cost segregation: challenges, misconceptions, and...

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Cost Segregation: Challenges, Misconceptions, and Strategies

After Tax ReformTUESDAY, JUNE 25, 2019, 1:00-2:50 pm Eastern

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June 25, 2019

Cost Segregation: Challenges, Misconceptions, and Strategies After Tax Reform

Greg Bryant, CCSP, Managing Partner

Bedford Cost Segregation

[email protected]

Debbie Rodkin, Partner

Bedford Cost Segregation

[email protected]

Notice

ANY TAX ADVICE IN THIS COMMUNICATION IS NOT INTENDED OR WRITTEN BY

THE SPEAKERS’ FIRMS TO BE USED, AND CANNOT BE USED, BY A CLIENT OR ANY

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RECOMMENDING TO ANOTHER PARTY ANY MATTERS ADDRESSED HEREIN.

You (and your employees, representatives, or agents) may disclose to any and all persons,

without limitation, the tax treatment or tax structure, or both, of any transaction

described in the associated materials we provide to you, including, but not limited to,

any tax opinions, memoranda, or other tax analyses contained in those materials.

The information contained herein is of a general nature and based on authorities that are

subject to change. Applicability of the information to specific situations should be

determined through consultation with your tax adviser.

Challenges, Misconceptions

and Strategies After Tax Reform

Presented by: Greg K. Bryant, CCSP & Debbie Rodkin

6 © Bedford Cost Segregation 2019. All rights reserved. Informational document, all rights reserved. Reproduction and distribution is strictly prohibited.

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About Bedford


The information has been prepared by

Bedford Cost Segregation, LLC (Bedford)

for educational and informational use

by the attendee of this presentation.

The information presented is based on Bedford’s

understanding of the subject matter; no guarantees,

assurances or other reliance should be placed on

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your tax advisor or CPA. As such, the recipient agrees

to hold Bedford harmless of any actual or consequential

damages incurred by direct or indirect utilization of

information or strategies contained herein.

Disclaimer


Todays Presenters

Greg K. Bryant

Managing Partner

Debbie Rodkin

Partner


Presentation Outline

• Overview of Tax Cuts and Jobs Act (TCJA)

• Challenges and Misconceptions

• QBI Expense Deductions vs. Accelerated Depreciation

• Cost Segregation – Beyond Accelerated Depreciation


Section I

Tax Cuts and Jobs ActTCJA


Tax Rates

• Effective January 1, 2018

• Corporate tax rate is a flat 21%

• Pass through entities and personal rates vary as follows:

TCJA Overview

Rate Unmarried individuals

with income over

Married individuals filing jointly with taxable

income over

Head of households with taxable income over

Estates and Trusts with

taxable income over

10% $0 $0 $0 $0

12% $9,525 $19,050 $13,600

22% $38,700 $77,400 $51,800

24% $82,500 $165,000 $82,500 $2,550

32% $157,500 $315,000 $157,500

35% $200,000 $400,000 $200,000 $9,150

37% $500,000 $600,000 $500,000 $12,500


Tax Rates Cont.

TCJA Overview

Old vs. New Tax Brackets For Single Filers

Old Brackets New Brackets

Taxable Income Tax Rate Taxable Income Tax Rate

$0-$9,525 10% $0-$9,525 10%

$9,256-$38,700 15% $9,256-$38,700 12%

$38,701-$93,700 25% $38,701-82,500 22%

$93,701-$195,450 28% $82,501-$157,500 24%

$195,451-$424,950 33% $157,501-$200,000 32%

$424,951-$426,700 35% $200,001-$500,000 35%

$426,701+ 39.6% $500,001+ 37%


Tax Rates Cont.

