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Accounting method changes related to new repair regulations

Technical topics regarding tax preparation.
#351
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I have an individual client that is filling out a 1040. He owns 11 rental properties, so he has an extensive schedule E.

We are electing De Minimis Safe Harbor and Small Taxpayer Safe Harbor only. On form 3115 we are filling out Part II, Part IV and Schedule E because he is changing his depreciation method. Does that sound right so far?

What is the code for his change in method?

Do we have to file a 3115 for each of his 11 rental properties? Or only one 3115 for all properties?

We are keeping it simple and not going back (we capitalized all expenses -- from dishwashers to roofs -- with a life more than one year). We are starting the new methods as of of 1/1/14, so do we have a zero 481(a) adjustment?

Does anyone have a good example of a 3115 filled out for a client like this?

Alex
 

#352
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What depreciation method are you changing to?
 

#353
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Sorry in advance for this post but my head is spinning. It appears that the focus is mainly on real estate regarding the change of accounting issue. It looks like the consensus is that a Form 3115 must be filed whether there is a 481 adjustment or not to cover our tails? Most of my clients are very small with no 481 adjustment. I understand that specific depreciable assets that do have an adjustment must be listed on Schedule E, line 7 (If the property is currently treated and/or will be treated as depreciable or amortizable...). But do I also list ALL assets with NO adjustment (depreciable real and depreciable personal- I am assuming the change number 184 includes both personal and real) on Line 7 of Schedule E? That would be a time consuming nightmare! If the taxpayer has no 481 adjustments, then the Form 3115 becomes an "affirmation" filing rather than a request form and the instructions just don't cover the "affirmation" filing of this form. Moving forward, if in fact the "no adjustment assets" are not required to be listed individually and there are no "adjustment assets", what do we list on Line 7 of Schedule E? Leave it blank? Write "to comply with new regulations? Again, I am truly sorry for this post and thanks in advance for any guidance.
 

#354
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Whestsider,

Please note my comment above about not saying anything until I've had a chance to read the new revenue procedures that came out Friday. It will take a couple of days for everything to gel under the new rules, to the extent there are any changes.
-Brian

Director of Tax Accounting Methods & Credits
SourceAdvisors.com

Opinions my own.
 

#355
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Thanks a bunch!
 

#356
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It looks like the consensus is that a Form 3115 must be filed whether there is a 481 adjustment or not to cover our tails?

Very debatable.
 

#357
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"Does anyone have a good example of a 3115 filled out for a client like this?"

I am right on track with your thinking for my small residential rental clients. Proseries has the 1.263(a)-1(f), 1.263-3(h), and 1.263-3(n) if want, elections built in where I just check a box in the s/w. So its now just finding a filled out 3115 for M&S safe harbor 186 and 187 that I can e file the pdf and attached to the return. No 481(a) adjustment. Then I just print a 3115 copy and mail to IRS just like I do for the 8949 brokerage statement with stock basis.
 

#358
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So its now just finding a filled out 3115 for M&S safe harbor 186

Can you provide more details on that?
 

#359
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I agree with everyone else about the excellence of the letter. The unfortunate thing is that the amount of time it took you to write the letter is the same amount of time you will have to sit with and explain it to many clients.

Fun fun fun, I'm gonna sit back and wait for you guys and gals to figure this stuff out.

And EZTax, some of us here have been stating that from the beginning. That not everyone will require a 3115. Interpretations and all.

The link below is something that was shared in a seminar. The IRS has drawn it up but it is not posted on their website yet.

Please take note of the final bullet point. This has been my belief from day one. The purpose of these regs are geared towards to the Big 4 clients taking very aggressive positions with these items and this was never ever designed for the smaller clients with less than 10 million in revenue.

https://www.dropbox.com/s/a6shbwa9y4lgp ... s.png?dl=0
 

#360
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"Can you provide more details on that?"

I want to cover my Schedule C clients with a e filed 3115pdf as well as the Schedule E clients.

