I can’t believe it. I really can’t.
After years of fiddling-faddling with the regulations for tangible property accounting—including lengthy discussions with taxpayers and tax practitioners—the IRS today issued Revenue Procedure 2015-20 (click here to download a copy.)
If You Give a Mouse a Cookie
In a nutshell? Halfway through tax season, due to lots of complaining from tax return preparers, the IRS has changed the rules about the need to file a 3115 form as part of complying with the new tangible property expenditure accounting.
Up until yesterday? You needed to file the form in order to tell the IRS that, yes, you would comply with their new rules… that yes, you would politely ask for permission to make this change they’d decided you needed to make.
The good news was you automatically got their consent to make the change you were supposed to make because they’d changed the rules.
Rev Proc 2015-20 Changes Things
Here are the new rules in a nutshell:
1. If you’re a small business taxpayer (which means your average annual revenues equal $10 million dollars or less or your total assets at the start of the year equal $10 million dollars or less), you don’t have to comply with the requirement to prepare and file the 3115 form as part of changing your accounting to comply with the new rules.
2. If you want to, you can just expense any small items that have less than a one-year useful life or which cost $500 or less. (The old rule set this threshold to $200 or required a formal accounting policy to use the higher $500 limit.)
3. The rules are subject to further last-minute change. For example, the revenue procedure notes that the IRS wants more feedback from people about maybe changing again the de minimis safe harbor rule. (The IRS has asked in Revenue Procedure 2015-20 for people to provide their comments about the de minimis safe harbor by April 21, 2015.)
Sec. 481 Adjustment Still Required—Apparently
One important note about this flip-flopping: As makes sense, taxpayers still are required to address any required Sec. 481 adjustments. But this gets tricky.
A Sec. 481 adjustment means you’ve calculated any catch-up or fine-tuning adjustment that’s needed to make sure income and deductions aren’t omitted or double-counted as a result of changing your accounting and beginning to use the new tangible property regulations.
But here’s the odd thing about the Sec. 481 adjustment the taxpayer makes if the 3115 form isn’t filed: You only look at stuff that occurs after January 1, 2014. You ignore stuff that occurs before that date.
By the way? Because you’re ignoring stuff that could and should play into a Sec. 481 adjustment if it happens before the 2014 tax year, you don’t get any audit protection with a “look Ma, no 3115 forms!” approach.
Further, you can’t do a late partial disposition (which would let a taxpayer immediately expense stuff in 2014 that per the TPRs they should have expensed at some point in the past.)
You Can Still Use TPR Rules
By the way, you can still do a 3115 form according to the tangible property regulations (TPR) rules in force yesterday. The IRS, ever helpful and adroit in its administration of tax laws, notes that some taxpayers may actually find the process of completing the 3115 form helpful with the taxpayers own internal accounting and calculations.
I also think–and this wasn’t my first reaction–that given the audit protection angle and the different Sec. 481 adjustment–some taxpayers may still want to prepare and file 3115s.
The other thing to note about not filing 3115s–and this relates to the cut-off approach used to handle the Sec. 481 adjustment–you can’t per the revenue procedure do a late partial disposition adjustment if you skip the 3115s. (This is big deal and something I’ll post about on February 16 or February 17.)
Apparently You Can Still Use the Pre-TPR Rules Too?
If you read the revenue procedure, you almost come away with another conclusion, too.
Apparently the TPRs weren’t ever quite as definitive as some of us thought.
For example, consider the subject of the de minimis safe harbor that seemed–at least a day ago–like a definitive rule. Here’s a quote from page 8 of the new revenue procedure:
The safe harbor merely establishes a minimum threshold below which all qualifying amounts are considered deductible. Consistent with longstanding law, a taxpayer may continue to deduct all otherwise deductible repair or maintenance costs, regardless of amount. In addition, the existence of the de minimis safe harbor does not mean that a taxpayer cannot establish a de minimis deduction threshold in excess of the safe harbor amount, provided the taxpayer can demonstrate that a higher threshold clearly reflects the taxpayer’s income. In conjunction with section 179, which also allows small business taxpayers to immediately expense certain otherwise capital expenditures, the de minimis safe harbor provides significant tax simplification to small businesses.
I am not sure how you process this if you’re a taxpayer or tax practitioner. It almost sounds like there never really was a hard and fast de minimis limit.
