There is an overlap between Sec. 179 expensing and the materials and supplies and de minimis safe-harbor rules in the repair regulations. However, neither the preamble to the repair regulations in T.D. 9636 nor the preamble to the disposition regulations in T.D. 9689 includes any substantive discussion of the overlap.
CPAs with middle-market clients struggled over the past couple of years with the repair regulations more than with any other tax issue in recent memory. Given the opportunity to expense property under Sec. 179, was the time and effort devoted to the repair regulations worth it?
That depends. If a taxpayer's capital expenditures fall within the Sec. 179 dollar limitations, the repair regulations add no incremental tax benefit. However, Sec. 179 is a perennial component of last-minute extenders legislation, and for tax years beginning after 2014, the limitation is set at only $25,000. The limitation may once again be increased to the $500,000 threshold sometime during or for the 2015 tax year, but with the push in Congress for comprehensive tax reform, that outcome may be less likely than in past years. In contrast, the repair regulations have been finalized as of Jan. 1, 2014, and now are a permanent part of the tax landscape. So, for now, the safe harbors and de minimis rules can be counted on to provide additional expensing options.
Sec. 179 and the repair regulations both apply to materials and supplies and property covered by the de minimis safe-harbor election.
First, the repair regulations permit expenses for materials and supplies for items costing up to $200 to be deducted (Regs. Sec. 1.162-3(a)(1)). This expensing of materials and supplies provides a tax deduction, which is in addition to any amounts expensed under Sec. 179. Thus, the dollar limitation of Sec. 179 is not allocable to this property and can be used against property for which a deduction under Regs. Sec. 1.162-3 is otherwise unavailable, potentially providing a larger overall deduction than either Sec. 179 or the repair regulations would allow separately.
Second, the de minimis safe harbor of $500 (for taxpayers without applicable financial statements) or $5,000 (for taxpayers with applicable financial statements) per item in the repair regulations also will preserve the Sec. 179 dollar limitation, but at the cost of a book net income charge (Regs. Sec. 1.263(a)-1(f)). The de minimis safe harbor requires book/tax conformity, while Sec. 179 does not.
Partnerships and S Corporations
Both Sec. 179 and the repair regulations are applied at the entity level. However, for passthrough entities, the Sec. 179 limitation is also applied at the owner level. Therefore, taxpayers with investments in multiple passthrough entities may find themselves in a position where the Sec. 179 expense being passed through from their investment is limited at the personal-return level. A similar limitation does not apply to amounts expensed under the repair regulations' de minimis rule or safe harbors.
Priority of Application
Materials and supplies are deductible without any affirmative action by a taxpayer under the $200 de minimis rule of the repair regulations. Like Sec. 179, the other safe harbor ($500/$5,000) is elective on a year-by-year basis. If book/tax conformity is undesirable because of financial covenants or other nontax reasons where reported book earnings are important to the company, an election to expense certain property under Sec. 179 may be preferable.
Election Procedures
The Sec. 179 election to expense certain business assets allows a deduction in the year the eligible property is placed in service, limited to $500,000 between 2010 and 2014 and $25,000 for 2015 unless extended retroactively (Secs. 179(a) and 179(b)(1)). The limitation is reduced when the cost of eligible property placed in service during a tax year exceeds $2 million between 2010 and 2014 and $200,000 for 2015 (Sec. 179(b)(2)).
A taxpayer's return must specify the items and cost of property to which the Sec. 179 election applies (Sec. 179(c)(1)). Although the election is usually irrevocable, for tax years after 2002 and before 2015, a taxpayer may revoke the Sec. 179 election for any property (Sec. 179(c)(2)). This statutory provision expands the time frame provided in Regs. Sec. 1.179-5(c).
Likewise, the de minimis safe harbor is an annual tax return election on a timely filed return, except that it is irrevocable (Regs. Sec. 1.263(a)-1(f)(5)).
Trust and Estates
The Sec. 179 election is not available for trusts, estates, and certain noncorporate lessors (Secs. 179(d)(4) and (5)). No such restriction applies in the repair regulations.
In the case of a trust or estate holding an interest in a partnership or S corporation, the basis of property is not reduced to reflect any portion of the Sec. 179 expense that is allocable to the trust or estate. Accordingly, the partnership or S corporation may claim a depreciation deduction for any depreciable basis resulting from a trust or estate's inability to claim its allocable portion of Sec. 179 expense (Regs. Sec. 1.179-1(f)(3)).
Taxable Income Limitation
Deductions allowable under the repair regulations are not limited, while Sec. 179 expensing is subject to a taxable income limitation and related carryover rule (Sec. 179(b)(3)).
Conclusion
When capital expenditures exceed the overall dollar limitations in Sec. 179, applying the repair regulations in conjunction with Sec. 179 may provide a larger overall deduction than either Sec. 179 or the repair regulations would allow separately.
EditorNotes
Anthony Bakale is with Cohen & Company Ltd. in Cleveland. For additional information about these items, contact Mr. Bakale at 216-774-1147 or tbakale@cohencpa.com. Unless otherwise noted, contributors are members of or associated with Cohen & Company Ltd.