Change number 186 non incidental M&S: An inventoriable item is any item either purchased for resale to customers or used as a raw material in producing finished goods. For cash method taxpayers, inventoriable items may be treated as nonincidental materials and supplies.
 

#361
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Taxalmancer,

Why wouldn't the $7,000 be a 481 adjustment reported on the 3115 and spread over 4 years?

I could swear that I read in multiple places that that was one of the benefits of filing the 3115 timely - you get to claim the deduction this year. If the filing is late, it will be spread over 4 years. If I'm wrong, I trust that one of the experts will let us know.
 

#362
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Change number 186 non incidental M&S: An inventoriable item is any item either purchased for resale to customers or used as a raw material in producing finished goods. For cash method taxpayers, inventoriable items may be treated as nonincidental materials and supplies.

What are you saying, that your clients have never complied with this rule in the past?
 

#363
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Alex,

We are keeping it simple and not going back (we capitalized all expenses -- from dishwashers to roofs -- with a life more than one year). We are starting the new methods as of of 1/1/14, so do we have a zero 481(a) adjustment?

On the basis of what? I'd like to do the same with my clients, but that seems to be out of compliance with these very specific rules.
 

#364
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but that seems to be out of compliance with these very specific rules.

A point already made by me and Coddington.

I think a bunch of folks are just filing these 3115's so that they can say they filed them.
 

#365
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Ckenefick wrote:What depreciation method are you changing to?


I have been using straight line depreciation and I have been doing that for all property with a life greater than 1 year. So in the past I've been depreciating roofs, HVAC units, windows, appliances (even a dishwasher that cost me $298).

Now under the safe harbor election, it looks like I can just expense all that is under $500, and I have to depreciate everything costing more than that, correct?
Last edited by pickenspolitics on 17-Jan-2015 3:11pm, edited 1 time in total.
 

#366
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The rules on 481(a) adjustments have changed a little. Negative 481(a) adjustments are taken into account in one year. Positive adjustments initiated by the taxpayer are spread over four years, unless various exceptions apply. Positive adjustments initiated by the Service at the Exam level are generally taken into account in one year.
-Brian

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#367
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"What are you saying, that your clients have never complied with this rule in the past?"

I would like to make sure that all 186 & 187 M&S going forward qualifies for the safe harbor, so I file a 3115 with no 481 adjustment. Alternatively, I can not file the 3115 , and if audited, argue that no change of accounting was required as this is how you'd always done it and it is reasonable under the facts and circumstances. Why take the risk if filing the 3115 for some client siutations is relatively painless. Besides the IRS is expecting a lot of 3115's and I don't want to disappoint them.
 

#368
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Why take the risk if filing the 3115 for some client siutations is relatively painless.

Why waste the time?
 

#369
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I started working on my own and then stopped because I had to get organizers out. I think for the simple, small business, it will take longer to determine and document the position that we don't need to do it rather than just do it - once we've worked through the first one.
 

#370
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I think for the simple, small business, it will take longer to determine and document the position that we don't need to do it rather than just do it

Neither of those two options is what Weiss' post was about. He's saying his client was already complying with the non-incidental supplies rules. So, filing a 3115 in that case really does nothing in that case. There is no risk. And I don't think this is one of those changes that is done on a cut-off basis. So, if you simply file it with a $0 481 adjustment, and there is a risk, you haven't complied with the new rules.
 

#371
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I will post up my 3115 when I'm done for scrutiny and review; I'm working thru a RMSH right now and may include a 263a-3 method as well. Both are prospective without 481a adjustments.
 

#372
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There seem to be two extreme positions being offered here and in the tax practitioner community — one, that you need not file any Forms 3115 with the returns to adopt the repair regulations, and two, that you need to file a Form 3115 for each business that your clients have, and failure to do so is a Circular 230 violation.

