Qualified Improvement Property Changes Create Tax Savings

By Rachel Gillespie, CPA, Principal
ASL Real Estate Group

The Coronavirus Aid, Relief and Economic Security (CARES) Act created several new funding options and tax opportunities for Bay Area businesses. This includes the Paycheck Protection Program, changes to Economic Injury Disaster Loans (EIDL), and the introduction of payroll tax credits for qualifying paid sick leave and for employee retention efforts. The central focus of the changes was to provide immediate cash flow opportunities through low-interest loans, payroll tax credits, and other incentives. While these provisions in the CARES Act often receive the most attention, there was another change that can provide immediate cash flow benefits to both landlords and tenants. Through a technical correction provided in the CARES Act, Qualified Improvement Property (QIP) placed into service in 2018 or later, is now considered 15-year property and eligible for 100% bonus depreciation.  This technical correction opens the door to new saving opportunities for qualifying taxpayers.

What is Qualified Improvement Property?
QIP is defined as any improvement to an interior portion of a building which is a nonresidential real property if the improvement was placed into service after the date the building was first placed into service.  QIP specifically excludes expenditures that attribute to the enlargement of the building, any elevator or escalator, or the internal structural framework of the building.

Important QIP Developments
The Tax Cuts and Jobs Act of 2017 enhanced bonus depreciation rules to permit 100% write-off for certain property types acquired after September 27, 2017, and placed into service on or before January 1, 2023. When Congress changed and consolidating asset categories, which was meant to simplify the depreciation rules, there was a drafting error that left QIP excluded from bonus deprecation. The technical correction contained in the CARES Act resolved the oversight and has effectively opened the door to now utilizing bonus depreciation or 15-year recovery lives.

What is the Opportunity?
Since this change is retroactive to 2018 and 2019, there is a possibility that past improvement projects are now eligible to claim bonus depreciation, including those started when tax reform was signed into law. This means taxpayers currently using 39-year depreciation lives may be eligible to claim 100% bonus depreciation for these building improvements. Now is the time to review 2018 and 2019 asset additions to determine which assets can be classified as QIP

Claiming the Benefit
On April 17, 2020, the IRS issued Revenue Procedure 2020-25 that provides guidance allowing taxpayers to change depreciation for QIP placed in service after December 31, 2017, including the 2018, 2019, and 2020 taxable years. There are four options available to those seeking to claim the missed bonus depreciation.  It is important to act now as there are certain timing restrictions involved with claiming the missed benefit.

  1. 2019 Non-Filed Returns – In cases where the taxpayer has not yet filed a 2019 federal income tax return, they can treat qualifying 2019 asset additions as 15-year property eligible for bonus depreciation. A Form 3115 (discussed below) can also be filed to catchup depreciation expense by claiming bonus depreciation on eligible 2018 acquisitions. There are additional cash flow opportunities for those who want to file IRS Form 4466 to receive a “quick refund” of overpaid tax prior to filing their actual 2019 returns. 
  1. 2019 Filed Returns – Taxpayers filing entity returns who have already filed a 2019 federal income tax return (with a valid extension through September 15, 2020) treating QIP constructed in 2019 and reported under prior rules (bonus ineligible and using the 39-year recovery period) may file a superseded return prior to the extended due date to claim the appropriate benefits. Individual taxpayers cannot file a superseded return and must file an amended return to claim the benefit. In the event the 2019 federal income tax return was not extended, the taxpayer can simply file a 2019 amended return to capture the bonus depreciation.
  1. 2018 Amended Returns – The taxpayer may file an amended return for prior years in which QIP would otherwise qualify for bonus depreciation. For certain taxpayers, it is possible the change will generate a net operating loss (NOL) which can be carried back to years where the tax rates were higher. This can help taxpayers generate the maximum refund possible.
  1. Form 3115 “Change of Accounting Method” – In cases where the taxpayer does not wish to amend (or file a superseded return for 2018 and 2019 federal income tax returns), a Form 3115 can be filed with the 2020 (or 2019) federal income tax return. The Form 3115 can be filed with the taxpayer’s 2020 (or 2019) federal income tax return to catch up on the 2018 and/or 2019 depreciation that should have been claimed in prior years. 

Contact Us
The loan programs and tax opportunities created through the CARES Act have been invaluable tools for businesses managing their way through COVID-19. As the focus turns from survival to recovery, it is important to analyze other beneficial changes including QIP classifications to determine how you can benefit. If you have questions about the information outlined above or need assistance with a QIP concern, Abbott, Stringham & Lynch’s Real Estate Group can help. For additional guidance on choosing an allowable method to maximize your potential benefits, please call us at 408-377-8700 or click here to contact us. We look forward to speaking with you soon.