Discussion Archives:Business expense versus capitalization

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Discussion Forum Index --> Consumer Questions --> Business expense versus capitalization


Mysticbyiq (talk|edits) said:

8 August 2007
I am looking for an answer in the form of a published legal authority (Code, Reg, Court decision) which gives a clear test for whether equipment purchased by a business is subject to mandatory capitalization or is explicitly denied as a deduction FOR TAX PURPOSES. I am not interested in answers such as GAAP, "conventional wisdom", and "rules of thumb".

As an explicit example, assume that a business purchases a $20,000 computer with a 4 year useful life (obsolete thereafter due to technology rate of change) and "decides" to expense the entire purchase amount in the first year.

The context for the question comes from my review of a potential investment in a public company whose explicit written policy is to routinely "expense" any equipment purchase of $10,000 or less --- I am (obviously) not an accounting professional and the policy of the company as stated flies in the face of the conventional wisdom provided by my accounting professionals.

Is there a bright line test within a published legal authority?

Kevinh5 (talk|edits) said:

8 August 2007
how about just a "seat of the pants" answer? "Top of the head"?

JR1 (talk|edits) said:

August 8, 2007
No, there isn't. Actually, the rule is rather clear about this: if useful life is over one year, you must capitalize. Now, think about that. Box of pens. Vacuum cleaner. Lightbulbs? Now, you have to get practical, and this is where you'll be unhappy since there's no authority. At large seminars, it was commonly asked of the room, where do we break off? A few years ago, the answer broke pretty cleanly at 500-1000 range. Smaller towns would fall below that perhaps. I use 1000 in the Chicago area. Large companies simply are trying to be expedient and keep the depreciation schedules under a hundred pages. But if an IRS agent wants to get snippy, that 10k limit could be considered too aggressive. All you have is the practical, seat of the pants, real world practice to go by. Or depreciate your mop handle.

Chase (talk|edits) said:

8 August 2007
I recommend that my clients who do not want the admin burden of depreciating everything for books to utilize a limit that works for them -- usually it's in the range of $350 to $500 but sometimes it's $1,000. I request that all of these items are booked into the P&L in a new account such as "Expensable xxxx." There is one of these accounts for Hardware, F&F, etc. Then at the end of the year, I look at those items in there and account for them as Depreciable assets and take the depreciation on the asset class on the tax return.

BethAZ (talk|edits) said:

8 August 2007
You will want to look at Sec. 179 to understand how to expense certain capital assets.

TexCPA (talk|edits) said:

8 August 2007
Section 167

Section 179

Section 263

Mysticbyiq (talk|edits) said:

9 August 2007
thanks so far --- I am familiar with the $500 to $1000 rule of thumb ... as JR1 stated, $10k may be very agressive, but I am interested in what a court had to say about it if someone took it that far in a disputed audit ... what test would be applicable?

If someone knows a resource for an IRS Audit Procedure text, I have heard that it has helpful legal citations.

26 USC Section 167, 179, and 263 are not entirely useful to settle the question ...

Sec 167 tells how to do depreciation, if elected ("There shall be allowed.."), not *WHEN* to do it ...

Sec 263 states that the cost of certain assets are not deductible -- no mention of tangible personal property such as computer systems ...

Sec 179(a) is the most *suggestive*, in that it states "A taxpayer may elect to treat the cost of any section 179 property as an expense which is not chargeable to capital account." (up to $100,000 limitation), but does not explicitly state that Sec 179 property must normally be charged to a capital account.

I guess a trip to the local law library would be in order?

BethAZ (talk|edits) said:

9 August 2007
You would perhaps be wasting your time. This is a simple question with a straightforward answer.

The client might be able use Sec 179 to expense the $20k, but cannot directly write this off to office expense or whatever and still be obedient to the law.

PVVCPA (talk|edits) said:

August 9, 2007
Beth has a very good point. This is a simple question. The more time you spend disecting the tax code and whatever other authoritative literature, the more you will just confuse yourself.

Note the word "elect" in Section 179. There's a proper way to elect. Posting the purchase to Office Expense is not the proper way.

I used to charge my clients $2 per depreciable item, so I always capitalized the broom handle and the plastic garbage cans.

Jdugancpa (talk|edits) said:

9 August 2007
"Electing" Section 179 by charging equipment directly to expense runs the risk that upon audit, the offending items will be required to be capitalized and the Section 179 election will no longer be available.

Death&Taxes (talk|edits) said:

9 August 2007
Reg. 1.179-5 permits the election on an amended return, which takes much of the sting out of an audit adjustment, but I believe this expires after 2008.

Having seen Revenue Agents capitalize $500-999 items in the past when clients have included them in 'supplies,' I try to break out anything suspicious.

Davidkm2@charter.net (talk|edits) said:

9 August 2007
Yes, you can make the election on an amended return, for I believe as long as the statute of limitations runs on the original return. Does anyone know when this expires?

TexCPA (talk|edits) said:

9 August 2007
Depreciation Overview (irs)

Paul look @ Table B [Pub 946]

computer is Asset Class 00.12, useful life 6 years not 4, although i agree with your statement "obsolete"

Cmt56ss (talk|edits) said:

9 August 2007
I know this is the Tax section. But what about materiality, does this play a role in deciding whether to expense it or capitalize it?

JR1 (talk|edits) said:

August 9, 2007
That's where the numbers come from, in my opinion...trying to find a level where it's immaterial. In a small biz, around a thou is pretty easy. Again, IRS isn't interested in that, but seems to abide by the common practice.

Chase (talk|edits) said:

9 August 2007
That's why I tell my clients to do things the way that I them....on the books they can accumulate these in expense but for tac purposes, they are capitalized. Whether or not Sec 179 is elected or not depends on the taxpayers situation and whether or not the election is in the TP's best interest. At least I do not have to look in 5 or 10 different accounts to find where the client has buried these items because they are all together. It works well for small biz as well as for the $600M corporations where I have worked.
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