Personally, I think the first position is too risky and the second position is going overboard. So, I’ve chosen an option in the middle because it sounds like the choice that will keep me from being sued for potential malpractice — to file ONE Form 3115 for each client.
 

#373
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I've had two clients with rentals come to mind, that I will be looking at closely, especially under the example that replacing 1/3 of the windows in a building is an expense whereas 2/3 would need capitalization, not to mention all the appliances I've been depreciating.

One item I've a question on is replacing a water heater in a rental. Definitely have to do it more than once over the life of the house. So is it a repair under the new regs? How about my roof: I capitalized it since it is a betterment in that it is a PVC membrane where the old one was tar paper and snokote. However, the new roof was just put over the old one. At a Gear Up seminar last year the consensus was that since the type of roof was improved, it must be capitalized as a betterment. Now I'm not so sure.

Also, how about stuff we used Sec. 179 on that now could be expensed under the safe harbor. Should we file the 3115, so there is no potential recapture?

I've got the Spidell update on Monday. And yes, my head is spinning on this stuff.
 

#374
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Let's say I diligently go through a client's books and find that 8 years ago the business deducted a new roof which I now say should be capitalized. How could this ever be a 481 adjustment? It's too late to amend the 8-year old return so the taxpayer has already deducted the expenditure in full.

If is becomes a 481 item, isn't the taxpayer double-dipping?
Last edited by Taxalmancer on 18-Jan-2015 8:42am, edited 1 time in total.
 

#375
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DaveFogel wrote:There seem to be two extreme positions being offered here and in the tax practitioner community — one, that you need not file any Forms 3115 with the returns to adopt the repair regulations, and two, that you need to file a Form 3115 for each business that your clients have, and failure to do so is a Circular 230 violation.

Personally, I think the first position is too risky and the second position is going overboard. So, I’ve chosen an option in the middle because it sounds like the choice that will keep me from being sued for potential malpractice — to file ONE Form 3115 for each client.


Dave....will any of the 3115s you file have a $-0- 481 adjustment?

I understand how we can go though an existing depreciation schedule to determine if there are items that don't belong on there and should become a 481 adjustment. Are you going through every client's prior years' disbursements to determine if an expense (repair) should have been capitalized to form another 481 adjustment?
 

#376
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Taxalmancer wrote:Dave....will any of the 3115s you file have a $-0- 481 adjustment?


Nearly all of them will.
 

#377
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How could this ever be a 481 adjustment? It's too late to amend the 8-year old return so the taxpayer has already deducted the expenditure in full.

Since we're dealing with an accounting method, we'd be looking at the difference between the deduction claimed and what the lifetime depreciation deductions "would have been" had we capped/depreciated the roof instead. Yes, it's too late to amend, but it's not too late to pick-up a 481 adjustment. IRS would tell you that the normal SOL that applies to most deductions doesn't apply when the deduction pertains to an an accounting method question.

Are you going through every client's prior years' disbursements to determine if an expense (repair) should have been capitalized to form another 481 adjustment?

You would have to in order to comply with these new regulations. So those of you that are filing a 3115 with a $0 Sec 481 adjustment are not complying, nor are you substantially complying, with the new rules (unless you're filing the 3115 to adopt some other aspect of the new regs that doesn't involve a 481 adjustment).

Also, to Dave's point, the one "extreme" side isn't extreme. If one chooses not to file a 3115, he or she isn't saying, "I'm not going to comply." He or she is saying, "It is impossible to comply." Those that file a 3115 with a $0 Sec 481 adjustment are essentially saying the same thing...and their 3115 filing is completely bogus.
 

#378
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Ckenefick wrote:Also, to Dave's point, the one "extreme" side isn't extreme. If one chooses not to file a 3115, he or she isn't saying, "I'm not going to comply." He or she is saying, "It is impossible to comply." Those that file a 3115 with a $0 Sec 481 adjustment are essentially saying the same thing...and their 3115 filing is completely bogus.


