Capitalization vs. Repairs..Appendix to previous post

[Elrod]

Section 263(a)(1) provides that no deduction shall be allowed for any amounts paid out for new buildings or for permanent improvements or betterments made to increase the value of any property or estate. See also Treas. Reg. § 1.263(a)-1(a)(1). Section 263(a)(2) prohibits a deduction for amounts expended in restoring property or in making good the exhaustion thereof for which an allowance is or has been made.

Capitalization is the proper treatment for expenditures incurred in new construction. See §§ 263(a) and 263A. Capitalization is also generally required for additions to existing buildings or for installations of material components to buildings or equipment.

Quite frequently, new additions are made to already existing property. These additions are not replacement components nor are they repairs to property, but are instead newly installed components. These additions are required to be capitalized. This requirement applies to both § 1245 and § 1250 property.

In Tsakopoulos v. Commissioner, T.C. Memo 2002-8, aff’d on another issue without published opinion, 2003-1 USTC ¶ 50,513 (9th Cir. 2003), the court stated that the cost of the work performed on the roof must be capitalized because of the substantial nature of the work done and the work appreciably prolonged the useful life of the roof.

For buildings placed in service prior to 1981, a taxpayer was permitted to use component depreciation or composite depreciation. Under component depreciation, a taxpayer allocated the cost of a building to its basic component parts and then assigned a separate useful life to each of these components. S. Rep. No. 97-144 (1981), 1981-2 C.B. 412, 422. Components include the basic building shell, wiring, plumbing, roof, and other identifiable components. Each of the component parts was depreciated as a separate item of property. Under composite depreciation, a taxpayer assigned a single useful life for the building and all of its structural components.

http://www.irs.gov/Businesses/Capitalization-v-Repairs-Audit-Technique-Guide#14

[Jack from Ohio]

I am always capitalizing. Too much effort to expense if ever audited.

[Guest Taxed]

If a landlord puts a brand new roof because his 30 year old room has had it, it is prolonging the useful life and I am capitalizing it! I know some have posted some examples and case law to the contrary but i am playing it safe. I have been doing that since I got into the business and unless I see clearcut examples that have passed IRs scrutiny, I am sticking to the good old capitalization method.