United States

The final tangible property regulations – Part IV

Proposed regulations governing dispositions and general asset accounts

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Read Part IPart II and Part III of this series.

In September 2013, the Treasury Department and the IRS (hereinafter called the government), released the much-anticipated final (and proposed) tangible property regulations. The majority of the regulations were issued in final form.[1] However, as expected, regulations surrounding dispositions of tangible property were issued in proposed form, but also as reliance guidance.[2] The government recently released the two revenue procedures providing transitional guidance under the final and proposed regulations (Rev. Proc. 2014-16 and Rev. Proc. 2014-17). Rev. Proc. 2014-16 supersedes Rev. Proc. 2012-19 and provides automatic method change procedures to adopt methods under both the final and temporary regulations governing the treatment of materials and supplies and costs to acquire, maintain and improve tangible property.[3] Rev. Proc. 2014-17 supersedes Rev. Proc. 2012-20 and provides automatic method change procedures to adopt methods under both the proposed and temporary regulations covering dispositions and general asset account treatment.[4]

This fourth article in a four-part series providing insight on the final and proposed regulations focuses on the proposed regulations governing the treatment of dispositions of Modified Accelerated Cost Recovery System (MACRS) property and general asset accounts (hereinafter, the proposed regulations) and discusses the modifications made to the temporary regulations.

The proposed regulations were issued as proposed rather than final due to the significant modifications made from the temporary regulations. Although in proposed form, taxpayers have the ability to rely on the proposed regulations for tax years beginning on or after Jan. 1, 2012, and before Jan. 1, 2014.[5] The proposed regulations include modified and clarified rules for determining assets for disposition purposes, a modified definition of a qualifying disposition of assets included in a general asset account (GAA), and a new election to recognize partial dispositions of assets not included in a GAA. Overall, the proposed regulations aim to simplify the treatment of dispositions while increasing taxpayers’ flexibility in determining whether to recognize dispositions without the need for GAA elections. These modifications and clarifications are discussed in depth below.

Overview

The final and proposed regulations provide the framework for determining the deductibility versus capitalization of costs incurred for materials and supplies, repairs and maintenance, and other tangible assets. Specifically, the regulations provide rules in the following five general areas:

  1. Materials and supplies
  2. Capital expenditures in general (including the de minimis safe harbor)
  3. Costs to acquire or produce tangible property
  4. Costs to improve tangible property
  5. Dispositions of MACRS property (including components thereof) and GAAs (in proposed form)

Throughout each of these areas, the final and proposed regulations retain many of the provisions of the temporary regulations, while also favorably clarifying, modifying and simplifying some of the provisions (e.g., a simplified de minimis safe harbor election). The final regulations also provide small business relief (e.g., a safe harbor election for improvements to eligible building property) and re-propose new rules (i.e., for dispositions).

As with the temporary regulations, the proposed regulations under Reg. sections 1.168(i)-1 and 1.168(i)-8 provide guidance for taxpayers desiring to make a GAA election for one or more items of MACRS assets, as well as guidance regarding the treatment of dispositions of all MACRS assets (whether or not included in a GAA). While several aspects of the temporary regulations carried over to the proposed regulations, the proposed regulations significantly change the rules for determining an asset for disposition purposes as well as the definition of a qualifying disposition of an asset included in a GAA. Additionally, new rules were added regarding partial dispositions of assets. Below is a discussion of the proposed rules under Reg. sections 1.168(i)-1 and 1.168(i)-8.

General asset accounts (elections and dispositions)

1. Establishing one or more general asset accounts

In line with the temporary regulations, the proposed regulations under Reg. section 1.168(i)-1 provide guidance for taxpayers that wish to include one or more assets in a GAA by allowing taxpayers to elect GAA treatment for one or more items of MACRS property (i.e., property subject to section 168 under either the general or alternative depreciation systems). The proposed regulations provide that a GAA may consist of only one asset but that if the GAA is to include multiple assets, each asset within the GAA must: (1) have the same applicable depreciation method; (2) have the same applicable recovery period; (3) have the same applicable convention; and (4) be placed in service by the taxpayer in the same taxable year.[6]  Further, assets included in GAAs are included only to the extent of the asset’s unadjusted depreciable basis. If one or more assets are placed in a GAA, the proposed regulations provide that the taxpayer must calculate depreciation allowances for each GAA as though each GAA is one asset by aggregating the unadjusted depreciable basis of each asset included in the GAA and calculating the depreciation allowance on the total unadjusted depreciable basis of the GAA.[7] 