When there are well-educated and long-experienced tax professionals out there saying to file Form 3115, even without an IRC §481(a) adjustment, and when there are other well-respected tax experts (like the AICPA) who are saying that failure to file Form 3115 is a Circular 230 violation, people like you who recommend not filing Form 3115 is certainly an "extreme" position.
 

#379
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I find that to be totally hypocritical. The IRS says, "Compute the 481 adjustment...that's what these new regulations require." And you say, "No thanks. For whatever reason, I'm just going to put down a $0 481 adjustment."

To me, you've violated Circ 230 not once...but twice!
 

#380
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and when there are other well-respected tax experts (like the AICPA) who are saying that failure to file Form 3115 is a Circular 230 violation

To that point, you totally misconstrue what the AICPA has said. They're basically saying that the IRS has put practitioners into a position where, often, they simply can't comply. And because they can't comply, that would produce a 230 issue.

The small guy that owns a rental, who was told to maintain capital expenditure records...threw away his "repair" invoices from 15-years ago. This guy can't comply.

The AICPA recognizes that filing a 3115 with a $0 481 adjustment isn't compliance. This is exactly why they have asked for a prospective application of the Regulations.

If you think for a minute that your 3115's with a $0 adjustment will pass muster under these regulations, when we're talking about expenditures associated with a building, you're mistaken. Your 3115 filing is tantamount to not filing one at all. In fact, it is worse than that, since you are making an assertion, in violation of Circ 230, that is patently false.
 

#381
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Ckenefick wrote:To that point, you totally misconstrue what the AICPA has said.


I'm not misconstruing what the others are saying. They're saying, quite clearly, that if you have a client who files a Schedule C, E or F, and you don't file Form 3115 with their 2014 return to adopt the repair regulations, you've violated Circular 230. See, for example, “Implementing the new tangible property regulations”, an article published in the Journal of Accountancy (“if a CPA files a federal tax return for 2014 for a client without a Form 3115 or certain election statements, the CPA could be in violation of Circular 230 and subject to disciplinary action.”).

All I'm saying is that with several well-respected tax professionals out there saying that the failure to file Form 3115 to adopt the repair regulations is a Circular 230 violation, and you on the other side saying that filing Form 3115 with a zero IRC §481(a) adjustment is a Circular 230 violation, my choice is in between --- file the form.
 

#382
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That article didn't mention "Section 481" one single time!

All I'm saying is that with several well-respected tax professionals out there saying that the failure to file Form 3115 to adopt the repair regulations is a Circular 230 violation, and you on the other side saying that filing Form 3115 with a zero IRC §481(a) adjustment is a Circular 230 violation, my choice is in between --- file the form

I know what you're saying. And you're missing the big point here. You're missing what *the IRS* actually has to say on the matter. And they say to compute a 481 adjustment, one way or the other.

several well-respected tax professionals out there saying that the failure to file Form 3115 to adopt the repair regulations is a Circular 230 violation

Again, no mention of a 481 adjustment...If they are suggesting that all you need to do is file a 3115 to be in compliance (which I think you are suggesting, since no mention is made of a 481 adjustment) without the slightest investigation as to whether or not a 481 adjustment might be produced, then they would be incorrect. That's like filing a 1040 with all zeros and saying, "Hey, I filed my return. I'm in compliance." I use the word "slightest," but actually, it would require a full-blown investigation back to Day 1. Many of you are saying, "Well, we have to exercise some common sense here and only go back X number of years," but I'd like to see where the IRS actually says that. An accounting method change analysis doesn't involve analyzing expenditures over just a portion of the period over which the "old method" applied - it involves the entire period.
 

#383
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Please, before continuing this interesting discussion, take a look at the new revenue procedures that came out Friday. They have a great deal to say about section 481(a) adjustments, especially how the adjustments will be treated by Exam. This is new information.
-Brian

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#384
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Why don't you just summarize it for us instead??
 

