I just received an email from my accountant that basically stated the IRS has made some sort of change that will require investors to file a Form 3115 or they may be subject to a higher taxable income due to less deductions. Can anyone elaborate on this? I can post the text of the email if it would help.
I wish I knew more about this as well. Anyone...?
Form 3115 is required if you owned rental real estate prior to 2014. It is a means to adjust your accounting method to adopt the routine maintenance safe harbor which is a requirement. There are no exclusions or exceptions.
Read those blog posts and feel free to shoot me a PM when you have questions.
@Brandon Hall - Thank you very much!
Yes, it should be very expensive to have someone prepare a 3114. Nolo's site has a recommendation of weighing cost v benefit...the benefit being audit protection. The only "questionable" repairs I have that could arguabley be depreciated (I have not read the new guidelines) would be buying used appliances for less than the cost of repairing the existing ones and calling it a repair--probably 2-3 times. I feel that is fair and put a note in my records with estimated repair cost and the signed receipt for buying the range...it is always a range. My AC guy has twice sold me used outdoor units and I depreciate those (different properties, still working fine). Anyhow, I will likely wait out tthe 3 years....but follow the guidelines going forward obviously.
Thanks to everyone for the replies!
@Marian Smith There are other benefits besides just audit protection. While you can weigh the pros and cons and decide whether or not you actually want to file, you should understand that in the event of an audit, if you have not complied with the new regulations, the IRS may disallow your repair deductions and claim you should have depreciated them. At that time, you will not be allowed to start depreciating the item, so you lose out on the deduction in full and will likely owe the IRS back taxes with interest and penalties.
At the very least, you should speak to your tax professional and pay a few bucks to have them look over your situation.
I have the opposite situation from @Marian Smith on appliances. I bought several used appliances for about $100-$150 each to put in my rentals. I followed to old rules and started depreciating these as personal property. It looks like under the new De Minimis Safe Harbor rule I could just deduct the full value in that year. Is there a reason I must go back and revert these or could I continue depreciating them and save some headaches? Money wise I don't have much that changed because things were clearly improvements even with the new rules because you can't do much for 2% of a low basis property.
@Paul Ewing One advantage is that you will be able to fully deduct the cost this year rather than waiting to deduct the cost over the life of the asset. Expenses that you can currently deduct are more beneficial than those you must capitalize and depreciate because it puts money in your pocket today, and as we all know, a dollar today is worth more than a dollar tomorrow.
Another reason to get with an accountant is to just double check everything and make sure pre-2014 repairs shouldn't be classified as capital improvements and vice versa. You may find it more beneficial to take on a headache today rather than continue to operate a business with audit exposure. But of course you may also find the opposite to be true.
Without knowing the details of your business, I can't tell you the pros and cons, but I do think everyone should at the very least speak with a tax pro or CPA.
I'm with zz-top--appliances were probably $150 each....so with parts and labor, less than a repair. I don't care if I lose the ability to depreciate. I am a risk taker buying used anyway...although with even 1800$ appliances having only a one year warranty I feel buying used can be risk adverse. I will just wait out the three years and hope I dont get flagged for some reason. What are my chances anyway? I have no idea what it would cost to file 3114 cannot imagine the IRS taking much of an interest in a a schedule E like mine. That said, maybe we should have a thread on what a typicall schedule e looks like.
@Brandon Hall - can you touch on the impact this might have on property that was acquired via 1031 exchange, where the basis will likely be far below market value; it seems that the percentages of basis turn into small dollar amounts relative if the property were acquired by just purchasing it.
@Steve Babiak Great question - I haven't been able to find specific guidance telling us how to utilize the Safe Harbor for Small Taxpayers (SHST) in relation to a 1031 exchange, however I would assume that the basis would still be the same basis you used in the original property.
The ceiling for the SHST is the lesser of $10,000 or 2% of the unadjusted basis. "Unadjusted basis" is the original cost of the property plus any improvements. Basically the same basis you would use to figure a gain but without factoring in depreciation.
Since your basis rolls over in a 1031, I would assume that you will still need to take 2% of the original basis when applying the SHST.