The election to apply GAA treatment is generally irrevocable and is made separately by each person owning the asset(s) to which the election applies (i.e., by each member of a consolidated group or at the partnership or S corporation level).[8] GAA treatment for one or more assets is elected by the taxpayer on Form 4562, Depreciation and Amortization, and must be made on a timely filed (including extensions) federal income tax return for the year in which the applicable assets are placed in service.[9] 

2. Dispositions from general asset accounts

As with the temporary regulations, the proposed regulations provide that a disposition of an asset from a GAA includes the sale, exchange, retirement, physical abandonment or destruction of an asset or the transfer of an asset to a supplies, scrap or similar account. A disposition also includes partial dispositions in certain specified transactions[10] or where the taxpayer is disposing of all or the last asset and elects to terminate the GAA or makes the qualifying disposition election for the disposed portion (both discussed below).[11] Dispositions of assets included in GAAs will generally not be recognized for federal income tax purposes. Thus, upon the disposition of an asset (or a portion of an asset) included in a GAA, the taxpayer will recognize no loss and there will be no effect on the unadjusted depreciable basis and depreciation reserve of the GAA.[12] Any gain realized will be recognized as ordinary income to the extent the unadjusted depreciable basis plus any expensed cost exceeds any amounts previously recognized as ordinary income upon the disposition of other assets in the account.[13]

The proposed regulations further provide that the facts and circumstances of each disposition are considered in determining the asset disposed of and that the unit of property (UOP) definitions under Reg. section 1.263(a)-3(e)[14] are not determinative. However, the proposed regulations do provide some special rules to assist in this determination. For instance, as with the temporary regulations, the proposed regulations provide that a single asset may not include items placed in service by the taxpayer on different dates (thus, improvements or additions to an asset that are placed in service after the asset is placed in service are treated as separate assets). Additionally, the proposed regulations provide that if a taxpayer properly includes an item in one of the asset classes 00.11 through 00.4 of Rev. Proc. 87-56 (or properly classifies an item in one of the categories under section 168(e)(3)),[15] each item will generally be treated as the asset.

Perhaps most notably as compared to the temporary regulations, the proposed regulations provide that each building (including its structural components) is treated as the asset.[16] This is a significant change from the temporary regulations, which treat each building (excluding its structural components) as the asset and each structural component of a building as a separate asset.[17]

Finally, the proposed regulations eliminate a provision in the temporary regulations that allowed taxpayers to use any reasonable, consistent method to treat each of an asset’s components as the asset as long as that asset was not described in asset classes 00.11 through 00.4 of Rev. Proc. 87-56 or in one of the categories under section 168(e)(3).[18] This allowance by the temporary regulations provided taxpayers with the ability to treat components of assets as the asset for disposition purposes (effectively allowing partial dispositions). While the proposed regulations no longer allow for this method of determining assets, the ability to elect to recognize a qualifying disposition of a portion of an asset neutralizes any negative effects the elimination of this provision would otherwise have created.

Notwithstanding the general rule that dispositions of assets included in GAAs are not recognized, under both the temporary and proposed regulations, taxpayers may elect to recognize either a qualifying disposition or the disposition of all the assets or the last asset in a GAA.

a. Qualifying disposition election

The temporary regulations allowed taxpayers to elect to recognize any qualifying disposition of assets included in a GAA and defined a qualifying disposition to include a disposition that does not involve all of the assets, or the last asset, remaining in a GAA and that is not as a result of: (1) a transaction subject to section 168(i)(7), 1031 or 1033 (certain tax-free, like-kind exchange, and involuntary conversion transactions); (2) the technical termination of a partnership; or (3) a transaction subject to an anti-abuse rule.[19] The definition of a qualifying disposition under the temporary regulations was thus very broad and included dispositions such as retirements or abandonments. While this gave taxpayers a great deal of flexibility in choosing whether or not to recognize a disposition from a GAA, it also increased the administrative burden of tracing depreciable assets included in GAAs.

Consequently, the proposed regulations allow for an election to recognize a qualifying disposition but modify and narrow the scope by providing that a qualifying disposition includes only a disposition that does not involve all of the assets, or the last asset, remaining in a GAA, and that is:

  • A direct result of a fire, storm, shipwreck or other casualty, or from theft;
  • A charitable contribution deductible under section 170;
  • A direct result of a cessation, termination, or disposition of a business, manufacturing or other income-producing process, operation, facility, plant or other unit (other than by transfer to a supplies, scrap or similar account); or
  • A transaction to which a non-recognition section of the Code applies (other than certain defined transactions[20]).[21]