#385
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Just to be clear here, a 3115 must be filed to adopt the new M&S defintion(see previous post on 186/187) and since the M&S rules( the so called $200 rule) are effective for costs incurred on or after 1/1/14, adopting these rules in 2014 results in a $0 481(a) adjustment on the 3115( the so called cut off method).

However, if we are talking about adopting the UOP standards, then a good faith effort must be made at a 481(a) adjustment on the 3115.
 

#386
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My goal is to have a summary up on my blog tomorrow.
-Brian

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#387
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Well, what is the answer to this question?

Has the IRS, in some way, indicated that we can file the 3115 with a $0 and that's good enough?

Have they indicated that we need only go back X number of years?
 

#388
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It's subtler than that. There's a new section that grants taxpayers under examination audit protection for accounting method changes that result in a negative section 481(a) adjustment in the year of change and in the years under audit. There's also a new provision that explicitly provides that redetermining a section 481(a) adjustment is an audit adjustment.
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There's a new section that grants taxpayers under examination audit protection for accounting method changes that result in a negative section 481(a) adjustment in the year of change and in the years under audit.

Are you referring to Page 66 of the -13 Rev Proc?

If so, could you explain the effect of that provision on (1) a taxpayer that doesn't file a 3115 and (2) capitalizes a roof he places in services in 2014, but (3) who expensed a roof he placed in service in 1999 and (4) whose 2014 return gets audited, say, in 2017?
 

#390
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I can't. The underlying facts and circumstances need to be developed.

1) What do you mean by "roof"?
2) Why was it expensed in 1999, including what was the relevant Unit of Property? What work took place and what was replaced?
3) Why was it capitalized in 2014, including what was the relevant Unit of Property? What work took place and what was replaced?

Assuming, arguendo, everything was the same in 1999 and 2014, only disregard of the existing law in 1999 would lead to a repair back then and an improvement in 2014.
-Brian

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#391
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Has the IRS, in some way, indicated that we can file the 3115 with a $0 and that's good enough?

Have they indicated that we need only go back X number of years?


Chris, why not just get on board and start figuring out how to efficiently file these forms? Are they going to be theoretically perfect with this law? Of course not. I have 3 corps that go back 30 - 50 years. Of course my review will be limited. If an auditor wants to come and explore what happened 49 years ago, power to him. I'm much more comfortable explaining to the IRS why I inadvertently excluded something from my 3115 than why I simply didn't file - I think that saying, "I would have filed if your rules hadn't been so ridiculous" isn't going to fly.

Does anyone know this: re the $200 rule. If the assets were purchased 10 years ago for $500 and expensed, and if they were 7 year property, then we don't have an adjustment, correct? If the assets were purchased 2 years ago, can we take the position that we would have claimed 179, and therefore we still don't have an adjustment?

Thanks,
 

#392
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Chris, why not just get on board and start figuring out how to efficiently file these forms?

Because it is impossible for any client that has owned real property for any length of time, as I have already stated, numerous times.

Are they going to be theoretically perfect with this law? Of course not.

Maybe state it this way:

"Are they going to be even close to complying with this law?"

No way, not even close, if you file one with a $0 Sec 481 adjustment without a complete analysis of past history.
 

#393
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1) What do you mean by "roof"?
2) Why was it expensed in 1999, including what was the relevant Unit of Property? What work took place and what was replaced?
3) Why was it capitalized in 2014, including what was the relevant Unit of Property? What work took place and what was replaced?


I mean "an entire roof." It was expensed in 1999 b/c taxpayer took the position that the entire building was the UOP. Old roof was removed and an entire new roof was put on. It was capitalized in 2014 under the major component/substantial structural part/restoration tests.

So, how about an answer...instead of referring us to tomorrow's blog?
 

#394
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only disregard of the existing law in 1999 would lead to a repair back then and an improvement in 2014.

No it wouldn't. The "unit of property" definition was always subject to interpretation.

