IRS extends suspension of examinations of tangible property capitalization issues

On Wednesday, the IRS posted an updated Large Business & Industry (LB&I) Directive for field examinations on the repair vs. capitalization issue that extends the suspension of examinations (LB&I-04-0313-001). The effective date of the tangible property temporary regulations (T.D. 9564) (in amendments published Dec. 17, 2012) has been extended to tax years beginning on or after Jan. 1, 2014. The IRS has provided its personnel with modified examination instructions for tax years beginning on or after Jan. 1, 2012, and before Jan. 1, 2014, and restated its earlier examination instructions for tax years beginning before Jan. 1, 2012, and on or after Jan. 1, 2014.

In February, the IRS, recognizing that many taxpayers are expending resources to comply with the temporary regulations and responding to comments from taxpayers, announced in Notice 2012-73 that when the final regulations are published, certain rules will be revised to simplify them. The notice permitted taxpayers the option of applying the regulations currently or delaying the effective date until Jan. 1, 2014.

For examinations of tax years beginning before Jan. 1, 2012, examiners are instructed to discontinue current exam activity and not begin any new activity with regard to the issue of:

• Whether costs incurred to maintain, replace, or improve tangible property must be capitalized under Sec. 263(a); and
• Any correlative issues involving the disposition of structural components of a building or dispositions of tangible depreciable assets (other than a building or its structural components).

The IRS explains that, for tax years beginning on or after Jan. 1, 2012, and before Jan. 1, 2014, if a taxpayer has changed its method of accounting under the repair regulations, with or without filing a Form 3115, Application for Change in Accounting Method, the examiner must perform a risk assessment regarding the method change. If the taxpayer has not changed its accounting method, the “option period” (the period before the applicability dates of the forthcoming final regulations, during which a taxpayer may choose to apply the temporary regulations) is still open and the examiner is instructed not to examine the issue.

In addition, for tax years beginning before Jan. 1, 2012, the IRS reiterated its earlier instructions, telling examiners to:

1. Withdraw the portions of Forms 4564, Information Document Request, that relate to the development of these issues.
2. Withdraw all Forms 5701, Notice of Proposed Adjustment, related to these issues.
3. Issue a new Form 5701 with a Form 886-A, Explanation of Adjustments, with language specified in the directive, the essence of which is that the IRS does not accept or reject the position the taxpayer took in its return on these issues; the taxpayer has a two-year period to adopt the appropriate method of accounting under Rev. Proc. 2012-19 or Rev. Proc. 2012-20 or any other  revenue procedures issued in the future; if the taxpayer does not adopt the new method within that time, the taxpayer may be subject to exam for tax years beginning on or after Jan. 1, 2014, going forward. A copy of this form signed by the taxpayer must be uploaded into the IRS’s information management system (IMS).
4. Retain workpapers on these issues in the IMS.
5. Complete Form 5346, Examination Information Report.

For tax years beginning after Dec. 31, 2013, examiners must follow the regulations in effect and follow normal procedures.

—Sally P. Schreiber (sschreiber@aicpa.org) is a JofA senior editor.