At least we all have time to process and figure out what this means. Oh, wait, we don’t? Never mind.
If You’ve Already Filed 3115s
Here are a handful of suggestions if you’re a taxpayer or tax practitioner dealing with this mess:
1. If you’ve already filed 3115s, don’t worry about it. You were complying with the law. Further you get better Sec. 481 adjustments and better audit protection from your 3115s. (By the way, per Revenue Procedure 2015-20, you can amend a 2014 tax return and remove the 3115 forms you previously filed.)
2. If you’ve already prepared 3115s, I think you file them. Again, there’s the better Sec. 481 adjustments and better audit protection benefits. And for those returns already in process of getting filed–say the 8879s are out for signature–I don’t think you add more work by now stripping out the forms.
3. If you would benefit from a full-fledged Sec. 481 adjustment–say for a late partial disposition–you should do a 3115. I would say this even if you think you could use the slap-dash Sec. 481 adjustment cut-off method and ignore pre-2014 amounts. Why not do the Sec. 481 adjustment correctly?
4. If you have a taxpayer with a return that requires other 3115s you have to file anyway, you need to use a full set of 3115s for all the accounting method changes. By the way, this didn’t dawn on me in the first hours of processing the new revenue procedure. But it’s clear to me now that if you need to do a 3115 for something like a late partial disposition or some other accounting method change that triggers a real Sec. 481 adjustment, you need to do all the other 3115s the original regulations require too.
Two Closing Comments
Personally? I don’t want to vent at this blog. Oh, sure, it’s okay if you want to post a comment that vents a bit. Nothing vulgar please. Respect other people’s viewpoints. But I try to make this all about the “how-to.”
However, that said, let me share two personal-opinion-type comments:
First, the Internal Revenue Service displayed a series of really poor judgments in drafting and implementing these new regulations. And the tax practitioner community just got beat up in the process.
Second, one of the justifications for the new TPRs was to get away from these fuzzy rules people have used for tangible property. We now have even more fuzziness. And not just about the way the accounting is supposed to work. We now know that tax laws may change mid-season.
Unbelievable.
P.S. I’ve got some additional comments about this mess here: Revenue Procedure 2015-20 a Face Punch for Tax Accountants.
thanks for venting for us …
I am a little confused as it relates to partial asset dispositions. If the taxpayer purchased an item in 2013 and capitalized it but under the new regulations would be treated as an expense, can we expense the remaining cost basis in 2014 and not file a Form 3115 using the change number 196?
Sorry I didn’t catch this comment earlier.
So you do need to do 3115 and you do use DCN 196… and because you’re doing one 3115 you need to do all the other 3115s to. In other words, you ignore Rev. Proc. 2015-20’s “get out of jail free” card…
Does a statement (or election) need to be attached if not filing a Form 3115? If not, then how does a small business comply with the new simplified method?
I think the elections you’re referring to just need to statements included in the return. BTW general rule: elections aren’t accounting method changes so it may be that you never needed 3115s for those…
Steve great work on this 3115 bulls__t! I handle a bunch or Self-Storage facilities and have already prepared the 3115 based on your E-download. Thanks for that it was a great help. Now, going forward, it still seems to me with larger clients, still under the $10M, that the 3115 is still the best way to go. Your thoughts…..
Again, thanks for your insight, very helpful! Being a sole proprietor, always nice to have somebody like you on my side, even after 40 years in practice.
I think your approach is fine. Seems very reasonable to me.
Thank you for the compliments.
What about the little quirk in the 2015-20 reg that says if you don’t file the 3115s, you don’t receive audit protection for prior years?
Good point. I edited the original post to include this. Thank you.
The audit protection won’t apply to those items of change. “Items” would be capital assets. But who cares? If the rules are applied prospectively, you shouldn’t need audit protection for those items. I wonder if you filed a (previously) typical 3115, if that would give audit protection to all your asset items, so if they audited you later they couldn’t look at those assets to make an adjustment for, say, incorrect depreciation?
At the end of the day, if I want to do what is in the BEST INTEREST of my clients, shouldn’t I try to implement the new regs & prepare Form 3115 as was originally (before Rev Proc 2015-20) required? Or am I a glutton for punishment? I’ve been struggling for 2 weeks (as a sole practitioner) on how to do this and get thru 400+ tax returns, which seems almost impossible most days. Thanks.