TCJA Overview

Old vs. New Tax Brackets For Married Filing Jointly

Old Brackets New Brackets

Taxable Income Tax Rate Taxable Income Tax Rate

$0-$19,050 10% $0-$19,050 10%

$19,051-$77,400 15% $19,051-$77,400 12%

$77,401-$156,150 25% $77,401-165,000 22%

$156,151-$237,950 28% $165,001-$315,000 24%

$237,951-$424,950 33% $315,001-$400,000 32%

$424,951-$480,050 35% $400,001-$600,000 35%

$480,051+ 39.6% $600,001+ 37%


Bonus Depreciation

• Effective September 28, 2017

• Qualified property will get 100% bonus depreciation

o MACRS property with <20-year life

o Land improvements – IRC §1250

o IRC §1245 property – most flooring, specialty electrical and plumbing,

decorative millwork, etc.

• Now applies to ACQUIRED property

o Cannot be related party purchase

o Cannot be previously used by the taxpayer (i.e. a tenant purchases the

building)

o “Effective date” is up for some debate – discussed later

TCJA Overview


TCJA Overview

Year Bonus

2017 (1/1-9/27) PATH Act 50%

2017 (9/28-12/31) 100%

2018-2022 100%

2023 80%

2024 60%

2025 40%

2026 20%

2027 0%


MACRS GDS vs ADS

TCJA Overview

MACRS GDS & ADS Comparison

Property Type GDS ADS

Non-Residential Real Property 39 40

Residential Rental Property 27.5 30

Land Improvements 15 20

Personal Property 5 9

Undefined Property 7 12


Interest Deduction Limitations

• Effective for tax years beginning after 12/31/2017, the amount of

deductible business interest, paid or accrued, is limited to:

o The business interest income for the year, plus

o 30% of the taxpayer’s adjusted taxable income for the year, plus

o The taxpayers floor plan financing interest for the year

• Applies to all taxpayers, except for small businesses with average gross

receipts of $25 million (Sec 448(c)) or less (Small Business Exemption).

• For taxable years prior to Jan 1, 2022, adjusted income is taxable plus

interest expense plus depreciation and amortization.

• For taxable years after Jan 1, 2022, depreciation and amortization will

not be an add-back.

TCJA Overview


Interest Deduction Limitations

• Disallowed interest carried forward indefinitely.

• In the case of partnership and S corporation, the deduction limitation

applies at entity level. Disallowed interest is allocated to each partner or

shareholder.

• Real property trades and businesses can elect to depreciate their assets

using the ADS life and not apply the limitation.

• Pass-through entities will make the calculation at the entity level.

TCJA Overview


ADS Rules for Large Taxpayers

• For large taxpayers, this election will:

o Trigger Alternative Depreciation System (ADS) rules.

o ADS is NOT eligible for Bonus Depreciation (however, this applies to

the “building” only so there is some wiggle room on §1245 and land

improvements).

o ADS election is irrevocable (without written consent from the IRS).

TCJA Overview


Electing Real

Estate Trade

or Business

TCJA Overview


• Added as new section 1400Z

• Incentive added to encourage investments in geographic

areas. With 3 benefits offered

o Taxpayers get to defer capital gain

o Some of deferred gain forgiven if they hold the investment for 5 to 7

years

o If held for 10 years—no additional gain is recognized from the

investment

Qualified Opportunity Zones


• Roughly 8,700 Opportunity Zones

• Opportunity for tax deferral without use of 1031 exchange

• Investment in Qualified Opportunity Zones must be done through

Qualified Opportunity Funds

o To be treated as conducting a QOF Business, substantially all of the tangible

property owned or leased by a corporate or partnership subsidiary of a QOF

must be QOZ Business Property.

Qualified Opportunity Zones


TCJA Overview

Qualified Real Property (QRP)

• TCJA introduced this new term which expands IRC §179 eligibility

o Includes Qualified Improvement Property (QIP) assets.

o TCJA has expanded the definition to included other items such as roofs, fire protection or alarm systems, security systems, and HVAC property.

o Note: IRC §179 expense treatment for exterior assets is limited to those defined above.

• QRP and IRC §179 Expensing

o The Act went to great elaborations to describe which activities qualified under IRC §179 for owners who use their buildings in a trade or business.

o Additionally, an increase to both the annual cap and phase out limitation was introduced:

• Annual cap raised from $500,000 to $1,000,000

• Limitation phase out increase to $2,500,000 from $2,000,000


Section 179 Expensing

• These follow the definitions of Qualified Improvement Property as

defined in the PATH Act plus further clarification to include exterior

improvements attached to a building.

