Tax return presentation - Capitalized start up costs

Technical topics regarding tax preparation.
#1
Wiles  
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I have a question about how to present capitalized start up costs for a corporation.

I have a client with over $200K of various expenses incurred in 2017. The client and I have determined they were still in start up as of 12/31/17, therefore all of these expenses will be capitalized.

Should I show each of these various deductions on the 1120 and then back the total out as a negative expense in "Other deductions"? Or should I not present any deduction for what is being capitalized.

My gut says the latter is correct. However, my client wants the former. I am inclined to give the client what they want.

Anybody have any thoughts on the tax return presentation?
 

#2
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Why not use an m-1 adjustment instead of other deduction. I’d be okay with anything you do here.
 

#3
Nilodop  
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Were those the only expenditures in 2017? I'm picturing a nice clean 1120 with $200k of start up expenditures on the balance sheet, maybe some cash, and an equity section. But would there not also be some organization costs? And maybe even some fixed assets that were bought but not put into service? I'd still favor the "clean" approach in which all the various costs are in one of those categories and the P & L shows nothing.

Are there payables or accruals? Don't overlook that the method of accounting is adopted in the first return, not the first year in which business begins nor the year in which the active conduct of trade or business begins. (Are those two dates always the same? I think not.)
 

#4
DavidG  
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I agree with your gut, otherwise you will have a negative other deduction, but as Terry Oraha said, not a deal breaker either way.

Nilidop, ideally and accurately, the start up expenses would be expensed on the GAAP books and therefore there is no "asset".

[quote="I'm picturing a nice clean 1120 with $200k of start up expenditures on the balance sheet[/quote]
 

#5
JR1  
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I like books and tax the same. So I capitalize on the BS and amortize it.
Go Blackhawks! Go Pack Go!
Remembering our son, Ben Jan 22, 1992 to Aug 26, 2011.
For FB'ers: https://www.facebook.com/groups/BenRoberts/
 

#6
Wiles  
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Terry Oraha wrote:Why not use an m-1 adjustment instead of other deduction. I’d be okay with anything you do here.

Yes. Either way, there will be an M-1 adjustment as the client will leave these expenses on their P&L. They want to see these same expenses on the 1120 and then have them backed out with both a negative Other Deduction and a corresponding M-1 adjustment.

The tax depreciation schedule will show the Capitalized Start Up Costs. Their balance sheet and book depreciation schedule will not.
 

#7
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Obviously they can do it that way. Like JR1, I favor book = tax, for practical reasons. But if they actually intend to follow GAAP, that's another story. https://www.journalofaccountancy.com/is ... tment.html. The article closes with this sentence,
Organization costs are subject to the same deduction and amortization rules as startup costs. However, a taxpayer must account for them separately.
, which is almost but not quite 100% accurate.
 

#8
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Nilodop's "for practical reasons" grossly understates the benefit of having *two* sets of books, off the tax return, and being able to work separately with and reconcile those two sets of books rather than wrestling with M-1s and beginning balances based on phantom numbers right there on the tax return... If the taxpayer has several book-tax differences, you will rue the day you allowed your client to have only GAAP books which makes you do all the conversion, reconciliation, deferral, acceleration, whatever, on the tax return or in your mind. I tried it every whichaway, and two sets of books, i.e., book equals tax on the tax return was the clear winner, time and again. Looking back, I now wish someone woulda told me that, years ago.
 

#9
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Nilodop wrote:Were those the only expenditures in 2017? I'm picturing a nice clean 1120 with $200k of start up expenditures on the balance sheet, maybe some cash, and an equity section. But would there not also be some organization costs? And maybe even some fixed assets that were bought but not put into service?

These were not the only expenses. There were organization costs that will be separately capitalized. There are also some R&D expenses that will be deducted (and credit claimed). There were some fixed asset purchases (vehicle, equipment) that were put into service. We will begin to run depreciation on these but then capitalize that as startup costs. There was also purchases of raw materials for future production. These will be capitalized as inventory.

The company spent all of 2017 developing prototypes for future production.
 

