us-irs-announcements-irb-2012-14-pdf•Internal Revenue Bulletin 2012-14 (PDF rendition): IRS Announcements
Internal Revenue Bulletin 2012-14 (PDF rendition): IRS Announcements
us-irs-announcements-irb-2012-14-pdfInternal Revenue Bulletin 2012-14 (PDF rendition): IRS AnnouncementsGuidance
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Bulletin No. 201 2-14 April 2, 2012 HIGHLIGHTS OF THIS ISSUE These synopses are intended only as aids to the reader in identifying the subject matter covered. They may not be relied upon as authoritative interpretations. INCOME TAX Rev. Rul. 2012–10, page 614. Fringe benefits aircraft valuation formula.For purposes of regulations section 1.61–21(g), relating to the rule for valu- ing non-commercial flights on employer-provided aircraft under section 61 of the Code, the Standard Industry Fare Level (SIFL) cents-per-mile rates and terminal charge in effect for the first half of 2012 are set forth. Rev. Rul. 2012–11, page 686. Federal rates; adjusted federal rates; adjusted federal long-termrateandthelong-termexemptrate.For pur- poses of sections 382, 642, 1274, 1288, and other sections of the Code, tables set forth the rates for April 2012. T.D. 9564, page 614. REG–168745–03, page 718. Temporary and proposed regulations under sections 162(a) and 263(a) of the Code provide guidance on the application to amounts paid to acquire, produce, or improve tangible prop- erty. The temporary regulations also provide guidance under section 168 regarding the accounting for, and dispositions of, property subject to section 168 and amend the general asset account regulations. Rev. Proc. 2012–19, page 689. This procedure provides the procedures by which a taxpayer may obtain the automatic consent of the Commissioner of Internal Revenue to change to the methods of account- ing provided in regulations sections 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, and 1.263(a)–3T (T.D. 9564) for taxable years beginning on or after January 1, 2012. Rev. Proc. 2011–14 modified and clarified. Rev. Proc. 2012–20, page 700. This procedure provides the procedures by which a taxpayer may obtain the automatic consent of the Commissioner of Inter- nal Revenue to change to the methods of accounting provided in regulations sections 1.167(a)–4T, 1.168(i)–1T, 1.168(i)–7T, and 1.168(i)–8T (T.D. 9564) for taxable years beginning on or after January 1, 2012. Rev. Proc. 2011–14 modified and clar- ified. Rev. Proc. 2012–23, page 712. Automobile owners and lessees.This procedure provides the depreciation deduction limitations for owners of passenger automobiles (including trucks and vans) first placed in service during calendar year 2012 and amounts to be included in in- come by lessees of passenger automobiles first leased during calendar year 2012. Announcement 2012–14, page 721. This announcement provides procedures for obtaining relief from allocation and accounting errors for certain issuers of tax-exempt student loan bonds through the IRS Tax-Exempt Bonds Voluntary Closing Agreement Program. Finding Lists begin on page ii. The IRS Mission Provide Americ a’s taxpayers top-quality service by helping them understa nd and meet their tax responsibilities and en- force the law wi th integrity and fairness to all. Introduction The Internal Revenue Bulletin is the authoritative instrument of the Commissioner of Internal Revenue for announcing official rulings and procedures of the Internal Revenue Service and for publishing Treasury Decisions, Executive Orders, Tax Conven- tions, legislation, court decisions, and other items of general interest. It is published weekly and may be obtained from the Superintendent of Documents on a subscription basis. Bulletin contents are compiled semiannually into Cumulative Bulletins, which are sold on a single-copy basis. It is the policy of the Service to publish in the Bulletin all sub- stantive rulings necessary to promote a uniform application of the tax laws, including all rulings that supersede, revoke, mod- ify, or amend any of those previously published in the Bulletin. All published rulings apply retroactively unless otherwise indi- cated. Procedures relating solely to matters of internal man- agement are not published; however, statements of