complying
with current tax law.
n
Lost Deductions.
The ben-
efits discussed previously may
be lost permanently if the busi-
ness fails to make the necessary
tax accounting method chang-
es in a timely manner.
n
Recharacterization of
Prior Deductions.
A business
that does not make a timely
accounting method change
under the new rules runs the
risk that the IRS may reclas-
sify prior expenses as capital
expenditures subject to depre-
ciation. Not only will that
business miss out on potential
depreciation deductions from
prior years, but it also will
wind up with lost deductions
and an income adjustment
under audit that may result in
tax owed.
This article has presented a
very high-level overview of
just a few of the provisions in
the new rules. The details of
the regulations are much more
Matt Mueller,
CPA
Audit partner, Hein &
Associates LLP, Denver
Mira Fine, CPA
Partner, national
director of tax
services, Hein &
Associates LLP, Denver
For Company Profiles, Contact
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Directory
COMMERCIAL REAL ESTATE LENDERS DIRECTORY
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please contact Jon Stern at 303-623-114
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Academy Bank
Acre Capital LLC
Bank of Colorado
Bank of the West
Berkadia Commercial
Mortgage, LLC
Capital Source
CBRE|Capital Markets
Chase Commercial Term Lending
Colorado Business Bank
Colorado Lending Source
Commerce Bank
Commercial Federal Bank
Essex Financial Group
Fairview Commercial Lending
FirstBank Holding Company
Front Range Bank
Grandbridge Real Estate Capital LLC
Heartland Bank
JCR Capital
Johnson Capital
JVSC-CBRE Capital Markets
KeyBank N.A., Key Commercial
Mortgage Inc.
Merchants Mortgage and Trust Corp.
Montegra Capital Resources,
Private Lender
Mutual of Omaha Bank
NorthMarq Capital, Inc.
RNB Lending Group
TCF Bank
Terrix Financial Corporation
Trans Lending Corporation
U.S. Bank – Commercial Real Estate
U.S. Bank SBA Division
Vectra Bank Colorado, N.A.
Wells Fargo SBA Lending
Wells Fargo N.A. – Commercial
Real Estate Group
West Charter Capital Corp.
