Repair Regs Mean Quick Cash For Some, a Hassle For Others

This past corporate tax filing season marked the first time businesses saw effects of new tangible asset regulations on their returns.

The regulations, effective January 2014, are meant to provide comprehensive guidance for taxpayers on how to treat expenses related to their tangible property, and reactions to the new rules are mixed.

Melania Powell, tax manager at HoganTaylor LLP in Fayetteville, said a lot of her clients are seeing larger deductibles under the new guidelines.

“It’s good for taxpayers,” she said. “It was a lot of work on the back end, but clients are happy, because they are getting bigger deductions.”

Also called repair regulations, the main function of the rules is to help define when a company should write off an improvement as a repair and go for a larger tax deduction, and when an improvement should be capitalized and depreciated over the life of the property.

The determination is made based on the nature of the improvement.

If it is an upgrade that contributes to the overall value of the property, it should be capitalized, whereas, if the property is simply restored to its original state, it is counted as an expense.

Rental property owners, in particular, were heavily impacted by the changes. Because a few of the regulations are retroactive, one client was able to write off $2 million in repairs for its 2014 taxes, Powell said.

However, the need to review tax returns several years back also added to the arduous workload associated with the new regulations, which have been widely criticized for being overly complex.

“It is a major undertaking from a tax department’s perspective,” said Michelle Jenkins, senior manager of tax services at Ernst & Young LLP in Dallas.

She works with the region’s three Fortune 500 companies:  Wal-Mart Stores Inc., J.B. Hunt Transport Services Inc. and Tyson Foods Inc.

“A lot of people say this has been really disruptive. There are very few tax departments who have said, ‘This has been a really good exercise,’” Jenkins said.

The final rules, however, provided some safe harbors and other elements that made the transition a bit easier.

For example, the Internal Revenue Service announced earlier this year a simplified procedure with fewer forms and requirements for smaller businesses, companies with assets or average annual gross receipts totaling less than $10 million.

Larger companies, on the other hand, are still on the hook.

The tax department is having to familiarize itself with what people who are handling the books are doing, making more work for both departments.

“People are having to ask questions they’ve never had to ask,” Jenkins said, adding that the guidelines are an improvement to the uncertain, piecemeal rules in place before, comprised of temporary regulations and various court case results.

“It’s better than it was, in the fact that it is final. There’s not nearly as much, kind of, guess work,” Jenkins said.

Temporary regulations have been the norm for at least 10 years prior to the new rules, and that lack of finality prevented companies from putting procedure systems into place.

Even with the new regulations, it’s going to take some time for larger companies to overhaul their procedures, as the issue is still complicated, especially for companies whose main assets are their equipment.    

“Replacing a knob — that’s a repair,” Jenkins said, “but if we are going in and there’s some sort of gear machine that’s the CPU [central processing unit] of this equipment, and every time we repair that, it really does lengthen the life of the equipment, that item needs to be capitalized.”

Either way, the company is getting money back for its investments, but it’s a matter of timing.

If an asset is capitalized and depreciated over time, “that deduction’s going to come. It’s just, we’re not getting it all today,” she said.

So, businesses’ attitude toward the new regulations might depend on their financial situation.

“If the company has a posture of really wanting a lot of cash today, these provisions give them that, and some will say, ‘OK, I’m getting a nice little cash bump. I’m reducing my taxable income, such that I have a lower tax liability,’” she said. “It may excite some departments. Others are finding it’s a lot of work.”