• Limits were increased to $1,000,000 per year with phase out increased

to $2,500,000.

• Material Participation may become an issue under audit.

• NNN property investors may fall under scrutiny.

TCJA Overview


Written Binding Contract (WBC) Rules

• Evaluated during a transition in bonus rates. Application is often

referred to as the transition rules.

• A written binding contract is only binding if

o “it is enforceable under State law against the taxpayer or a predecessor, and

does not limit damages to a specified amount (for example, by use of a

liquidated damages provision).”

o Only contracts with liquidated damages of less than 5% can avoid

interpretation of being a binding contract.

• Conditions: a contract is still binding even when subject to conditions

as long as the condition is not within the control of either party or a

predecessor.

• Does not include options to buy or sell.

TCJA Overview


Written Binding Contract (WBC) Rules (cont.)

• The rules are interpretation of the law and not law itself as they are

contained in Regulation 1.168(k).

o Although not law, they are the second primary source of guidance in relation

to tax law application.

• Applies to:

o Self-Constructed Property

• 10% Safe Harbor available to qualifying taxpayers

• Property constructed on behalf of the taxpayer

• Purchased property

• Long production period property

• Appropriate consideration and planning should be taken for property

purchased or constructed on or around the transition date of

09/28/2017.

TCJA Overview


Drafting Errors in Legislation

1. Sections of § 163(j) were left out of the bill that was passed.

2. The legislation failed to include QIP as a 15-year asset, therefore

not eligible for bonus depreciation.

TCJA Overview


Technical Corrections

Proposed Regulations

Released October 19th 2018

• Proposed additions and technical corrections

• Technical correction of Qualified Improvement Property

• Extension of 179D Energy Efficient Commercial Building Deduction

• Clarification and guidance on the application and scope of the

Opportunity Zone Statute


Technical Corrections

The Retirement, Savings, and Other Tax Relief Act of

2018.

• Introduced in House on Nov. 26, 2018.

• Would extend (retroactively)179D deduction for 2018.

• Would address the Qualified Improvement technical correction,

making QIP bonus-eligible.

Proposed legislation offers a wide array of tax-extenders and relief

for victims of natural disasters.


Prior to TCJA

• Owners of certified historic structures were eligible for a tax credit of

20% of qualified rehabilitation expenditures.

• Owners of pre-1936 buildings were eligible for a tax credit of 10% of

qualified rehabilitation expenditures.

With TCJA

• 20% credit for certified historic structures remains but:

• The credit is taken over five years instead of in the year the building is

placed into service.

• The 10% credit for pre-1936 buildings is repealed.

Federal Rehab Credit


1031 Exchanges

• Now limited to Real Property (real estate) only

• Some confusion on mechanism to convey property

o What if traded property contains §1245 property?

o How are those assets treated?

o Is there a distinction between §1245 property such as FF&E and specialty

electrical, plumbing and other items normally found in a Cost Segregation

Study?

o Effective date of purchase – post 9/27/17 would enable purchaser to take

Bonus Depreciation on eligible assets related to excess basis of replacement

property.

TCJA Overview


Qualified Property

• Effective January 1, 2018 the following no longer exist:

o Qualified Leasehold Improvements (QLI)

o Qualified Restaurant Improvements

o Qualified Retail Improvements

• Qualified Improvement Property (QIP)

o First introduced by the Path Act of 2015

o Generally followed the definition of QLI above but did not have to be

pursuant to a lease. It was an interior, non-structural improvement

undertaken following the date the building was first placed in service by any

taxpayer.

o Under the Path Act, 39-year QIP was eligible for Bonus Depreciation. It no

longer exists in its former designation/application.

TCJA Overview


Qualified Property cont.

I am sure some of you are thinking…“Wait – I have been told that

Qualified Improvement Property still gets bonus!”

