Tax executives are unsure what impact the IRS's recently released "Repair Regulations" might have on their businesses, but they expect the new rules to be more difficult to administer or comply with in practice, according to results of a survey conducted by KPMG LLP, the audit, tax, and advisory firm.
The US Department of the Treasury released temporary and proposed regulations on December 23, 2011, that outline significant changes to rules pertaining to the capitalization of costs incurred to acquire, maintain, or improve tangible property (Repair Regs).
According to the KPMG survey of 1,900 tax executives, 62 percent said they were unsure about whether to view the new rules as favorable or unfavorable, 23 percent said they were favorable, and 15 percent said unfavorable.
Forty-two percent of the executives said they expect the new rules to be more difficult to administer or comply with in practice, but 27 percent expected nothing to change, and 22 percent said they were unsure of the impact the new regulations would have on their processes. Only 10 percent said they would be less difficult to administer or apply, according to the KPMG survey.
"The Repair Regs affect most industries and corporate taxpayers – from store remodeling in the retail industry to the repair of engines in a trucking fleet to a new roof on a manufacturing facility," said Eric Lucas, a principal in KPMG's Washington National Tax practice and a former US Treasury Department official where he was a member of the Repair Regs team.
"The new regulations are quite extensive, so the uncertainty around their impact on tax operations is not surprising. Regardless, they are effective in the 2012 tax year, and taxpayers will need to get up to speed and prepare quickly," added Lucas.
Consider Conducting an Asset Repair Study
"Given the comprehensive nature of the Repair Regs, tax executives should consider conducting an asset repair study or closely review historical and current year asset records and capital improvement projects to help analyze the impact the new rules will have on their businesses," said Lucas. "It's also important to note that many parts of the regulations require a Section 481(a) adjustment, which will require taxpayers to adjust all of their opening accounts as if they had been on the new regulations – which can have a negative or positive impact on a company’s tax position."
According to the KPMG survey, 49 percent of the respondents said their company had never conducted an asset repair study, while 28 percent said their company had, and 23 percent said they were unsure.
New Rules for Building Property
A significant change in the latest version of the regulations is around the application of the improvement standards to building property. Forty-six percent of tax executives were unsure whether to view the new rules related to building property as favorable or unfavorable for taxpayers, while 35 percent viewed them as favourable, and 19 percent said unfavorable.
"Under the new rules, the improvement standards have to be applied to the major systems within a building – such as the heating and air conditioning system, the plumbing system, the electrical system, escalators and elevators – rather than applying them to the entire building, which is what the 2008 proposed rules did," KPMG’s Lucas said. "This may result in more capitalization of these costs by taxpayers compared with the 2008 rules."
"On the favorable side, taxpayers also can now take retirement losses on components of the building, such as an old roof that is replaced," said Lucas.
De Minimis Expensing Rule Changes
Another significant change in the new Repair Regs involves the de minimis expensing rule, which enables a taxpayer to deduct the acquisition cost of property for tax purposes up to a specified amount, as long as it was first tabulated as an expense for financial reporting purposes and the taxpayer had a written policy in place to account for the acquisition in this manner.
"The new Repair Regs allow all categories of materials and supplies to be deducted in the year of purchase rather than the year they are used or consumed if they qualify under the de minimis expensing rule," said Lucas. "This change could help improve near-term cash flow."
According to the KPMG survey, 43 percent of the respondents said the de minimis rule provides for sufficient flexibility for taxpayers to account for smaller items of property, such as materials and supplies under the new Repair Regs, but 25 percent said the overall cap or ceiling is not sufficient to account for smaller items. Thirty-two percent said they were unsure.