Pursuant to the proposed regulations, if the qualifying disposition election is made for the disposition of an asset or a portion of an asset, GAA treatment of the asset (or portion of the asset) is terminated as of the first day of the tax year in which the disposition occurs, and the taxpayer must determine any gain, loss or other deduction under the rules applicable to non-GAA assets (i.e., under Prop. Reg. section 1.168(i)-8, as discussed below).[22] Additionally, the taxpayer is deemed to remove the asset (or portion of the asset) from the GAA as of the first day of the tax year in which the qualifying disposition occurs, the unadjusted depreciable basis of the GAA is reduced by the unadjusted depreciable basis of the asset as of the first day of such taxable year, and the depreciation reserve of the GAA is reduced by the depreciation allowed (or allowable) for the asset as of the end of the tax year immediately preceding the year of disposition.[23]

The election to recognize a qualifying disposition is made on the taxpayer’s timely filed tax return (including extensions) for the year in which the disposition occurs and is made by reporting the gain, loss or other deduction in accordance with the applicable rules for recognizing the disposition (i.e., no statement is required).[24]

b. Election to recognize the disposition of all or the last asset in a general asset account

In line with the temporary regulations, the proposed regulations also allow taxpayers to recognize the disposition of all the assets or the last asset in a GAA. If such an election is made, the taxpayer terminates the GAA in the year of disposition and determines gain or loss under section 1001 by taking into account the adjusted depreciable basis of the GAA at the time of the disposition.[25]

As with the qualifying disposition election, the election to recognize the disposition of all the assets or the last asset in a GAA is made on the taxpayer’s timely filed tax return (including extensions) for the year in which the disposition occurs and is made by reporting the gain, loss or other deduction in accordance with the applicable rules for recognizing the disposition (i.e., no statement is required).[26]

3. Identification and basis of assets disposed of from general asset accounts

As with the temporary regulations, the proposed regulations generally provide that a taxpayer must identify a disposed asset using a specific identification method of accounting. However, the proposed regulations also provide rules for identifying the disposed (or partially disposed) asset where the taxpayer cannot determine the particular tax year in which the disposed (or partially disposed) asset was placed in service. In this case, the taxpayer may identify the disposed (partial) asset using a first-in, first-out (FIFO) method, a modified FIFO method, a mortality dispersion table if the asset is a mass asset, or any other method designated by the government in published guidance. The proposed regulations provide that in no case, though, will a last-in, first-out (LIFO) method be acceptable for this purpose.[27]

Also in line with the temporary regulations, the proposed regulations provide that if it is not practical for the taxpayer to determine the unadjusted basis of the disposed asset, any reasonable method may be used that is consistently applied to the taxpayer’s GAAs. The proposed regulations, however, make an addition to this provision by providing the following nonexclusive examples of reasonable methods:

  • Discounting the cost of the replacement asset to its placed-in-service year cost using the Consumer Price Index;
  • A pro rata allocation of the unadjusted depreciable basis of the GAA based on the replacement cost of the disposed asset and the replacement cost of all of the assets in the GAA; or
  • A study allocating the cost of the asset to its individual components.[28]

Summary of changes to the temporary regulations governing general asset accounts

Issue

Temporary regulations

Proposed regulations

Electing GAA treatment for one or more assets

  • Assets may be grouped into a single GAA if the assets:
  • Have the same depreciation method;
  • Have the same recovery period;
  • Have the same convention; and
  • Are placed in service in the same tax year
  • A GAA may include only one asset
  • Same

General rule for dispositions

  • Generally, no recognition of disposition unless qualifying disposition election is made or taxpayer elects to recognize the disposition of all the assets or the last asset in a GAA
  • Same

Defining the asset

  • Facts and circumstances; however, asset generally may not be larger than the UOP as determined under Reg. section 1.263(a)-3(e)
  • Special rules
  • Each condominium or cooperative unit in a building (not including its structural components) is the asset
  • Each structural component of a building or condominium/cooperative unit (including all components thereof) is the asset
  • If a taxpayer properly includes an item in one of the asset classes 00.11 through 00.4 of Rev. Proc. 87-56 (or under one of the categories under section 168(e)(3)), each item is the asset (limited by rule that the asset may not be larger than the UOP)
  • Improvements or additions to assets are treated as separate assets (limited by rule that asset may not be larger than the UOP)
  • If the asset is not described in one of the asset classes 00.11 through 00.4 of Rev. Proc. 87-56, taxpayer may use any reasonable, consistent method to treat each of the asset’s components as the asset
  • Similar to temporary regulations, with a few significant modifications:
    • For purposes of determining the asset for disposition purposes, the UOP determination under Reg. section 1.263(a)-3(e) does not apply
    • Each building (including its structural components) is the asset
    • No ability for taxpayers to define components of an asset as the asset