• The language in TCJA described what was probably being set up for

bonus depreciation for QIP.

• However, a vital element that was omitted:

o No 15-year recovery period was mentioned. As such Bonus Depreciation

cannot apply to all Qualified Property.

• We will cover “potential fixes” to this issue later in this presentation.

TCJA Overview


Research and Development Tax Credit §41

• What is the R&D Tax Credit?

o Credit for the continued investment in new or improved business components

(products, process, software, etc.)

• Who Qualifies?

o Anyone that is or has participated in the process of a new or improved

business component and the activities can pass the following tests:

• Is technological in nature

• Eliminates uncertainty

• Has permitted purpose

• Contains a process of experimentation

• Available Federally and from roughly 85% of States currently

TCJA Overview


Research and Development Tax Credit §41

• No direct changes to §41 in the TJCA except

o Conforming amendment to define Qualified Research Expenditure (QRE)

• Indirect changes

o §174 expenditures must be amortized over 5 years starting 01/01/2022

o Options prior to 01/01/2022

• Deduct the expenditures in the year they were paid or incurred

• Elect to treat the expenditures as deferred expenses, amortizable over a period of at least 60

months

• Elect to amortize the expenditures over 10 years beginning in the tax year in which they are

paid or incurred

o All Software development costs must be capitalized and amortized starting 01/01/2022

o 280(c) remains the same, but should be reviewed carefully by the taxpayer and tax advisors

TCJA Overview


TCJA Vs. Path Act of 2015

Path Act of 2015 Tax Cuts and Jobs Act of 2017 Changes

Bonus Depreciation 01/01/2015-12/31/2017: 50%

01/01/2018-12/31/2018: 40%

01/01/2019-12/31/2019: 30%

2020: Expired

9/28/2017-12/31/2022: 100%

01/01/2023-12/31/2023: 80%

01/01/2024-12/31/2024: 60%

01/01/2025-12/31/2025: 40%

01/01/2026-12/31/2026: 20%

Not only has bonus been extended, but the percentage has been increased for qualifying property.

Qualified Improvement Property

Introduced as 39-year property eligible for bonus deprecation under §168.

Replaces qualified properties QLI, QRI, and QRP. However remains 39-year and is not eligible for bonus depreciation without technical correction.

Currently QIP is 39-year real property and is only useful for 179 expensing treatment.

Qualified PropertyQLI, QRI, QRP

QLI: 15yr with applicable bonus %QRI: 15ry no bonusQRP: 15yr no bonus

QLI: Removed and replaced with QIPQRI: Same as aboveQRP: Same as above

15-year QLI, QRI, & QRP no longer exist as of 01/01/2018 and have been replaced by QIP

Qualified Real Property (§179)

Defined as QLI, QRI, & QRP with a 15yr recovery period, computer software, and section 1245 property.

Defined as QIP, improvements to roofs, HVAC property, fire & alarm systems, security systems, computer software, and section 1245 property.

Addition of roofs, HVAC property, fire and alarm systems, security systems.

Research and Development Tax

Credits

Permanently extended, payroll tax offset added, AMT offset allowance added.

No change other than conforming to §174 changes in TCJA.

No direct changes however other modifications will indirectly require additional tax planning.


Section II

Challenges and Misconceptions


Bonus Depreciation is tied to date of real estate closing.

• The Regulations are quite clear on this matter. Effective dates are tied

to the first agreement to purchase.

Developer executes a P&S for a $5,000,000 property in August 2017. It

has a liquidated damages provision in the amount of $350,000. Closing

occurs in October 2017.

Property is NOT eligible for any bonus depreciation.



A construction project completed in January 2018 is

eligible for 100% bonus depreciation.

• Transition rules would apply.

In the case of self-constructed property

there is a 10% Safe Harbor.

Closer evaluation of the fact pattern revealed that 65% of the construction

hard costs were incurred as of the September 27, 2017. As such, the

bonus depreciation rates are dictated by the PATH Act and would be 40%.



QIP is 15-year and therefore eligible for Bonus

Depreciation.

