Morning found us calmly unaware…and then the roof came off and we learned we forgot to file an election with our tax return.
That’s not exactly how the lyrics of the old rock song go. However, that describes the situation of the taxpayer in a recent private letter ruling (PLR 201747003).
The taxpayer owned residential and commercial rental units that had been purchased in prior years. During the taxable year in question, the taxpayer replaced the roof on one of the commercial rentals. The new roof was finished during the same taxable year. The taxpayer capitalized the cost of the new roof and claimed depreciation for the roof as a separate asset on the tax return.
Because the taxpayer was caring for his mother, he gave his preparer the tax records late, and the tax return was not filed on time. The taxpayer did make his quarterly estimated payments for the year on time, and included in the calculation of the estimates a deduction for the partial disposal of the roof.
However, the taxpayer was unaware that the partial disposition election had to be made on a timely filed federal income tax return. He requested an extension of time to make the election, which the IRS granted.
You’re no doubt familiar with the tangible property regulations, also known as the “repair regs.” The final regulations were issued in 2014, and included the option to make a “partial disposition” election, as well as deducting the related costs of removing the asset.
In the past, when a taxpayer disposed of and replaced an asset such as a roof that was part of another asset, a partial deduction was typically not available. In addition, in a situation involving a partial disposition, the taxpayer couldn’t take a current deduction for removal costs. Instead, removal costs were capitalized to the asset being improved and depreciated when the improved asset was “placed in service.”
In the private letter ruling, the IRS said the taxpayer could make the partial disposition election by filing an amended federal income tax return for the taxable year, and reporting the gain, loss, or other deduction from the disposition of the roof on that amended return.
Besides the current year loss, can you think of another way the taxpayer could potentially benefit that made going through the trouble of requesting a private letter ruling and filing an amended return worthwhile?
THE BENEFITSFor a full explanation, hover your mouse over the link
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On the taxpayer’s federal income tax return, a currently deductible ordinary loss from a partial disposition lowers total income, adjusted gross income, taxable income, and tax.
In addition, the loss helps reduce other taxes that are based on income, such as the net investment income tax, the additional Medicare tax, and the alternative minimum tax.
The partial disposition election will also reduce the building’s basis and accumulated depreciation. Under current law (internal revenue code section 1250), the taxpayer would have to recapture accumulated depreciation when the building was sold at a gain. By reducing accumulated depreciation, the taxpayer will have less depreciation to recapture when he sells the property.
Editorial note: The election is not a separate statement. Taxpayers make the partial disposition election by recording the disposition on the tax return and recognizing the loss (or gain).