Recently there has been quite a commotion surrounding IRS Form 3115 ‘Application for Change in Accounting Method’, pertaining to the most recent tangible property repair regulations. Given the complexity of the numerous rules to complete the form, many taxpayers are confused whether they should file Form 3115, which is required for reporting any change in accounting methods. Here is a brief overview of the regulation prepared by our AGT tax analysts.
Final Repair Regulations Background
The final repair regulations were introduced by the Internal Revenue Service (IRS) in September, 2013 (effective from tax years 2014 onwards), which also included proposed regulations for the disposition and treatment of assets in a general asset account. Topics covered include:
- Rules governing the distinction between fixed assets
- Materials and supplies
- Tangible property-related cost that must be capitalized
- Whether the operation expenses related to the property should be deducted as repairs expense, or capitalized (Click here for more details: IRS Releases Final Regulations Governing Repairs and Capitalization of Tangible Property)
Having said that, most of these repair regulations are covered under accounting methods, and any changes made for tax reporting purposes would be considered as a ‘change in accounting methods’. This would require taxpayers (corporations, sole proprietors, etc.) to file Form 3115 to obtain the IRS’s consent to change the method of accounting. For example, a taxpayer will need to file Form 3115 to adopt the materials-and-supplies provisions of the repair regulations; failure to do so would disqualify the change in accounting method and hold the taxpayer liable for any taxes due under the previous accounting method. You are generally not allowed to change an accounting method without filing Form 3115 once the accounting method has been established, even if it is incorrect.
Under temporary regulations, the IRS granted consent through the automatic consent procedures in Revenue Procedure 2011-14. The IRS indicated it will follow the same procedures and publish accompanying revenue procedures allowing taxpayers to use Rev. Proc. 2011-14 to obtain automatic consent to change their accounting methods to comply with the final regulations. Under the automatic consent procedures, the IRS will grant consent when the taxpayer accurately completes a Form 3115, attaches the form to the taxpayer’s timely filed tax return for the year of change (with extensions), and submits a signed copy to the IRS’s national office.
Fortunately, before executing this rule, the IRS listened to various taxpayers’ and tax professionals’ comments regarding this ruling.
Current Status of the Ruling
Based on the feedback received, the IRS has decided to do away with the filing of Form 3115 for many small businesses. They will do this while making certain tangible property changes in methods of accounting with an adjustment under §481(a) of the Internal Revenue Code (that takes into account only amounts paid or incurred, and dispositions, in taxable years beginning on or after January 1, 2014).
To waive the requirement to complete and file a Form 3115, a small business taxpayer must choose to use this simplified procedure prospectively for 2014. For this purpose, small businesses, as per the IRS, are businesses with gross receipts under $10 million (averaged over the prior three years). Accordingly, for the first taxable year that begins on or after January 1, 2014, small business taxpayers that choose to prospectively apply the tangible property regulations to amounts paid or incurred as well as dispositions, in taxable years beginning on or after January 1, 2014, have the option of making certain tangible property changes in method of accounting on the federal tax return without including a separate Form 3115 or separate statement.
Should You or Should You Not File A Form 3115
If you qualify as a small business taxpayer, you do not need to file this form to apply the regulations prospectively starting 2014, but you should consider the other advantages that come with having a successfully filed Form 3115.
To begin with, a taxpayer may choose to file form 3115 to maintain a record of change in method of accounting or to make any allowed additional automatic changes on the same form. Others may look at the convenience, as well as time and tax preparation cost savings, where they would simply need to file their federal tax return with the applicable changes to comply with the final tangible property regulations in their first taxable year that begins on or after January 1, 2014. Without filing Form 3115, it may be difficult to keep track of what was done a couple of years down the road.
It may also be beneficial for those taxpayers who have a large favorable Section 481(a) (“481”) adjustment due to the application of the new definitions in the repair regulations to file Form 3115. A favorable 481 adjustment may be taken in its entirety in the year of filing Form 3115.
Under a transition rule, taxpayers who have already filed Form 3115, but based on current rulings do not need to do so, may withdraw the form on or before the due date of the timely filed return.
Given the various options for filing or not filing Form 3115 it is highly recommended that a taxpayer subject to these regulations consult a tax professional to assess the pros and cons of Form 3115 prior to filing their return for tax year’s beginning in 2014 and those that follow.
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