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Procedures Issued for Deducting Qualified Improvement Property Depreciation for Prior Years
(Parker Tax Publishing April 2020)
As a result of changes made by the Coronavirus Aid, Relief, and Economic Security Act which allow qualified improvement property to be classified as 15-year property and eligible for bonus depreciation deduction, the IRS issued a revenue procedure which provides guidelines on how to take advantage of these changes. Specifically, the revenue procedure permits certain taxpayers to file an amended return, administrative adjustment request under Code Sec. 6227, or a Form 3115, Application for Change in Accounting Method, to change the depreciation of qualified improvement property placed in service after December 31, 2017, for their 2018, 2019, or 2020 tax year. Rev. Proc. 2020-25.
Background
The Tax Cuts and Jobs Act of 2017 (TCJA) amended Code Sec. 168(b)(3) to provide that qualified improvement property, as described in Code Sec. 168(e)(6), is depreciated by using the straight-line method of depreciation for purposes of the general depreciation system under Code Sec. 168(a) (GDS). TCJA also added Code Sec. 168(e)(6), which provides the definition of qualified improvement property. Code Sec. 168(k)(2)(A)(i)(IV) and Code Sec. 168(k)(3), which prior to TCJA had provided that qualified improvement property was a separate class of property eligible for the additional first year depreciation deduction (i.e., bonus depreciation), were repealed by TCJA. Because the amendments made by TCJA also did not specify a class of property under Code Sec. 168(e) for qualified improvement property placed in service after December 31, 2017, such property was classified as nonresidential real property under Code Sec. 168(e)(2)(B) and, consequently, not eligible for the bonus depreciation deduction under Code Sec. 168(k).
On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) was signed into law. The CARES Act amended Code Sec. 168(e)(3)(E), Code Sec. 168(e)(6), and Code Sec. 168(g)(3)(B). In addition, the CARES Act added Code Sec. 168(e)(3)(E)(vii). Basically, the legislation fixed the mistakes in the TCJA relating to qualified improvement property so that such property now has a 15-year depreciation life and meets the bonus depreciation criteria specified in Code Sec. 168(k)(2)(A). The definition of qualified improvement property in Code Sec. 168(e)(6) was also amended to provide that the improvement must be "made by the taxpayer." In addition, the CARES Act amended the table in Code Sec. 168(g)(3)(B) to provide a recovery period of 20 years for qualified improvement property for purposes of the alternative depreciation system (ADS) under Code Sec. 168(g). These amendments to Code Sec. 168(e) and Code Sec. 168(g) are effective as if included in the TCJA.
As a result of the amendments made to qualified improvement property by the CARES Act, the depreciation of qualified improvement property placed in service by the taxpayer after December 31, 2017, has changed. Such property is depreciated under the GDS using the straight-line method of depreciation, a 15-year recovery period, and the half-year or mid-quarter convention, as applicable, pursuant to Code Sec. 168(b)(3), Code Sec. 168(c), and Code Sec. 168(d), and is depreciated under the ADS using the straight-line method of depreciation, a 20-year recovery period, and the half-year or mid-quarter convention, as applicable, pursuant to Code Sec. 168(g)(2) and Code Sec. 168(g)(3)(B). Further, assuming all requirements of Code Sec. 168(k) and Reg. Sec. 1.168(k)-2 are met, qualified improvement property acquired by the taxpayer after September 27, 2017, and placed in service by the taxpayer after December 31, 2017, is eligible for the additional first year depreciation deduction under Code Sec. 168(k), as amended by the TCJA.
Similarly, assuming all requirements of Code Sec. 168(k), prior to amendment by the TCJA, and Reg. Sec. 1.168(k)-1 are met, qualified improvement property, as defined prior to amendment by the TCJA, acquired by the taxpayer before September 28, 2017, and placed in service by the taxpayer after December 31, 2017, is eligible for the bonus depreciation deduction under Code Sec. 168(k) as in effect before amendment by the TCJA.