• While the TCJA contains significant descriptions of what could have

been tagged as 15-year, important language was left out. It’s 39-year

(for now) with the ability to perform a Cost Segregation Study on the

assets.

• Hopefully, there will be a technical correction soon.

Misconceptions


Written Binding Contract Rules

• The rules are interpretation of the law and not law itself as they are contained in Regulation 1.168(k).

o Although not law, they are the second primary source of guidance in relation to tax law application.

• Applies to:

o Self-Constructed Property

• 10% Safe Harbor available to qualifying taxpayers

• Property constructed on behalf of the taxpayer

• Purchased property

• Long production period property

• Appropriate consideration and planning should be taken for property purchased or constructed on or around the transition date of 09/28/2017.

Transition Rules


Section III

QBI vs. Accelerated Depreciation


The QBI deduction is available to individuals, estates,

and trusts that have QBI from pass-through entities for

taxable years 2018 through 2025.

• Under Section 199A, a qualified trade or business is any trade or

business other than (a) a specified service trade or business, or (b) a

trade or business involving the performance of services as an employee

but specifically excludes engineering and architecture businesses.

• While income from service businesses is initially excluded from 199A, it

may qualify for the QBI deduction provided taxable income falls below

certain thresholds. QBI doesn’t include wages or guaranteed payments

made to an owner of an S corporation or partnership. .

QBI Deductions


TCJA provides certain taxpayers a 20% deduction for

pass-through entities (this the only simple statement

regarding this deduction).

• The calculations for the deductions are complex and must take into

account various factors such as:

o QBI, net capital gains, qualified cooperative dividends, etc.

QBI Deductions


QBI-Deduction Limitations

• The new QBI deduction allows owners of qualified businesses a

deduction equal to 20% of their income from those qualified businesses

in tax years 2018 through 2025. This deduction is equal to the lesser of:

• 20% of the taxpayer’s QBI

• 20% of the taxpayer’s taxable income less net capital gains

• If taxable income before the QBI deduction is less than $157,500—

$315,000 for married couples filing jointly—the QBI deduction is allowed

with no limitation.

• For service businesses, the 20% deduction is phased out with taxable

income between $157,500 and $207,500—$315,000 and $415,000 for

married couples filing jointly—and fully disallowed at the top of the

phase-in range.

QBI Deductions


Generally speaking, most taxpayers who are involved in

real estate have phased-out of the QBI deduction due to

wages and income.

• It does make sense to evaluate each taxpayer’s scenario as facts and

circumstances will dictate applicability.

• Three important features of the pass-through deduction:

o Not allowed in computing adjusted gross income

o It is allowed to those who do not itemize

o It is allowed for the purposes of calculating Alternative Minimum Tax

• This deduction sunsets for tax years commencing 2026.

QBI Deductions


Example of how QBI deduction works:

Tom and Harriet are married, filing jointly.

• Taxable Income of $300,000 which includes $10,000 of net cap. gain

• The remainder is ordinary income from Tom’s S Corp.

Combined QBI is $290,000 x 20% = $58,000

The 199A Deduction will be $58,000

QBI Deductions


Section IV

Cost Segregation StudiesBeyond Accelerated

Depreciation


Cost Seg Baseline Data

Setting the stage… for Cost Segregation

• Commercial property is often depreciated using long life

o 39-years for commercial (nonresidential real) property

o 27.5-years for residential rental property

• IRS allows shorter lives (recovery periods) for certain assets

• Accelerated depreciation = tax deferral = increased cash flow

o All about the time value of money



Four types of property

1.Land – not depreciable (typically excluded from CSS)

2.Real property (§1250) – 27.5 or 39-year

3.Land improvements (§1250) – 15-year

4.Tangible personal property (§1245) – 3, 5, 7, or 10-year



What is a cost segregation study (CSS)?

• Engineering-based analysis

• Classifies costs into correct MACRS recovery periods

o Both hard and soft costs

• Maximizes and supports accelerated depreciation

• Excellent asset management tool for the TPRs

• Recognized by the IRS as an accepted procedure if done properly



When should a CSS performed?