Let me be clear: We have to use the new regs. The new rev proc doesn’t give us a pass on that.
The question is, do you (and do I) do 3115s.
My first response to this was, geez, I guess not. Now after thinking about it for nearly 24 hours, I think one doesn’t want to thoughtlessly abandon that approach. By doing 3115s, you get some benefits including audit protection. You also get to have the discussion about the issue with your clients. Maybe you even do a late partial disposition accounting method change.
This is maybe too catty, but one thought whirling around the back of my mind this: Maybe the best way to view Rev. Proc. 2015-20 is to say it gives the tax practitioners and taxpayers who didn’t want to do 3115s permission to not include a 8275R with their returns.
Or what about people that don’t file a 3115 and continue their old practices, say, capitalize a repair. Technically, their established accounting for that item is impermissible and would need correcting under a layer 3115 later. Then, could the IRS argue the taxpayer never complied with the regs and assert they never changed their method of accounting, and may now face further trouble (potential user fees, lost deductions, etc)?
Yeah, I think that’s right. BTW the more I think about this the more it seems like Rev. Proc. 2015-20 just “blesses” what a lot of people were going to do anyway… simply ignore the 3115 requirement.
But one still needs to change accounting and comply with new rules.
And, importantly, by blowing off the 3115 requirement, taxpayer bears more audit risk–which was really the reason to try and comply with this law in first place. (Other than late partial disposition changes, most taxpayers probably didn’t have Sec. 481 adjustments to wonder about.)
I purchased your book and it was very informative. Regarding 2015-20, it seems to address small business only. Were rentals deliberately left out or do we assume it applies to rental properties as well?
Rev. Proc. should apply to real estate investments, too, as long as their total assets $10M or less.
Steve-The e-book was very helpful, thanks for sharing. We do a lot of returns for commercial real estate investors. All are less than the $10M threshold. What, if anything, should we be filing for these entities?
I think you probably want to do 3115s for real estate investors due to the possibility you might have late partial dispositions to deal with.
I have been very confused. I have always kept an inventory account for materials and supplies used in the business such as Dental supplies, Parts supplies for an auto repair shop etc.. i have always capitalized office equipment costing more than $200 and have never (to the best of my knowledge capitalized a repair that didn’t extend the life of the asset or increase its value etc… I have also always utilized section 179. I am struggling with what accounting changes I am supposed to make. Can you help me understand?
I think your situation is common and the one I sort of assumed in the ebook I did… I.e., a taxpayer has used proper accounting methods in the past.
So what you need to do (what we all need to do) is simply incorporate the new TPRs into present accounting methods.
Normally with an accounting method change taxpayer needs to file a 3115 form.
However, with TPR changes, most taxpayers have the option of skipping filing 3115s though as I note in a blog post today this choice is not quite as neat and clean as it first seems.
Steve
I have one client that doesn’t fall below the 10 mil threshold. When I complete the 3115 for them, do I check the box for Depreciation and complete Schedule E? When I read the instructions, I get my tail in a knot.
Not necessarily. You should rely on your tax software’s diagnostics. Which boxes you check depend on all sorts of factors including obviously the nature of the change you’re making and also in some cases the size of the business.
BTW, I think the 3115-related diagnostics in Lacerte seem to be getting better and richer with every new build of the software. I would guess given the volume of 3115 activity this year that all the tax software companies are stepping up their game in this area.
I’m a sole practitioner with a bunch of small business owners. Thank you so much for breaking this down. I was going through the 3115’s today and was almost in tears. So basically now we can analyze R&M items pursuant to the new rules and can attach a statement under 2015-20? thoughts?
My current blog post shares the best thoughts I’ve been able to come up with on this subject.
Sorry about the tears.
Thank you for all your efforts Steve!
I didn’t see a definition of total assets- would that be net of accumulated depreciation?
I would this so. I.e., I would work off of the amount shown on Schedule L.
I would also think–and this is just my opinion–that anyone who’s getting under the $10 million threshold due to accumulated depreciation needs to have their CPA (that would be you, Steve Z!) look at the issue of late partial dispositions.