Qualifying disposition election

  • Taxpayer may elect to recognize a disposition of an asset from a GAA if the disposition is a qualifying disposition
  • Qualifying disposition is a disposition that does not involve all the assets or the last asset remaining in a GAA (could include retirements or abandonments)
  • Qualifying dispositions do not include:
  • Dispositions in transactions under section 168(i)(7);
  • Dispositions in transactions under section 1031 or 1033;
  • Dispositions in technical terminations of partnerships; or
  • Dispositions falling under an anti-abuse rule
  • Election not treated as a method of accounting; however, taxpayers have option to make a late qualifying disposition election through Form 3115 for their first or second tax years beginning after Dec. 31, 2011 (see Rev. Proc. 2012-20)
  • Election still available with significant modifications in scope
  • Taxpayer now has the option of electing to recognize a qualifying disposition of a portion of an asset
  • Definition of qualifying disposition significantly narrowed to include only a disposition that does not involve all the assets or the last asset remaining in a GAA and that is:
    • A direct result of a fire, storm, shipwreck, or other casualty, or from theft;
    • A charitable contribution for which a deduction is allowable under section 170;
    • A direct result of a cessation, termination or disposition of a business, manufacturing or other income-producing process, operation, facility, plant or other unit (other than by transfer to a supplies, scrap or similar account); or
    • A transaction to which a non-recognition section of the Code applies (other than certain specified transactions)
  • Election made on the taxpayer’s timely filed tax return (including extensions) for the year in which the disposition occurs by reporting the gain, loss or other deduction in accordance with the applicable rules for recognizing the disposition (no statement required)
  • Election not treated as a method of accounting; however, taxpayers have the option to make a late qualifying disposition election through Form 3115 for any tax year beginning on or after Jan. 1, 2012, and before Jan. 1, 2014

Election to recognize the disposition of all the assets or the last asset in a GAA

  • Taxpayer may elect to recognize the disposition of all the assets or the last asset remaining in a GAA
  • Election not treated as a method of accounting; however, taxpayers have option to make a late election through Form 3115 for their first or second tax years beginning after Dec. 31, 2011 (see Rev. Proc. 2012-20)
  • Same election available
  • Election made on the taxpayer’s timely filed tax return (including extensions) for the year in which the disposition occurs by reporting the gain, loss or other deduction in accordance with the applicable rules for recognizing the disposition (no statement required)
  • Election not treated as a method of accounting; however, taxpayers have the option to make a late election through Form 3115 for any tax year beginning on or after Jan. 1, 2012, and before Jan. 1, 2014

Basis in asset disposed of

  • Taxpayer may use any reasonable method that is consistently applied to all of its GAAs for purposes of determining the unadjusted depreciable basis of a disposed asset
  • No examples of reasonable methods provided
  • Generally the same, but examples of reasonable methods are provided

Effective date (in general)

  • May be applied to tax years beginning on or after Jan. 1, 2012 and, before Jan. 1, 2014.
  • May be applied to tax years beginning on or after Jan. 1, 2012, and before Jan. 1, 2014
  • Final regulations to be issued for tax years beginning on or after Jan. 1, 2014

 

Dispositions of MACRS property (not included in general asset accounts)

1. Dispositions in general

As with the temporary regulations, the proposed regulations provide that a disposition of a non-GAA MACRS asset occurs when the asset is permanently withdrawn from use either in the taxpayer’s trade or business or in the production of income. This includes dispositions by sale, exchange, retirement, physical abandonment or destruction, as well as when an asset is transferred to a supply, scrap or similar account.[29] However, unlike the temporary regulations, a disposition does not occur solely through the retirement of a structural component of a building. Rather, pursuant to the proposed regulations, a disposition occurs upon the disposal of a portion of an asset (such as a structural component of a building) only where the taxpayer makes the partial disposition election (discussed below).  

In line with the temporary regulations, the proposed regulations provide that assets for disposition purposes are determined based on the facts and circumstances of each disposition, but that an asset may not consist of items placed in service by the taxpayer on different dates (thus, improvements or additions to an asset placed in service after the asset is placed in service are treated as separate assets).[30] The proposed regulations also provide special rules regarding the determination of assets where items are properly included in one of the asset classes 00.11 through 00.4 of Rev. Proc. 87-56 (or in a category under section 168(e)(3)).[31] In this case, each item generally will be considered the asset, subject to certain exceptions.[32] 

