On July 16, 2012, the AICPA submitted a comment letter to the IRS recommending various changes and simplifications to the voluminous and complex regulations regarding the treatment of expenditures incurred in selling, acquiring, producing, or improving tangible assets (T.D. 9564 and REG-168745-03) and the revenue procedures governing the accounting method changes required under the regulations that were issued this year (Rev. Procs. 2012-19 and 2012-20). For previous coverage, see "Regulations Issued on Repair Expenditures," Dec. 27, 2011; "Much-Anticipated Guidance Issued on Accounting Method Changes for Repair Regs.," Mar. 8, 2012.
The comment letter, amounting to a detailed report on the regulations, was prepared by the Repair Regulations Task Force of the AICPA's Tax Methods and Periods Technical Resource Panel, and it expands on recommendations made by the AICPA in an April comment letter and in May testimony at a public hearing. Michelle Koroghlanian, AICPA technical manager—tax, said, "These regulations affect all taxpayers who acquire, produce, or improve tangible property and complying with the rules will put a heavy burden on many taxpayers. We hope the IRS will seriously consider our recommendations for improving the way the regulations operate to reduce the burden, especially for smaller taxpayers."
Administrative burden and complexity
A major critique of the regulations is that they rely too much on facts-and-circumstances tests, which cause the kind of uncertain situations that resulted in conflicts between the IRS and taxpayers that the regulations were intended to prevent. The letter recommended that the IRS should increase the number of bright-line tests and safe harbors, which will lessen the burden of complying with these regulations, especially for small taxpayers.
Another specific solution to reduce the undue administrative burden created by the regulations is the recommendation to make the general asset account election the default rule for buildings so taxpayers would only have to make an election if they did not want that treatment. The AICPA also recommended that the regulations not require taxpayers to determine the economic useful life of any property but instead incorporate a class-life standard throughout the regulations.
The AICPA recommended that the final regulations include examples that illustrate the interactions of the various sections of the regulations. The AICPA also recommended that the examples use similar property to illustrate concepts. The current examples involve an industrial linen-cleaning operation and a local restaurant. More helpful illustrations would involve an industrial linen-cleaning operation compared to a local dry cleaner and an industrial food manufacturer compared to a local restaurant.
Materials and supplies
For the treatment of materials and supplies, the AICPA made the following recommendations to improve the regulations and ease the burden on taxpayers:
- Allow labor and overhead costs to be included in costs of materials and supplies under the de minimis rule.
- Treat all materials and supplies with a useful life of not more than 12 months the same, rather than the currently different treatment for incidental and nonincidental items.
- For rotable/temporary spare parts, the current regulations provide three methods; however the default method is not the one most taxpayers use. It was recommended that the method should be changed to the method that is the default method for GAAP. It also should provide a safe harbor allowing the property to be valued the same as in the taxpayer's financial statements.
- When identifying nonincidental materials and supplies used, many taxpayers have hundreds or more of these items on hand and should be able to use a reasonable cost-flow assumption to identify these items.
- The regulations allow taxpayers to elect to capitalize the costs of materials and supplies; however the IRS should clarify how that rule works in the year in which the taxpayer consumes the item.
Acquisition costs under Temp. Regs. Sec. 1.263(a)-2T
Transaction costs. The comment letter recommends that the current rules should be revised to more closely resemble the rules under Regs. Sec. 1.263(a)-5 so that only specific activities performed that are "inherently facilitative" need to be capitalized. The current rules and the example illustrating them require the capitalization of broker's fees even when they are incurred to identify a property to purchase, which, the AICPA argues, is not "inherently facilitative" of the process of ultimately acquiring a specific piece of property.
De minimis rule. The requirement that taxpayers capitalize amounts above an arbitrary ceiling amount that is determined at the end of a tax year in which the expenditures are made is an unmanageable administrative burden for many taxpayers, the letter says. The AICPA recommended instead that taxpayers be permitted to use the same capitalization threshold that they use for financial reporting purposes.
The AICPA also recommended that the ceiling be eliminated completely. Failing that, it suggested that a more flexible standard be applied such as a limitation on the amount of the taxpayer's cost threshold. It also argued that smaller taxpayers without applicable financial statements (AFSs) should be permitted to use the de minimis rule, or alternatively, an AFS should be defined more broadly to include a financial statement that has been reviewed by an independent CPA.
Improvements under Temp. Regs. Sec. 1.263(a)-3T
The AICPA made the following recommendations for clarifying and improving the regulations governing improvements to property.
- Clarify the "directly benefits or incurred by reason of" standard for determining whether "refresh" activities are required to be capitalized. The AICPA recommended a revised example to illustrate this standard.
- Expand the routine-maintenance safe harbor to include building systems such as an HVAC system.
- Clarify the definition of "betterment" by providing clearer definitions of "materiality" and "practicably available." In addition, the IRS should revise its examples to more clearly illustrate whether certain store refreshes must be capitalized.
- Create a safe harbor that taxpayers may use to determine whether there has been a replacement of a major component.
- As part of the major component rules, eliminate the need to identify subcomponents of components. This also requires a restatement of numerous examples, which the comment letter provides.
- Allow taxpayers to elect to capitalize repair expenditures as improvements.
Dispositions/general asset accounts
The letter recommended that the IRS allow taxpayers to elect to treat retirements of structural components of buildings as a disposition of MACRS property rather than making that treatment mandatory. In addition, it recommended the IRS allow taxpayers to determine what the component of a structural component of property is when it is disposing of the property and should clarify how taxpayers should determine the basis of a component of property.
Method change guidance
The suggestions for improvement to the revenue procedures for accounting method changes include that:
- A change in an AFS capitalization policy should not be treated as a change in method of accounting.
- The IRS should loosen the requirement that taxpayers have a written capitalization policy on the first day of their tax year.
- The IRS should clarify that statistical sampling methods other than those permitted in Rev. Proc. 2011-42 may be permitted.
- The IRS should clarify how many Forms 3115 must be filed in various situations involving late general asset account elections and disposition method changes.
Additional resources: Tax Treatment of Expenditures Related to Tangible Property (AICPA Tax Division resource page)