• Immediately after construction or acquisition

• Following major capital improvements (including leasehold)

• After a change in ownership

o Inherited property

o Change in partnership interest

• Buildings already in service (Look-back Study)


MACRS 5 and 7-year property


MACRS 15-year property



Savings depends on…

• Date placed in-service

• Type of building & improvements

• Materials used

• Facts & circumstances



Property Type Typical % Accelerated

Apartments 15 – 35%

Auto Dealers 35 – 60%

Health Care Facilities 20 – 50%

Hotels 20 – 40%

Industrial Buildings 20 – 40%

Manufacturing Facilities 30 – 90%

Office Buildings 10 – 30%

Restaurants 20 – 60%

Shopping Centers 20 – 40%

Leasehold Improvements 20 – 60%


Cost Seg Data as a Baseline


Changing Landscape - TPRs

Compliance Considerations – Tangible Property

Regulations and Audit Technique Guide Implications

• All taxpayers must be using the TPRs for any tax year beginning on

or after January 1, 2014, otherwise you are using an improper

method.

• In many cases this will require the filing of IRS Form 3115 to adopt

the regulations for the non-elective sections.

• Agents are instructed to look for “capitalization to repair” studies

and include them in the audit.

• They are to verify that these studies comply with the appropriate

regulations and do not rely on outdated proposed or temporary

regulations, and they will verify that the § 481(a) adjustment is

calculated correctly.


UoP

• Establishing UoP is a two step process:

o Step 1 is to establish the UoP

o Step 2 is to determine whether any subsequent expenditures

constitute an improvement to that UoP

• Buildings are different than other property

o The building and it structural components are a UoP

o This is further broken down into the building and their building systems

for UoP purposes only

o Building structure; HVAC; Plumbing; Electrical; All Escalators; All

Elevators; Fire Protection and Alarms; Security Systems; Gas

Distribution Systems; and Other

• Currently the “Other” category is a placeholder for future

pronouncements.



UoP (cont.)

• For property other than buildings, functional interdependence is the

standard

o Components that are functionally interdependent are a single UoP

o Functional interdependence = The placed in service date of one

component is dependent on the other component




UoP (cont.)

• Cost Segregation Studies

o The IRS instructs its agents to look for these when used to establish

the UoP.

o They go on to say their concern is that the study is done properly.

o If done properly the agents are instructed to use them for UoP and

dispositions.

• IRS points out that the rules for UoP are different than those for

depreciation purposes.



Betterments

The interesting part in this ATG chapter is the insight as

to how the IRS intends to apply these rules.

• A UoP is improved if the expenditures are for a betterment to the

UoP, restoration of the UoP, or to adapt the UoP to a new or

different use.

• Within these are ten tests, three in the Betterment rules, six in the

Restoration rules, and one in the Adaptation to a different use rules.

• An expenditure must pass all ten tests before the IRS considers it

an expense and not a capital cost.



Betterments (cont.)

• Betterment tests:

1. Ameliorates a material condition or defect

2. A material addition

3. Materially improves the productivity, efficiency, strength, quality or

output

• If it is a betterment, it is not eligible for the Routine Maintenance

Safe Harbor



Restorations

Before a deduction is taken, all six tests in this section

must be negative.

1. The first is when you replace a component of a UoP for which

deducted the prior item for a loss.

2. The second is when you had deducted the prior UoP for a

casualty loss.

3. The third is when you had sold the prior UoP under the gain or

loss rules.



Restorations (cont.)

4. The fourth returns the UoP to its ordinarily efficient operating

condition, if the property has deteriorated to a state of disrepair

and is no longer functional for its intended use.

5. The fifth results in the rebuilding of the unit of property to a like-

new condition after the end of its class life.

6. The sixth is the replacement of a part or combination of parts that

comprise a major component or a substantial structural part of a

unit of property.



Restoration (cont.)

• Many examples in the Regs. are where a percentage of a

component or a significant portion of the UoP is replaced.