If what you say is true, there would be no need for the IRS to issue these regulations and designate that the UOP rules are applied, for capitalization purposes, to 8 specific building systems.

So, again, how about an answer to the question instead of continue to push this post into circularity?
 

#395
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Expensing an entire roof, from shingles to membrane to decking to trusses to whatever, was an aggressive take on the case law as it existed in 1999. With additional cases in the early 2000s, the waters got muddied further, but in the opposite direction.

If no 3115 is filed and 2013 is still open, the 481(a) adjustment is taken in 2013. If 2014 is the earliest year, the adjustment is taken then. If a 3115 was filed in 2014 with a zero adjustment, then the audit adjustment would be in 2014 even if 2013 is open.
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Ok, thanks.
 

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In Chris's example.....

1) If the 1999 roof did not become an 481 adjustment on a 3115, can the IRS can open up 1999 to review expenditures to seek it out? Isn't it closed by SOL?

Is it fair to say the IRS will be more interested in removing items from existing depreciation schedules (they feel should not have been capitalized) than they will be hunting for previously expensed items that should have been capitalized?
 

#398
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Coddington wrote:I've put together a list of questions on my blog here. Please let me know if you have additional questions I haven't covered.


I just reviewed your list, which is very comprehensive, and I'd like to know a definitive answer to each one. Without those answers, how can anyone file any return, or 3115, without guessing or assuming?
 

#399
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Alright, wanted to circle back with a 3115 that I'm working on right now. I initially wanted to file the 3115 to adopt the RMSH, but as I was working through it, I added some more sections from 162-4 for non routine maintenance as well as the new improvement standards under 263(a)-3. Here is what my 3115 looks like:

Check the appropriate box to indicate the type of accounting method change being requested: Other - 1.162-4, 1.263(a)-3, 1.263(a)-3(I)
Part 1 1a: 184
Part II: All "no" up to box 14. Check yes on box 14, because in this case it will be used in the books
Part II box 16: yes
Part III: blank
Part IV: Line 24: no
Line 25: $0
Line 26/7: no

Schedule A/B/C/D: empty

Attachment for lines 12a-12d:
12a: The taxpayer is changing its method of accounting for repairs and maintenance in accordance with regulation section 1.162-4. Taxpayer is also changing its method of accounting for improvements of tangible property under regulation section 1.263(a)-3
12b: Taxpayer is currently deducting repairs and maintenance when paid. The taxpayer has not incurred any improvement expenses related to tangible personal property
12c: Taxpayer proposes to change its method of accounting for repairs and maintenance to apply regulation section 1.162-4. Taxpayer also proposes to adopt the routine maintenance safe harbor under regulation section 1.263(a)-3(i). Finally, taxpayer proposes to adopt the improvement standards under regulation section 1.263(a)-3
12d: cash

Thoughts/comments? The reason I initially want to file the 3115 is because of the RMSH (this client has a maintenance contract for ultrasound machines they own). However as I was working through it, I thought it was a decent idea to also mention the non routine maint section under 162-4 as well as adopting the improvement standards under 263(a)-3
Last edited by golfinz on 19-Jan-2015 8:52am, edited 2 times in total.
 

#400
HowardS  
Posts:
2035
Joined:
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Location:
Southern Pines, NC
So, I'm following this topic until I'm dizzy. One position is don't file 3115, another is file 3115 with $0 481(a) adjustment.
The vast majority of my clients subscribe to the grocery bag and shoebox school of accounting and it would be impossible for me to determine the proper 481(a) adjustment, but I don't want my clients to miss out on the advantages of the new regs and I can't assume they've always been in compliance. What would happen if I filed the 3115 with $0 481(a) adjustment along with form 8275 stating that the taxpayer's books and records are incomplete and an accurate 481(a) adjustment cannot be calculated? It seems to be a damned if I do, damned if I don't situation.
I suffer from depreciation.
 

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