Change in Method or Correction of Error

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#1
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I mentioned in a previous post that a prior accountant had capitalized a real estate lease between related parties. It is your typical situation where you have the operating company ( S Corp 1 shareholder) renting the building from an LLC owned by the shareholder and his wife.

The same LLC bought a second building adjacent to the existing building but on this transaction they did not capitalize the new lease for the new building. The operating company is using both buildings, one capitalized the other not.

For tax purposes, I think they are handling things correctly with all of the M-1 adjustments.

I would like to remove the the original building from the books and simply call this a correction of an error and not a change in accounting methods. Would this be acceptable?

My final thought is that down the road when these new lease rules kick in for GAAP, will everyone simply opt for the GAAP departure like they did with FIN 46. I hate to take the lease off the books only to have to put it back on in 2019.
 

#2
Coddington  
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It's not entirely clear what you are asking. Are you asking about the financial or the tax treatment? If it is the former, I can move this question to the appropriate subforum. If it is the latter, this paragraph from Huffman v. Comm'r, 126 TC 322 (2006) is instructive:

We have interpreted the term "posting error" to be an error in "`the act of transferring an original entry to a ledger'". Wayne Bolt Nut Co. v. Commissioner, supra at 510-511 (quoting Black's Law Dictionary 1050 (5th ed. 1979)). That does not describe the accountant's error, and we conclude that the accountant made no posting error. The term "mathematical error" is not, as stated, defined in the regulation, nor have we or any other court defined it for purposes of section 1.446-1(e)(2)(ii)( b), Income Tax Regs. The term does, however, appear in the Internal Revenue Code, *344344 principally in section 6213(b), which allows the unrestricted assessment and collection of tax arising out of mathematical or clerical errors. For purposes of section 6213, the term "mathematical or clerical error" is defined by section 6213(g)(2). As pertinent to this case, the definition is "an error in addition, subtraction, multiplication, or division". Sec. 6213(g)(2)(A). Moreover, before Congress provided the specific definition of the term "mathematical or clerical error" found in section 6213(g), courts generally had limited the scope of the term "mathematical error" for purposes of section 6213(b) and its predecessors to errors in arithmetic. E.g., Farley v. Scanlon, 13 AFTR 2d 932, 933, 64-1 USTC par. 9371 (E.D.N.Y. 1964) (mathematical error "means an error in computing the tax on what the return itself concedes to be income"); Repetti v. Jamison, 131 F. Supp. 626, 628 (N.D. Cal. 1955) ("the term * * * was meant to refer to errors in arithmetic. This opinion is based primarily on the common meaning given to the phrase `mathematical error,'"). We have no reason to believe that the drafters of section 1.446-1(e)(2)(ii)( b), Income Tax Regs., intended the term "mathematical error" to have any meaning beyond its common meaning, and petitioners have failed to show us that the term has a common meaning different from the common meaning found by the District Court in Repetti; i.e., an error in arithmetic. That definition comports with the scope of the term "posting error", with which the term "mathematical error" is associated in the regulations, and we conclude that the term "mathematical error", as used in section 1.446-1(e)(2)(ii)( b), Income Tax Regs., describes an error in arithmetic; i.e., an error in addition, subtraction, multiplication, or division.


These are the two types of errors excluded from accounting method treatment that are relevant here. (There is a third category of errors that is not relevant here.) Neither definition would appear to apply. Since there is an automatic method change for capital-lease-to-lease changes (section 6.03 of Rev. Proc. 2015-14), it would appear that a method change would be in order.
-Brian

Director of Tax Accounting Methods & Credits
SourceAdvisors.com

Opinions my own.
 

#3
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Probably not a tax question and more of Financial/GAAP issue so if you want to move it you can. The capitalized assets is on the latest 1120S Schedule L which is what I plan on removing.
 


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