@Bill Exeter any thoughts? Have you had a chance to browse the new regulations?
This was the response from the CPA doing the taxes on one of our partnership Corps.....
"...You indicated that you need to file Form 3115 for this property. Form 3115 is an application for a change in accounting method. I am not sure why you think you need to file this form. Can you please explain you reasoning? I do not believe this form needs to be filed for this company...."
Interesting response given the number of buildings both commercial & rental we own!!!
Thanks again everyone for the replies. I decided to bite the bullet and have my CPA do the form. It is mind boggling how complicated the tax code. I hope to see a day this can be simplified!
Originally posted by @Austin Lee :
... It is mind boggling how complicated the tax code. I hope to see a day this can be simplified!
You're not alone....
“The hardest thing in the world to understand is the Income Tax.”
If these are your sentiments, you are in good company — the words are apparently those of the late Albert Einstein.
This appears to be a good analysis....
This just came out. There is relief!
Originally posted by @Phil C. :
This just came out. There is relief!
Now that ticks me off! I've already paid to have it done. I guess the IRS just works on a whim and does whatever it feels like.
All ranting aside, thanks for posting Phil.
@Brandon Hall How far back do we have to go to see what shouldn't have been a repair expense? Is any longer than the 3 years we can amend or the amount of time the IRS can examine?
@Patrick Cline you are no longer required to prepare Form 3115 unless you have over $10MM in assets or $10MM in income each year over the past three years.
If you were to prepare Form 3115, you would need to go back to the date in service for property that is currently being depreciated, or property that if capitalized would still be depreciating.
Example: In 2000 you place two assets in service and you expense a third. Asset #1 expected life = 27.5. Asset #2 expected life = 10 years. The third asset you expensed has an expected life of 20 years. You will need to go back and check asset #1 and #3 because they are still being depreciated or could still be depreciated had you not expensed asset #3. The second asset with a 10 year life doesn't need to be considered because it is already fully depreciated.
New to the site. I've had a rental since 2011 and filed depreciation for the first time in the 2014 tax year. I'm going back to amend 2013 and 2012, but 2011 is outside of the three year limit. In this case, the IRS guidance advises filing the form 3115 to change accounting method, but I'm still not clear if this somehow amends my 2011 return in a roundabout way or if it somehow allows me to claim the depreciation on the 2015 return.Claiming the Correct Amount of Depreciation
You should claim the correct amount of depreciation each tax year. If you did not claim all the depreciation you were entitled to deduct, you must still reduce your basis in the property by the full amount of depreciation that you could have deducted. For more information, seeDepreciation under Decreases to Basis in Publication 551.
If you deducted an incorrect amount of depreciation for property in any year, you may be able to make a correction by filing Form 1040X, Amended U.S. Individual Income Tax Return. If you are not allowed to make the correction on an amended return, you can change your accounting method to claim the correct amount of depreciation.
Filing an amended return. You can file an amended return to correct the amount of depreciation claimed for any property in any of the following situations.
- You claimed the incorrect amount because of a mathematical error made in any year.
- You claimed the incorrect amount because of a posting error made in any year.
- You have not adopted a method of accounting for property placed in service by you in tax years ending after December 29, 2003.
- You claimed the incorrect amount on property placed in service by you in tax years ending before December 30, 2003.
Generally, you adopt a method of accounting for depreciation by using a permissible method of determining depreciation when you file your first tax return for the property used in your rental activity. This also occurs when you use the same impermissible method of determining depreciation (for example, using the wrong MACRS recovery period) in two or more consecutively filed tax returns.
If an amended return is allowed, you must file it by the later of the following dates.
- 3 years from the date you filed your original return for the year in which you did not deduct the correct amount. A return filed before an unextended due date is considered filed on that due date.
- 2 years from the time you paid your tax for that year.
Changing your accounting method. To change your accounting method, you generally must file Form 3115, Application for Change in Accounting Method, to get the consent of the IRS. In some instances, that consent is automatic. For more information, see Changing Your Accounting Method in Publication 946,
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