In a significant change from the temporary regulations, however, the proposed regulations provide that in the case of building property, each building (including its structural components) is treated as the asset.[33] Under the temporary regulations, each structural component of a building was treated as a separate asset, effectively requiring taxpayers to recognize the retirement or abandonment of structural components of buildings where no GAA election was made. While this sounds beneficial to taxpayers in that the temporary regulations allowed them to recover the remaining depreciable basis of the retired or abandoned structures rather than continuing to depreciate these ghost or phantom assets, the temporary regulations required taxpayers to keep track of hundreds or thousands of individual structural components for disposition purposes. Thus, the recognition of a disposition of such a structural component under the temporary regulations was potentially too administratively burdensome to be practicable. Additionally, because the temporary regulations required rather than permitted the recognition of such dispositions, taxpayers that failed to recognize the disposition were in danger of permanently losing the basis related to that structure.[34] Now, with the modified definition of a building asset, taxpayers are no longer required to recognize abandonments or retirements of structural components unless the partial disposition election is made (discussed below). This provides taxpayers with the flexibility to determine whether to recover the basis of structural components upon retirements or abandonments while ensuring such taxpayers will not be in danger of permanently losing the basis in a later year.

Finally, the proposed regulations eliminate a provision in the temporary regulations that allowed taxpayers to use any reasonable, consistent method to treat each of an asset’s components as the asset as long as that asset was not described in asset classes 00.11 through 00.4 of Rev. Proc. 87-56 or in one of the categories under section 168(e)(3).[35] This allowance by the temporary regulations provided taxpayers with the ability to treat components of assets as the asset for disposition purposes (effectively allowing partial dispositions). While the proposed regulations no longer allow for this method of determining assets, the new partial disposition election neutralizes any negative effects the elimination of this provision would otherwise have created.

2. Partial disposition election

Under the proposed regulations, in the case of partial dispositions not required to be recognized,[36] taxpayers are permitted to elect to recognize such dispositions by making the partial disposition election. A taxpayer makes the partial disposition election on its timely filed (including extensions) original tax return for the year in which the portion of the asset is disposed of by recognizing the partial disposition in accordance with the rules of Prop. Reg. section 1.168(i)-8 (i.e., no statement is required).[36]

The partial disposition election is generally irrevocable and cannot be made or revoked through a Form 3115. However, the proposed regulations do provide a special rule in the case of a taxpayer that deducted the amount paid or incurred for the replacement of a portion of an asset as a repair under Reg. section 1.162-4 and did not make the partial disposition election for the disposed portion of that asset within the required time period. In this case, if the IRS later disallows the repair deduction (i.e., treats it as a capitalizable improvement), the taxpayer may make the partial disposition election by requesting a change in method of accounting (through a Form 3115) as long as the taxpayer owns the asset of which the disposed portion was a part as of the beginning of the year of change.[38]

3. Identification and basis of disposed assets

Under the proposed regulations, a disposition of an asset through a sale, exchange or involuntary conversion is generally recognized for federal income tax purposes by calculating and recognizing gain or loss under the applicable provisions of the Code.[39] Where an asset is disposed of by physical abandonment, a loss is recognized in the amount of the adjusted depreciable basis at the time of the abandonment.[40] To determine the basis of the disposed asset, the proposed regulations provide that the adjusted basis is the asset’s adjusted depreciable basis at the time of the asset’s disposition.[41] However, in the case of partial dispositions or assets included in multiple asset accounts, where it is impracticable for the taxpayer to determine the unadjusted depreciable basis, the taxpayer may instead use any reasonable method to make this determination.[42] The temporary regulations provide the same allowance. However, to address comments regarding specific reasonable methods, the proposed regulations provide the following nonexclusive examples of reasonable methods:

  • Discounting the cost of the replacement asset (or portion of the asset) to its placed-in-service year cost using the Consumer Price Index;
  • A pro rata allocation of the unadjusted depreciable basis of the multiple asset account or pool based on the replacement cost of the disposed asset (or portion of the asset) and the replacement cost of all of the assets in the multiple asset account; or
  • A study allocating the cost of the asset to its individual components.[43]

Finally, for purposes of identifying the asset disposed of, the proposed regulations provide that the taxpayer must generally use a specific identification method. However, in the case of partial dispositions or of dispositions of assets included in multiple asset accounts, if the taxpayer cannot practically determine the particular taxable year in which the asset was placed in service, the taxpayer must identify the asset by using a first-in, first-out (FIFO) method, a modified FIFO method, a mortality dispersion table if the asset is a mass asset, or any other method designated by the government in published guidance. The proposed regulations provide that in no case, though, will a last-in, first-out (LIFO) method be acceptable for this purpose.[44]

Summary of changes to the temporary regulations governing dispositions of MACRS property (not included in GAAs)

