The Final Tangible Property Regulations address a broad range of capitalization and deduction issues related to tangible property that will most likely impact all industries, including construction. Specifically, the new rules may provide tax planning opportunities to the construction industry.
RubinBrown’s Construction Services Group summarized how the new tangible property regulations will affect companies in the construction industry.
Please also refer to the article titled, Focus on Taxation: Final Tangible Property Regulations Issued.
De Minimis Expensing
- A new safe harbor determined at the invoice or item level and based on financial accounting policies.
- Taxpayer with an AFS (Applicable Financial Statement) may expense property of $5,000 or less per invoice, or per item as substantiated by the invoice; if the cost exceeds $5,000 per invoice (or item), the amounts paid for the property will not fall within the de minimis safe harbor.
- Taxpayers without an AFS may expense property of $500 or less per invoice, or per item as substantiated by the invoice.
- In general, an AFS is an audited financial statement. It does not include a review or compilation.
- Must have written accounting policy/procedures in place. This policy should be reviewed with your external accountants to determine if the policy is appropriate for your business.
- A taxpayer electing to apply the de minimis safe harbor isn’t required to include in the cost of the tangible property the additional costs of acquiring or producing such property if these costs aren’t included in the same invoice as the tangible property.
- A taxpayer must include in the cost of the property all additional costs (e.g., delivery fees, installation services) of acquiring or producing the property if these costs are included on the same invoice with the tangible property.
- Requires the de minimis safe harbor be applied to all eligible materials and supplies (spare parts exception) if the taxpayer elects the de minimis safe harbor.
Materials and Supplies
- The final regulations define materials and supplies as tangible property that is used or consumed in the taxpayer’s operations, is not inventory, and:
- Is a component acquired to maintain, repair, or improve a unit of tangible property owned, leased, or serviced by the taxpayer and is not acquired as part of any single unit of tangible property;
- Consists of fuel, lubricants, water, and similar items, reasonably expected to be consumed in 12 months or less, beginning when used in the taxpayer’s operations;
- Is a unit of property as determined under Reg. sec. 1.263(a)-3(e) that has an economic useful life of 12 months or less, beginning when the property is used or consumed in the taxpayer’s operations;
- Is a unit of property as determined under Reg. sec. 1.263(a)-3(e) that has an acquisition or production cost of $200 or less; or Is identified in published guidance in the Federal register or in the Internal Revenue Bulletin as materials and supplies for which treatment is permitted under Reg. sec. 1.162-3.
- Non-incidental materials and supplies are treated differently than incidental materials and supplies. Non-incidental materials and supplies are deductible when first used or consumed, while incidental materials and supplies are deductible when purchased, if no record of consumption or physical inventory are maintained, provided taxable income is clearly reflected.
Rotable, Temporary, and Emergency Spare Parts
- The final repair regulations define rotable spare parts as materials and supplies that are acquired for installation on a unit of property, removable from that unit of property, generally repaired or improved, and either reinstalled on the same or other property or stored for later installation.
- Temporary spare parts are defined as materials and supplies that are used temporarily until a new or repaired part can be installed and then are removed and stored for later installation.
- A taxpayer has three methods for treating costs related to rotable and temporary spare parts as provided under the final repair regulations.
- In general, a taxpayer may deduct the cost of rotable and temporary spare parts in the tax year in which the taxpayer disposes of these parts.
- A taxpayer may elect to capitalize and depreciate the cost of these parts over the relevant recovery period, provided that the rotable or temporary spare part meets certain restrictions.
- The optional method for rotable and temporary spare parts provided in Reg. sec. 1.162-3(e) permits a taxpayer to:
- Deduct the amount paid to acquire or produce the part when the part is initially installed,
- Include in gross income the fair market value (FMV) of the part when removed from the unit of property, and include the FMV of the part and cost to remove the part from the unit of property in the basis of the part,
- Add to the basis of the part any amount paid to maintain, repair, or improve the part,
- Deduct the cost to reinstall the part and basis not previously deducted in the tax year in which the part is reinstalled, and
- Deduct any remaining basis in the part in the tax year in which the part is disposed of.
- “Standby emergency spare parts” were added as a new materials and supplies category in the final repair regulations.
- Standby emergency spare parts are defined as materials and supplies that are acquired when particular machinery or equipment is acquired, set aside for use as replacements to avoid substantial operational time loss, located at or near the site of the installed related machinery, directly related to the machinery or piece of equipment they service, normally expensive, only available on special order and not readily available from a vendor or manufacturer, not subject to normal periodic replacement, not interchangeable in other machines or equipment, not acquired in quantity, and not repaired and reused.
- Standby emergency spare parts are treated consistently with the treatment of rotable and temporary spare parts.
- However standby emergency spare parts are not eligible for the third, optional method described above for rotable and temporary spare parts.
Construction Companies: Your Next Steps
Prior to January 1, 2014, establish or revise a written policy to expense certain “de minimis” expenditures. This policy must be in place at the beginning of the tax year when the change in accounting method is to be adopted (tax years beginning 1/1/14 or later). The final regulations allow for taxpayers with an Applicable Financial Statement to apply the $5,000 de minimis safe harbor limit on an invoice or item level following the policy used for its financial records. Taxpayers without an Applicable Financial Statement may apply the de minimis safe harbor rule with a limit of $500 per invoice or item.
Develop a method or process to capitalize/inventory “non-incidental materials and supplies.” Such items are to be expensed when used or consumed rather than when purchased.
Under U.S. Treasury Department guidelines, we hereby inform you that any tax advice contained in this communication is not intended or written to be used, and cannot be used by you for the purpose of avoiding penalties that may be imposed on you by the Internal Revenue Service, or for the purpose of promoting, marketing or recommending to another party any transaction or matter addressed within this tax advice. Further, RubinBrown LLP imposes no limitation on any recipient of this tax advice on the disclosure of the tax treatment or tax strategies or tax structuring described herein.
All Construction News Construction Overview