#10
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Wiles wrote:There were some fixed asset purchases (vehicle, equipment) that were put into service. We will begin to run depreciation on these but then capitalize that as startup costs.


Are you certain that is the correct treatment? How can the company place equipment in service AND be in overall startup (pre-active business) mode? It was my understanding that §168 depreciation should not be §195 expenses.
~Captcook
 

#11
Wiles  
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The assets seems to be in service.

Vehicle - Corporate officer is driving this vehicle for business purposes.
Office equipment & furniture - The power is on. The officer and clerical staff are using this.
Equipment - This is being used to test and develop prototypes. I guess this should go to R&D expenses.
 

#12
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From TAM 9235004:
Since a taxpayer cannot start to depreciate an asset until his trade or business has begun operation, it would be incongruous to allocate part of a taxpayer's depreciation allowance to start-up expenditures and amortize them under section 195 of the Code. Moreover, as the legislative history of section 195 indicates, the section is intended to allow amortization of what would ordinarily be section 162 deductions were they not incurred during the start-up period. Section 162 allows a deduction for ordinary and necessary expenses incurred by a trade or business. Section 167, on the other hand, provides for the depreciation deduction. Thus, depreciation deductions are not the type of deductions covered by section 195.
. We certainly don't want to be accused of being incongruous!
 

#13
Wiles  
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Moreover, as the legislative history of section 195 indicates, the section is intended to allow amortization of what would ordinarily be section 162 deductions were they not incurred during the start-up period. Section 162 allows a deduction for ordinary and necessary expenses incurred by a trade or business.

It seems incongruous there would be no ordinary wear and tear on equipment during start up. While the business may not yet be in service, the assets sure are.

This is like saying printer toner cannot be consumed during start up.

Maybe my idea of start up is flawed.
Last edited by Wiles on 12-Jul-2018 11:51am, edited 1 time in total.
 

#14
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In these situations with a lot of Sec 195 costs in many different expense categories, I use the contra method, as your client suggests.
 

#15
Nilodop  
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Jeff, do you include deprecation in the 195 expenses?
 

#16
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Nilodop wrote:Jeff, do you include deprecation in the 195 expenses?



https://tax.thomsonreuters.com/media-re ... -business/
 

#17
JR1  
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I'm wondering why any of our clients would use GAAP? Maybe I can recall one many years ago...might have been a big contractor on some gov't job or something....? Other than that...why?
Go Blackhawks! Go Pack Go!
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#18
Wiles  
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Terry Oraha wrote:https://tax.thomsonreuters.com/media-resources/news-media-resources/checkpoint-news/daily-newsstand/irs-wont-follow-decision-that-store-is-placed-in-service-before-its-open-for-business/


The district court found that the buildings were placed in service when they were “substantially complete meaning in a condition of readiness and availability to perform the function for which [they were] built—in this instance to house and secure racks, shelving and merchandise.” In so holding, the court rejected IRS’s argument that, because the two buildings weren’t open for business, they weren’t placed in service during 2008. (Stine, LLC, (DC LA 2015) 115 AFTR 2d 2015-637

IRS disagrees. According to IRS, the district court erred first by holding that Stine’s intended use for the buildings was to “house and secure racks, shelving and merchandise.” The threshold determination in a placed in service analysis is to identify the specifically assigned function of the property in the context of the taxpayer’s trade or business (Sealy Power, Ltd., (CA 5 1995) 75 AFTR 2d 95-1213; Brown, TC Memo 2013-275), and in this case, Stine intended to use the buildings as retail stores.

I wish this case had also talked about the depreciation on the cost of those racks & shelves. What was their intended use and when were those placed in service?
 

#19
Coddington  
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The old Piggly Wiggly case covers how racks and shelves are treated. Simonson, (out of the 10th circuit I think), provides the rule that depreciation does not start until the business commences.
-Brian

Director of Tax Accounting Methods & Credits
SourceAdvisors.com

Opinions my own.
 

#20
Wiles  
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I have thought of one down side to inputting all expenses and then backing out with the contra-expense. This tax return may get tagged for audit. The IRS computer is going to see $0 income and a number of individual deductions, some of them large.
 

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