Issue

Temporary regulations

Proposed regulations

Defining a disposition

  • Ownership of an asset is permanently withdrawn from use either in taxpayer’s trade or business or in production of income (includes sales, exchanges, retirements, physical abandonment  or destruction)
  • Asset is transferred to a supplies, scrap or similar account
  • Retirement of a structural component of a building
  • Same general definition; however, dispositions no longer include the retirement of a structural component of a building unless taxpayer makes partial disposition election
  • Disposition includes partial asset dispositions in the following situations:
    • As a result of a casualty event  described in section 165;
    • Transactions under section 168(i)(7)(B);
    • Transactions under section 1031 or 1033;
    • In the case of a sale; or
    • Where the taxpayer makes a partial disposition election

General rule for dispositions

  • Dispositions by sale, exchange or involuntary conversion – gain or loss is recognized under applicable provisions of the Code and regulations
  • Dispositions by physical abandonment – loss recognized in the amount of the adjusted depreciable basis
  • Other dispositions – gain not recognized and loss recognized in the amount of the excess of the adjusted depreciable basis of the asset over the asset’s fair market value
  • Same

Defining the asset

  • Facts and circumstances; however, asset may generally not be larger than the UOP as determined under Reg. section 1.263(a)-3(e)
  • Special rules
  • Each building (not including its structural components) is the asset
  • Each condominium or cooperative unit in a building (not including its structural components) is the asset
  • Each structural component of a building or condominium/cooperative unit (including all components thereof) is the asset
  • If a taxpayer properly includes an item in one of the asset classes 00.11 through 00.4 of Rev. Proc. 87-56 (or in a category under section 168(e)(3)), each item is the asset (limited by rule that asset may not be larger than the UOP)
  • Improvements or additions to assets are treated as separate assets (limited by rule that asset may not be larger than the UOP)
  • If item is not described in one of the asset classes 00.11 through 00.4 of Rev. Proc. 87-56 or in a category under section 168(e)(3), taxpayer may use any reasonable, consistent method to treat each of the asset’s components as the asset
  • Similar to temporary regulations, with a few significant modifications:
    • In determining the asset for disposition purposes, the UOP definitions under Reg. section 1.263(a)-3(e) do not apply
    • Each building (including its structural components) is the asset
    • No ability for taxpayers to define components of an asset as the asset

Partial disposition election

  • N/A
  • Taxpayer may elect to recognize a disposition of a portion of an asset (assuming partial disposition is not otherwise required to be recognized)
  • Special rule for assets properly included in one of the asset classes 00.11 through 00.4 of Rev. Proc. 87-56
  • Irrevocable election made by recognizing partial disposition on timely filed, original tax return (no statement required)
    • Generally not treated as a method of accounting; however, taxpayers have the option to make a late partial disposition election through a Form 3115 for any tax year beginning on or after Jan. 1, 2012, and before Jan. 1, 2014
  • Special rule for subsequent IRS adjustment
    • If partial disposition election not made and IRS subsequently disallows a repair deduction for the amount incurred for replacement of a partial asset, taxpayer may make partial disposition election by filing Form 3115 

Basis of the asset disposed of

  • Adjusted basis of an asset disposed of is its adjusted depreciable basis at the time of the asset’s disposition
  • If impracticable from records to determine unadjusted depreciable basis of disposed asset, may use any reasonable method
  • Applies to assets included in mass asset accounts or dispositions of components of assets
  • No examples of reasonable method provided
  • Generally the same; however,  examples of reasonable methods are provided in proposed regulations

Effective date (in general)

  • May be applied to tax years beginning on or after Jan. 1, 2012 (and before Jan. 1, 2014)
  • May be applied to tax years beginning on or after Jan. 1, 2012 (and before Jan. 1, 2014)
  • Transition rule for partial disposition election for tax years beginning on or after Jan. 1, 2012, and ending on or before Sept. 19, 2013
  • Final regulations to be issued for tax years beginning on or after Jan. 1, 2014

 

Implications

Overall, while the proposed disposition regulations mirror the temporary regulations in many aspects, the modifications and clarifications that are provided may significantly change the way taxpayers account for dispositions of assets both inside and outside of GAAs. For instance, the narrowed definition of a qualifying disposition of assets included in a GAA significantly restricts the ability of taxpayers to recognize dispositions from GAAs, while the modification of the definition of building assets (to include buildings and their structural components) and new partial disposition election increase taxpayers’ flexibility in determining whether or not to recognize dispositions of partial assets not included in GAAs.