internal practices and procedures that affect the rights and duties of taxpayers are published. Revenue rulings represent the conclusions of the Service on the application of the law to the pivotal facts stated in the revenue ruling. In those based on positions taken in rulings to taxpayers or technical advice to Service field offices, identifying details and information of a confidential nature are deleted to prevent unwarranted invasions of privacy and to comply with statutory requirements. Rulings and procedures reported in the Bulletin do not have the force and effect of Treasury Department Regulations, but they may be used as precedents. Unpublished rulings will not be relied on, used, or cited as precedents by Service personnel in the disposition of other cases. In applying published rulings and procedures, the effect of subsequent legislation, regulations, court decisions, rulings, and procedures must be considered, and Service personnel and others concerned are cautioned against reaching the same conclusions in other cases unless the facts and circumstances are substantially the same. The Bulletin is divided into four parts as follows: Part I.—19 86 Code. This part i ncludes rulings and decisions based on provisions of the Intern al Revenue Code of 1986. Part II.—Treaties and Tax Legislation. This part is divided into two subparts as follows: Subpart A, Tax Conventions and Other Related Items, and Subpart B, Leg- islation and Related Committee Reports. Part III.—Administrative, Procedural, and Miscellaneous. To the extent practicable, pertinent cross references to these subjects are contained in the other Parts and Subparts. Also included in this part are Bank Secrecy Act Administrative Rul- ings. Bank Secrecy Act Administrative Rulings are issued by the Department of the Treasury’s Office of the Assistant Secre- tary (Enforcement). Part IV .—Items of General Interest. This par t includes notices of proposed rulemakings, disbar- ment an d suspension lists, and announcements. The last Bulletin for each month includes a cumulative index for the matters published during the preceding months. These monthly indexes are cumulated on a semiannual basis, and are published in the last Bulletin of each semiannual period. The c ontents of this publication are not copyrighted and may be reprinted freely. A citation of the Internal Revenue Bulletin as the source would be appropriate. For sale by the Superintendent of Documents, U.S.Government Printing Office, Washington, DC 20402. April 2, 20122012–14 I.R.B. Part I. Rulings and Decisions Under the Internal Revenue Code of 1986 Section 42.—Low-Income Housing Credit The adjusted applicable federal short-term, mid- term, and long-term rates are set forth for the month of April 2012. See Rev. Rul. 2012-11, page 686. Section 61.—Gross Income Defined 26 CFR 1.61–21: Taxation of fringe benefits. Fringe benefits aircraft valuation for- mula.For purposes of regulations section 1.61–21(g), relating to the rule for valuing non-commercial flights on employer-pro- vided aircraft under section 61 of the Code, the Standard Industry Fare Level (SIFL) cents-per-mile rates and terminal charge in effect for the first half of 2012 are set forth. Rev. Rul. 2012–10 For purposes of the taxation of fringe benefits under section 61 of the Inter- nal Revenue Code, section 1.61–21(g) of the Income Tax Regulations provides a rule for valuing noncommercial flights on employer-provided aircraft. Section 1.61–21(g)(5) provides an aircraft valua- tion formula to determine the value of such flights. The value of a flight is determined under the base aircraft valuation formula (also known as the Standard Industry Fare Level formula or SIFL) by multiplying the SIFL cents-per-mile rates applicable for the period during which the flight was taken by the appropriate aircraft multiple provided in section 1.61–21(g)(7) and then adding the applicable terminal charge. The SIFL cents-per-mile rates in the formula and the terminal charge are calculated by the Department of Transportation and are reviewed semi-annually. The following chart sets forth the termi- nal charge and SIFL mileage rates: Period During Which the Flight Is Taken Terminal Charge SIFL Mileage Rates 1/1/12 - 6/30/12 $44.88 Up to 500 miles = $.2455 per mile 501-1500 miles = $.1872 per mile Over 1500 miles = $.1800 per mile DRAFTING INFORMATION The principal author of this revenue ruling is Kathleen Edmondson of the Office of Division Counsel/Associate Chief Counsel (Tax Exempt/Government Entities).For further information regarding this revenue ruling, contact Ms. Edmondson at (202) 622–0047 (not a toll-free call). Section 263.