BTW I have a post about late partial dispositions which we’ll make available tomorrow after we have a chance to create a sample 3115 form to go with the post. (I promised this to ebook readers earlier.)
Steve
You wrote in new rules in a nutshell:
“2. If you want to, you can just expense any small items that have less than a one-year useful life or which cost $500 or less.”
I wasn’t able to extract that from 2015-20. I saw where IRS is asking for comments on $500 amount, but, and I admit I am not the best at deciphering IRS-eze; can you point me to where “rules in a nutshell 2.” is expressed in new rev. proc. And does this mean no election need be filed for $500 de mininis safe harbor. Thank you. Tawny
Hi Tony, I just meant by saying that bit about the $500 that the whole $200 limit seems to have vanished.
The difference between the $200 and $500 limit always seemed a little impractical to me… you just needed to have a policy in effect at beginning of year.
Finally, I think you probably do want to make the de minimis safe harbor statement in the return… but I thought the Rev Proc language that pussy-footed around this immateriality threshold pretty darn wishy-washy. I think one could point to the revenue procedure if audited and say to agent, “well the rev proc explicitly acknowledged that one could use a higher capitalization limit as long as a higher limit doesn’t distort taxable income.”
Steve, thanks so much for your great work on this. I bought the ebook and it was really helpful to our practice.
One question re: your iten #2 above:
2. If you want to, you can just expense any small items that have less than a one-year useful life or which cost $500 or less. (The old rule set this threshold to $200 or required a formal accounting policy to use the higher $500 limit.)
I didn’t read any change in the new rev proc re: de minimis election. Only that they are req
I think/hope my response to Tony addresses this…
I think I’ve answered this. I.e., the $200 limit seems to have “vanished”… and the $500 limit seems now very wishy-washy. I.e., you could use a higher capitalization limit safely if doing so doesn’t distort.
BTW I’m getting this all from the quoted language. So if other practitioners draw different conclusion, that thinking should be shared with a comment. 🙂
requesting comment on the $500 threshold. What am I missing?
Thanks again.
I’m am still confused about the “audit protection”. If we file a 3115, what are we being protected from?
I think it probably boils down to this: If you fix your accounting to comply with the new regs and make a Sec. 481 adjustment, the IRS won’t go back and make you fix (and pay for) errors in earlier years.
One might also reasonably suppose that if you have done a full-meal-deal accounting method change and recognized any Sec. 481 adjustment that IRS is less like to even start poking around.
Hi Steve,
I bought the book and am very glad I did. Can you answer a question? My client is a medical practice. I have always kept an inventory for supplies. Rarely do they cost more than $500 per item (if that). I would like to apply the de minimis rule and write off the inventory I am carrying. I assume I make the election and file a form 3115 for an accounting change with a 481 adj for the amount of the inventory on hand carried forward from the prior year. Is this correct?
If I understand your question, I don’t think you need a 3115 for that change because given that you’re only rolling forward, you don’t actually have to put a backwards looking Sec. 481 adjustment into the tax return. I.e,. you don’t need to do a Sec. 481 adjustment to catch stuff that slipped between the cracks prior to 2014… nothing slipped through the cracks.. Rather you’re simply going to expense stuff all in 2014. I think this is what IRS means when they say the “cut-off” method of doing a Sec. 481 adjustment.
I think you would use the de minimis safe harbor election (but that’s an election with a statement and not change in accounting methods requiring a 3115).
BTW, as I read Rev. Proc. 2015-20, if you ended up doing other 3115s with backwards looking Sec. 481 adjustments, then I think you need to do a 3115 for this even though there’s not Sec. 481 adjustment. Or at least that the way I’d roll.
Got you!! Thanks so much.
HI Steve,
Sorry to bother you again but I am confused. I have been carrying inventory for an automotive repair shop and well and pump service. Both businesses are under $10 million and report on the cash basis. Would you consider the supplies they buy to perform their services i.e., parts for the cars or wells and pumps, to fall under the definition of inventory or materials and supplies. What is confusing is that i read nonincidental M & S can be less than $200
Hi Donna,
Sorry I missed this earlier in the week. Here’s what I think. You’ve either got incidental or nonincidental materials and supplies, right? And these sound like nonincidental supplies to me. So the little blurbs out of the regs provide the appropriate accounting:
Bottomline? I think you should deduct in year stuff is used or consumed.