Thus, while the level of flexibility provided in the temporary regulations with respect to qualifying dispositions may no longer be necessary given the ability of taxpayers to choose whether or not to recognize the retirement or abandonment of structural components of buildings (where no GAA election is in effect), taxpayers should be aware of the narrowed definition of a qualifying disposition of assets included in a GAA and should take into account the expectation of future dispositions in determining whether to elect GAA treatment on a go-forward basis. Additionally, although the need for GAA elections is not as prevalent under the proposed regulations, GAA treatment still provides a valuable method of reducing administrative complexity in tracking depreciable assets and may thus continue to be advantageous for many taxpayers. Therefore, taxpayers should consult with their tax advisors to determine whether GAA elections are desirable on a go-forward basis in light of the modifications in the proposed regulations. 

Taxpayers should also note that while the proposed regulations provide many annual elections (such as the qualifying disposition election for assets included in GAAs and the partial disposition election for non-GAA assets), the adoption and application of the other provisions of the regulations constitute methods of accounting, which may require the filing of one or more Forms 3115 under the procedures in Rev. Proc. 2014-17. In addition to providing automatic method change procedures to adopt the temporary or proposed disposition regulations, Rev. Proc. 2014-17 provides the ability to revoke prior-year GAA elections and to make late partial disposition elections for tax years beginning on or after Jan. 1, 2012, and before Jan. 1, 2014.  For this limited period, such a revocation or late election is available through the filing of Forms 3115.

Taxpayers should consult with their tax advisors to determine the impact the proposed regulations have on their current treatment of dispositions of MACRS assets (both inside and outside of GAAs). Because the proposed regulations provide many opportunities both to reduce administrative burdens in tracking assets (and components of assets) and to reduce or increase current-year taxable income, taxpayers should evaluate whether adopting one or more of the proposed regulation provisions for their taxable years beginning on or after Jan. 1, 2012, is advantageous in light of their current-year taxable income goals.


[1] See TD 9636.

[2] See REG-110732-13.

[3] Taxpayers have the option of adopting the temporary regulations for tax years beginning on or after Jan. 1, 2012, and before Jan. 1, 2014. Alternatively, taxpayers have the option of early adopting the final regulations for tax years beginning on or after Jan. 1, 2012.

[4] Taxpayers have the option of adopting the temporary disposition regulations for tax years beginning on or after Jan. 1, 2012, and before Jan. 1, 2014. Alternatively, taxpayers have the option of applying the proposed disposition regulations to tax years beginning on or after Jan. 1, 2012, and before Jan. 1, 2014.  The proposed regulations are expected to be finalized in the spring of 2014 for use in taxpayers’ tax years beginning on or after Jan. 1, 2014.

[5] The proposed regulations will be finalized for use by taxpayers in tax years beginning on or after Jan. 1, 2014. The final disposition regulations are expected to be released in the spring of 2014. The final regulations will permit taxpayers to apply the provisions of the final regulations to taxable years beginning on or after Jan. 1, 2014.

[6] Prop. Reg. section 1.168(i)-1(c)(2)(i). Proposed Reg. section 1.168(i)-1(c) also provides special rules for assets subject to the mid-quarter or mid-month convention, passenger automobiles for which depreciation is limited under section 280F(a), assets for which bonus depreciation applies, and other assets subject to unique characteristics. Generally, all assets in one GAA must be treated identically under the Code and regulations (e.g., assets subject to 50 percent bonus depreciation may only be grouped with other assets subject to 50 percent bonus, etc.). See Prop. Reg. section 1.168(i)-1(c)(2)(ii).

[7] See Prop. Reg. section 1.168(i)-1(d). Thus, if the assets in a GAA are eligible for bonus depreciation, the taxpayer must determine the amount allowable for the placed in service year by multiplying the unadjusted depreciable basis of the GAA by the applicable bonus depreciation percentage. The remaining unadjusted depreciable basis of the GAA is then depreciated using the applicable method, recovery period and convention. See Prop. Reg. section 1.168(i)-1(d)(1) - (2).

[8] See Prop. Reg. section 1.168(i)-1(l).

[9] See 2013 instructions to Form 4562, providing that the GAA election is made by checking the box on line 18 of the form.

[10] A partial disposition includes the disposition of a portion of an asset as a result of a casualty event under section 165, a transaction in which no gain is recognized under section 1031 or 1033 (certain like-kind and involuntary exchanges), a transaction under section 168(i)(7)(B) (certain non-recognition transactions), a sale, or in certain transactions subject to an anti-abuse rule. Prop. Reg. section 1.168(i)-1(e)(1)(ii).

[11] See Prop. Reg. section 1.168(i)-1(e)(1).

[12] Special rules apply for dispositions in transactions described in section 168(i)(7), transactions under section 1031 or 1033, technical terminations of partnerships, and transactions subject to an anti-abuse rule in Prop. Reg. section 1.168(i)-1(e)(3)(vii). See Prop. Reg. section 1.168(i)-1(e)(3)(iv) – (vii). Though such dispositions are beyond the scope of this article, taxpayers disposing of assets included in GAAs in transactions falling under one of these provisions should discuss the impact of the proposed regulations with their tax advisors.