• These are meant to illustrate that the decision to capitalize is based

on all of the facts and circumstances.

• Per the ATG, examples are not meant to provide bright line

percentages or proportions of property that will result in a repair vs.

capital.

• They are guidelines only.



Capital vs. Repair - ATG

• Another “new” example in the ATG states that a building has three

wings with separate heating systems, i.e. three furnaces.

• Replacing a furnace in one wing must be capitalized as it “provides

the discrete, critical and non-incidental function” for heating that

wing “and is, therefore, a major component of the HVAC system.”



Adaptation to a New or Different Use

• “Generally, an amount is paid to adapt a UOP to a new or different

use if the adaptation is inconsistent with the taxpayer’s ordinary

use of the UOP at the time the UOP is originally placed in service

by the taxpayer.”

• The main point is whether the UoP is used the same way as it was

used when originally placed in service.



Adaptation to a New or Different Use

• If you have a warehouse and modify a portion of it as sales space,

the expenditures incurred to do this must be capitalized.

• If the sales space is already there and all that is being done is to

refresh it, then the normal rules of betterment and/or restoration will

apply.


Routine Maintenance – Buildings

• Routine maintenance is the recurring activity that keeps the property

in its “ordinarily efficient operating condition”

• Included is inspection, cleaning or testing of the building or building

systems

• Activity is considered routine only if it is expected to be repeated

within 10 years

Safe Harbors


Safe Harbors

Routine Maintenance

• However, this is not an election. You must file a Form 3115 to adopt

the Routine Maintenance Safe Harbor (DCN 184).

• This safe harbor does not apply to betterments, most restorations,

or the adaptation to a new or different use

• It does apply to replacing major components and the costs to

rebuild a UoP after the end of its life.


Misconceptions as to Restorations:

• Regs. § 1.263(a)-3(k) (Restorations) creates a new UoP.

• Restoration Regs. only deal with restoring an asset that is

nonfunctional. There are 5 other categories.

• That it is necessary to have numerical values for your UoP.

• You can write off all leasehold improvements.

• De Minimis can be applied retroactively.

• UoP can be determined from valuation numbers.

• Taxpayers can write off assets disposed in prior years.

TPR - Misconceptions


Let’s evaluate the use of data with respect to the

TPRs.

• The study will assign values to the entire building and land

improvements.

• A well prepared study can segregate costs into the proper UoPs.

• Information will assist owners and their tax professionals with capital

vs. expense decisions related to TPRs.

• The IRS comments in both the UoP and disposition sections of the

ATG for TPRs that a CSS can be used by the agents.

Cost Segregation in TPRs


The integration of the new regulations and current depreciation

treatment equates to a great opportunity!

How is this done?

• In most cases it starts with a Cost Segregation Study.

o CSS with UoP

o CSS with Asset Management



It’s not just about accelerated depreciation

anymore!!

• A properly prepared CSS will enable you to:

o Establish Unit of Property amounts and/or percentages

o Determine the basis of disposed assets without doing the PPI

calculation, which is limited to Restorations anyway.

o Serve as a supporting document for the application of the new Regs.

o Useful in going through the 10 tests in a BAR evaluation

o All of the above is supported in the ATG for TPRs



TPRs may enable taxpayers to:

• Expense “big–ticket” building elements

• Write off parts of buildings being retired

– Close attention to §280B rules should be given!

• Establish a baseline for these activities



Good Candidates

• Owners of commercial or residential rental property

• Taxpayers who acquire, renovate, or improve real estate

• Renovation projects of at least $200,000 or more

• Owners who regularly update their stores or facilities

• Clients who have already performed Cost Segregation Studies and

those who have yet to perform a Cost Segregation Study



Basic Information Needed

• Basic description of property

• Physical address of property and date placed in service

• Demolition plans (if available)

• Federal Tax Depreciation Schedule (not BOOK)

• Blueprints for original construction and improvements

• Purchase Orders and original invoices



Review Depreciation Schedules!

