The Internal Revenue Service issued new rules Tuesday to clarify the difference between a business expense that is a repair and tax-deductible and one that is an improvement but not deductible right away.
Most of the new rules, which touch on everything from the repair of plane engine to a retailer's new roof, take effect Jan. 1. An ordinary business repair of an asset is generally tax deductible. An improvement is usually classified as a capital expenditure and not immediately deductible.
The 255 pages of new regulations, published in the federal register on Tuesday, are temporary, meaning the IRS can edit the rules if sufficiently persuaded by the business community. Earlier this year the IRS issued asset rules specifically for the telecommunications and electricity industries.
For years, businesses have relied on case law to determine the difference between a business expense and a capital expenditure. Courts have kept their rulings case-specific in the debate on repairs versus capital improvements.
For a long period of time, this has been an area of disagreement between taxpayers and the IRS, said Michelle Koroghlanian, technical manager for the American Institute of Certified Public Accountants.
With limited guidelines in this accounting area, companies often wrote their own procedures and then battled with the IRS when the agency raised objections.
In 2005, FedEx Corp successfully challenged the IRS over its accounting procedures for aircraft engines when they are removed from a plane for repairs. The U.S. Court of Appeals for the Sixth Circuit affirmed that FedEx could deduct the engine repair costs and the package-delivery company was awarded a $66.5 million tax refund.
CLAMOR FOR CHANGES
The IRS first proposed asset accounting rules in August 2006, but businesses clamored for changes, and in March 2008 the IRS reissued proposed regulations. Those rules are now withdrawn.
The new rules may mean big changes when accounting for improvements to nonresidential building property, said Eric Lucas, a principal at KPMG LLP and a former Treasury Department tax counsel who helped draft the 2008 asset rules.
The 2008 proposed rules, which never went into effect, were more favorable to taxpayers for building property as businesses had more flexibility to report an improvement, such as a new roof, as a current-repair deduction, Lucas said.
The new rule for property improvements is one of the more significant changes from current accounting policy and could be troublesome for businesses that took an aggressive view in deducting repairs, he said.
The building-improvement accounting rules will specifically affect the retail sector, which has been very interested, in particular with store remodel costs, Lucas said.
The IRS is also expected soon to release procedures to businesses so that they can ease into the new accounting requirements from their current practices.
An IRS spokesperson on Tuesday declined to provide a time frame for when the transition guidance might be released.
(Reporting by Patrick Temple-West; Editing by Howard Goller and Steve Orlofsky)