[13] Prop. Reg. section 1.168(i)-1(e)(2)(ii). The term “expensed cost” includes the amount of an allowable credit or deduction treated as allowable depreciation under section 1245 but does not include any bonus depreciation deductions. Prop. Reg. section 1.168(i)-1(b)(5).

[14] See The final tangible property regulations – Part II for a discussion of the unit of property rules.

[15] Excluding a category that includes buildings or structural components, such as a retail motor fuels outlet, a qualified leasehold improvement, or qualified restaurant or retail improvement property. Prop. Reg. section 1.168(i)-1(e)(2)(viii)(B)(3).

[16] Prop. Reg. section 1.168(i)-1(e)(2)(viii).

[17] See Reg. section 1.168(i)-1T(e)(2)(viii)(B)(2) – (3).

[18] See Reg. section 1.168(i)-1T(e)(2)(viii)(B)(6).

[19] See Reg. section 1.168(i)-1T(e)(3)(iii)(B).

[20] Excepted transactions include those subject to section 168(i)(7), 1031, or 1033; technical terminations of partnerships; and transactions subject to an anti-abuse rule provided in Prop. Reg. section 1.168(i)-1(e)(3)(vii). Prop. Reg. section 1.168(i)-1(e)(3)(iii)(B)(4).

[21] Prop. Reg. section 1.168(i)-1(e)(3)(iii)(B). This narrowed definition is in line with the definition of a qualifying disposition under the final regulations in effect prior to the 2011 temporary regulations.

[22] Prop. Reg. section 1.168(i)-1(e)(3)(iii)(A).

[23] Prop. Reg. section 1.168(i)-1(e)(3)(iii)(C).

[24] Prop. Reg. section 1.168(i)-1(l).

[25] Prop. Reg. section 1.168(i)-1(e)(3)(ii)(A).

[26] Prop. Reg. section 1.168(i)-1(l).

[27] See Prop. Reg. section 1.168(i)-1(j)(2).

[28] Prop. Reg. section 1.168(i)-1(j)(3).

[29] Prop. Reg. section 1.168(i)-8(b)(2). A disposition also includes the disposition of a portion of an asset as a result of a casualty event under section 165, a transaction under section 1031 or 1033, a transfer in a transaction described in section 168(i)(7), or a sale. Prop. Reg. section 1.168(i)-8(b)(2) and (d)(1).

[30] Prop. Reg. section 1.168(i)-8(c)(4).

[31] Excluding a category that includes buildings or structural components, such as a retail motor fuels outlet, a qualified leasehold improvement, or qualified restaurant or retail improvement property. Prop. Reg. section 1.168(i)-8(c)(4)(ii)(C).

[32] Prop. Reg. section 1.168(i)-8(c)(4)(ii)(C).

[33] Prop. Reg. section 1.168(i)-8(c)(4)(ii)(A).

[34] As a result, many taxpayers chose to make late GAA elections under the temporary regulations in an effort to protect the basis of assets disposed of in prior years where the disposition was not recognized.

[35] See Reg. section 1.168(i)-8T(c)(4)(ii)(F).

[36] Partial dispositions arising out of a sale or in the context of section 165, 168(i)(7)(B), 1031, or 1033 are generally required to be recognized. See Prop. Reg. section 1.168(i)-8(d). Such dispositions are beyond the scope of this article. However, taxpayers disposing of assets in transactions falling under one of these provisions should discuss the impact of the proposed regulations with their tax advisors.

[37] Prop. Reg. section 1.168(i)-8(d)(2)(ii).

[38] See Prop. Reg. section 1.168(i)-8(d)(2)(iii).

[39] Prop. Reg. section 1.168(i)-8(e)(1).

[40] Prop. Reg. section 1.168(i)-8(e)(2).

[41] Prop. Reg. section 1.168(i)-8(f)(1).

[42] Prop. Reg. section 1.168(i)-8(f)(2) and (3).

[43] Prop. Reg. section 1.168(i)-8(f)(2) and (3). In the case of assets in multiple asset accounts, the reasonable method must be applied consistently to all assets in the same multiple asset account. In the case of partial dispositions where multiple portions of one asset are being disposed of and recognized, the taxpayer must apply the reasonable method consistently to all portions of the same asset for purposes of determining the unadjusted depreciable basis of each disposed portion of the asset. See Prop. Reg. section 1.168(i)-8(f)(2) - (3).

[44] See Prop. Reg. section 1.168(i)-8(g)(2)-(4).

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