• Look for items that help identify the UoP

• Evaluate the magnitude and nature of the items

• Obtain supporting documentation such as invoices or proposals

• Undertake the 10 tests in the TPRs

• Are the activities RMSH?

• If they are capital, is there a write-down opportunity for the old asset?

Practical Applications


DeMinimis Expense

• $2,500 per item/invoice – small taxpayers

• $5,000 per item/invoice – AFS taxpayers

Routine Maintenance Safe Harbor (RMSH)

• Activity performed or expected to be performed at least once every

10 years for building.

Betterment, Adaptation, Restoration (BAR)

• Replacing 2 or 8 rooftop HVAC units, roof membrane replacement

RMSH and BAR evaluations can be included in a “look-back” study.

Missed DeMinimis expense treatments cannot.

Expense vs. Capital


Level of Detail – It Does Matter


Partial Asset Disposition (PAD)

• In the case of assets that are replaced with Betterments (i.e. new

capitalized assets), taxpayers can write down the remaining tax basis

of those assets.

• Particular useful for 39 or 27.5 year assets that are replaced more

frequently, such as HVAC components, plumbing fixtures, roofs, etc.

• The most defensible way to accomplish this is to have data tied to the

Cost Segregation Study.

• PAD can only be taken in the Tax Year for which the disposition

occurred – NO LOOK BACK!

Dispositions


Property owners should become knowledgeable

about the TPRs, special incentives and challenges so

they do not lose any opportunities.

• Determine or re-visit what your operational strategies will be

o How long will you keep the building? Your strategy may differ depending on

whether they are going to sell it this year or keep it for many years.

o What is the plan for doing maintenance, upgrades, renovations, etc. for

future years? There may be some potential tax deductions.

• You must plan now for the future.

• Tax planning is not done when you are filing the tax return!

Action Items


An integrated strategy may allow you to:

• Use a Cost Segregation Study as the baseline for UoP, establishing

a benchmark for Materiality decisions.

• Identify current year dispositions, deducting the net value of the

assets being retired using Regulations § 1.168(i)-8.

• Expense “big–ticket” building improvements based on TPR testing.

Please note--you cannot expense both the replaced assets and

expense the new assets.

Action Items


• Evaluate client procurement process and invoice coding to assist

CPAs at tax time. This may identify routine maintenance items and

allow you to deduct these items.

• Similar invoice coding may allow you to identify items to be

deducted under the De Minimis rules.

• De Minimis threshold up to $2,500 for non-AFS and $5,000 for AFS

taxpayers in effective 2017. Written policy on file for AFS taxpayers!

Action Items


Opt out strategy

• There is one way to opt out of most of these regulations.

• You must elect § 1.263(a)-3(n) and capitalize repair and

maintenance expenses.

• Book and tax must be treated the same, that is, both must be

capitalized.

• The election is made by attaching a statement to the timely filed

Federal tax return (including extensions).

Action Items


Things you may have to do on your 2019 tax return

(continued):

• If using the recommended disposition strategy as discussed today

for 2019, you will have to elect the partial disposition rules (for 2019

dispositions).

• Elect De Minimis rules as applicable.

• Elect the Safe Harbor for Small Taxpayers (if applicable).

• You must decide that of the incentives extended, which one to use

and compile proper documentation.

• Possible 3115 if doing Look-back studies.

Action Items


TPR Recordkeeping:

• Invoices must be kept to justify De Minimis expenses.

• Decisions as to whether item(s) are TPR deductions must be well

documented.

• The higher the dollar amount, the greater the detail needed—i.e. you

cannot point to a number and say it is an expense. You must prove it.

• Likewise, materiality decisions must be documented.

• If something is less than 30%, be sure to document the process by

which this decision was made.

Year End Planning


Questions & Answers


Thank you!Greg K. Bryant, CCSP Managing Partner

(603) 641-2600 x302 | [email protected]

Debbie Rodkin, Partner

(404) 643-9456 | [email protected]

Connect with Bedford!

www.bedfordteam.com | (800) 257-8962

BedfordCostSegBedford Cost Segregation, LLC

Facebook.com/BedfordCostSeg



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