Locke Lord QuickStudy: CARES Act Guide: Overview of IRS Guidance Regarding Bonus Depreciation on Qualified Improvement Property

The Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”) was signed into law on March 27, 2020. Section 2307 of the CARES Act provides a technical correction to Public Law 115-97, commonly referred to as the Tax Cuts and Jobs Act (“TCJA”), regarding qualified improvement property (“QIP”) and the election to take bonus depreciation on such property. Such technical correction (a) provides taxpayers with significant accelerated tax deductions through bonus depreciation, thus potentially providing them more access to cash and (b) incentivizes taxpayers to invest in improvements to property.  On April 17, 2020, the IRS released Revenue Procedure 2020-25 which provides guidance for taxpayers applying this technical correction. For more information on the CARES Act, click here. 

Background

Bonus depreciation generally allows businesses to take an immediate first-year deduction on the purchase of certain property. The TCJA increased the bonus depreciation percentage from 50 percent to 100 percent for certain property acquired and placed in service after September 27, 2017 and before January 1, 2023, and extended the period during which the bonus depreciation was available through 2026 (although at reduced rates). Generally, depreciable business assets with a recovery period of 20 years or less are eligible for this bonus depreciation. Under the TCJA, QIP was unintentionally classified as nonresidential real property with a recovery period of 39 years for purposes of the general depreciation system, and thus not eligible for bonus depreciation. Under Section 2307 of the CARES Act, a technical amendment was made which changed the recovery period for QIP under the general depreciation system to 15 years, thus allowing it to receive 100% bonus depreciation. Note, QIP is defined as “any improvement made by the taxpayer to an interior portion of a building which is nonresidential real property if such improvement is placed in service after the date such building was placed in service,” excluding the cost of elevators, escalators, structural framework or building expansion.

Revenue Procedure 2020-25

The change to the treatment of QIP outlined above is technically a change of accounting method for tax purposes, which would typically require the consent of the IRS. Revenue Procedure 2020-25 allows a taxpayer to make this change without first obtaining such consent. Additionally, such Revenue Procedure allows a taxpayer to make a late election or revoke or withdraw an election relating to the use of the alternative depreciation system or electing out of bonus depreciation for property placed in service by the taxpayer during its 2018, 2019, or 2020 taxable year, for a limited period of time.

In order to make such an accounting method change, Revenue Procedure 2020-25 generally provides that taxpayers may file an amended tax return, an administrative adjustment request (“AAR”) for partnerships subject to the partnership audit regime enacted as part of the Bipartisan Budget Act of 2015 (a “BBA Partnership”), or a Form 3115, Application for Change in Accounting Method, in order to change their depreciation of QIP placed in service after December 31, 2017, in the taxpayers’ 2018, 2019, or 2020 taxable year. 

Amended Tax Return
One way in which taxpayers may apply Revenue Procedure 2020-25 is by filing an amended federal income tax return or, if involving a BBA partnership, amended Form 1065, U.S. Return of Partnership Income, for the year in which the QIP was placed in service. Any amended tax return must be filed on or before October 15, 2021. The amended tax return must include the adjustment to taxable income for the change in determining depreciation of the QIP and any collateral adjustments to taxable income or tax liability. Such collateral adjustments also must be made on original or amended tax returns for any affected succeeding taxable years. 

Form 3115
Another way for taxpayers to apply Revenue Procedure 2020-25 is by filing a Form 3115 with a timely filed tax return and making a Code Section 481(a) adjustment on that tax return as an automatic accounting method change. Taxpayers making a change for more than one asset for the same year of change should file a single Form 3115 for all such assets and provide a single net adjustment for all the changes included in that Form 3115.

Administrative Adjustment Request
In addition to filing an amended tax return or a Form 3115, a taxpayer involving a BBA partnership who places QIP in service in the taxable year immediately preceding the year in which a depreciation method change is made may also make such change by filing an AAR.  Additionally, a BBA partnership that chooses not to file an amended Form 1065 as permitted under Revenue Procedure 2020-23 or that cannot file an amended Form 1065 because the placed-in-service year of the QIP is a taxable year that is not within the scope of Revenue Procedure 2020-23, may file an AAR for the placed-in-service year of the QIP. For additional information of Revenue Procedure 2020-23, click here. Any AAR must be filed on or before October 15, 2021. Additionally, the AAR must include the adjustment to taxable income for the change in determining depreciation of the QIP and any collateral adjustments to taxable income or tax liability. Such collateral adjustments also must be made on original or amended tax returns for any affected succeeding taxable years.

Late Elections and Withdrawing Elections
Revenue Procedure 2020-25 also generally allows taxpayers to make certain depreciation-related elections late or to revoke or withdraw certain depreciation-related elections for the taxpayer’s 2018, 2019, or 2020 tax year. Because of the administrative burden of filing amended tax returns and AARs, the Department of the Treasury and the Internal Revenue Service determined that it is appropriate to treat the making or withdrawing these elections as a change in method of accounting with a Code Section 481(a) adjustment for a limited period of time.  However, taxpayers may still report these changes using the methods described above. Note, a revocation of an election under Code Section 168(g)(7) may only be done with an amended return or AAR, as applicable.

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