IRS Issues Procedures for Changing Depreciation Deductions of Qualified Improvement Property for Prior Years
The IRS determined that the depreciation-related changes to qualified improvement property made by the CARES Act required immediate guidance for taxpayers wanting to take advantage of these favorable changes. Accordingly, the IRS issued Rev. Proc. 2020-25, which outlines the procedures for certain taxpayers to file an amended return, an administrative adjustment request under Code Sec. 6227 (AAR), or a Form 3115, Application for Change in Accounting Method, to change their depreciation of qualified improvement property placed in service after December 31, 2017.
In Rev. Proc. 2020-25, the IRS:
(1) provides the procedures for changing the depreciation of qualified improvement property;
(2) permits taxpayers to make a late election under Code Sec. 168(g)(7), Code Sec. 168(k)(5), Code Sec. 168(k)(7), or Code Sec. 168(k)(10); and
(3) for a limited period of time, permits taxpayers to revoke an election under Code Sec. 168(k)(5), Code Sec. 168(k)(7), or Code Sec. 168(k)(10), or to withdraw an election under Code Sec. 168(g)(7), for property placed in service by the taxpayer during its 2018, 2019, or 2020 tax year.
Because of the administrative burden of filing amended returns and AARs, the IRS is allowing taxpayers to treat a late election under Code Sec. 168(g)(7), Code Sec. 168(k)(5), Code Sec. 168(k)(7), or Code Sec. 168(k)(10), or the revocation elections under Code Sec. 168(k)(5), Code Sec. 168(k)(7), or Code Sec. 168(k)(10), for property placed in service by taxpayers during their 2018, 2019, or 2020 tax years, as a change in method of accounting with a favorable Code Sec. 481(a) adjustment for a limited period of time.
Automatic Extension of Time to File Certain Elections Under Code Section 168
With respect to changes made to the depreciable life of qualified improvement property in the CARES Act, Rev. Proc. 2020-25 provides that the following taxpayers are granted an automatic extension of time to file elections to take deductions for such accelerated depreciation:
(1) a taxpayer that (i) placed in service depreciable property during its 2018, 2019, or 2020 taxable year, (ii) timely filed its federal income tax return or Form 1065 for the placed-in-service year of such depreciable property and such return was filed on or before April 17, 2020, (iii) wants to make a Code Sec. 168(g)(7) election, Code Sec. 168(k)(5) election, or Code Sec. 168(k)(7) election for such depreciable property, and (iv) did not previously revoke or withdraw such election(s) in accordance with Rev. Proc. 2020-25; or
(2) a taxpayer that (i) timely filed its federal income tax return or Form 1065 for the taxpayer's taxable year that includes September 28, 2017, (ii) wants to make a Code Sec. 168(k)(10) election for such tax year, and (iii) did not previously revoke a Code Sec. 168(k)(10) election for such tax year in accordance with Rev. Proc. 2020-25, Section 5.02.
With respect to taxpayers described in (1), above, the taxpayer makes the Code Sec. 168(g)(7) election, Code Sec. 168(k)(5) election, or Code Sec. 168(k)(7) election in accordance with Section 2.02(1), (2), or (3), respectively, of Rev. Proc. 2020-25 or under Section 4.02 of Rev. Proc. 2020-25.
With respect to (2), above, the taxpayer makes the Code Sec. 168(k)(10) election in accordance with either Rev. Proc. 2020-25, Section 2.02(4) or Rev. Proc. 2020-25, Section 4.02.
Change in Method of Accounting
Rev. Proc. 2020-25 provides that making a late election, or revoking an election, under the provisions in Rev. Proc. 2020-25, is treated as a change in method of accounting for a limited period of time to which Code Sec. 446(e) and Code Sec. 481, and the corresponding regulations, apply. A taxpayer that wants to make a late election, or revoke an election, under Sections 4.02(2) and 5.02(2)(b) of Rev. Proc. 2020-25 must use the automatic change procedures in Rev. Proc. 2015-13 or its successor.
For a discussion of the rules relating to the depreciation of qualified improvement property, see Parker Tax ¶94,250 and ¶94,310. For a discussion of the automatic accounting method change procedures in Rev. Proc. 2015-13, see Parker Tax ¶241,590.
Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.
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