—Capital Expenditures 26 CFR 1.263(a)–1T: Capital expenditures; in gen- eral (temporary). T.D. 9564 DEPARTMENT OF THE TREASURY Internal Revenue Service 26 CFR Part 1 Guidance Regarding Deduction and Capitalization of Expenditures Related to Tangible Property AGENCY: Internal Revenue Service (IRS), Treasury. ACTION: Temporary regulations. SUMMARY: This document contains temporary regulations that provide guid- ance on the application of sections 162(a) and 263(a) of the Internal Revenue Code to amounts paid to acquire, produce, or improve tangible property. The tempo- rary regulations clarify and expand the standards in the current regulations under sections 162(a) and 263(a) and provide certain bright-line tests (for example, ade minimisrule for certain acquisitions) for applying these standards. The temporary regulations also provide guidance under section 168 regarding the accounting for, and dispositions of, property subject to section 168. The temporary regulations also amend the general asset account regulations. The temporary regulations will affect all taxpayers that acquire, pro- duce, or improve tangible property. The text of the temporary regulations also serves as the text of proposed regulations (REG–168745–03) set forth in the notice of proposed rulemaking. DATES:Effective Date:These regulations are effective on January 1, 2012. Applicability Dates:For dates of ap- plicability of the temporary regulations, see §§1.162–3T, 1.162–4T, 1.162–11T, 1.165–2T, 1.167(a)–4T, 1.167(a)–7T, 1.167(a)–8T, 1.168(i)–1T, 1.168(i)–7T, 1.168(i)–8T, 1.263(a)–1T, 1.263(a)–2T, 1.263(a)–3T, 1.263(a)–6T, 1.263A–1T, and 1.1016–3T. FOR FURTHER INFORMATION CONTACT: Concerning §§1.162–3T, 1.162–4T, 1.162–11T, 1.263(a)–1T, 1.263(a)–2T, 1.263(a)–3T, 1.263(a)–6T, Merrill D. Feldstein or Alan S. Williams, Office of Associate Chief Counsel (Income Tax & Accounting), (202) 622–4950 (not a toll-free call); Concerning 2012–14 I.R.B.614April 2, 2012 §§1.165–2T, 1.167(a)–4T, 1.167(a)–7T, 1.167(a)–8T, 1.168(i)–1T, 1.168(i)–7T, 1.168(i)–8T, 1.263A–1T, and 1.1016–3T, Kathleen Reed or Patrick Clinton, Office Associate Chief Counsel (Income Tax & Accounting), (202) 622–4930 (not a toll-free call). SUPPLEMENTARY INFORMATION: Background Section 263(a) provides that no deduc- tion is allowed for (1) any amount paid out for new buildings or permanent improve- ments or betterments made to increase the value of any property or estate, or (2) any amount expended in restoring property or in making good the exhaustion thereof for which an allowance has been made. Reg- ulations issued under section 263(a) pro- vided that capital expenditures included amountspaidorincurredto(1)addtothe value, or substantially prolong the useful life, of property owned by the taxpayer, or (2) adapt the property to a new or different use. However, those regulations also pro- vided that amounts paid or incurred for in- cidental repairs and maintenance of prop- erty within the meaning of section 162 and §1.162–4 of the Income Tax Regu- lations are not capital expenditures under §1.263(a)–1. The United States Supreme Court has recognized the highly factual nature of determining whether expenditures are for capital improvements or for ordinary re- pairs.See Welch v. Helvering, 290 U.S. 111, 114 (1933) (“decisive distinctions [between capital and ordinary expen- ditures] are those of degree and not of kind”);Deputy v. du Pont, 308 U.S. 488, 496 (1940) (each case “turns on its special facts”). Because of the factual nature of the issue, the courts have articulated a number of ways to distinguish between de- ductible repairs and non-deductible capital improvements. For example, inIllinois Merchants Trust Co. v. Commissioner, 4 B.T.A. 103, 106 (1926), acq. (V–2 C.B. 2), the court explained that repair and maintenance expenses are incurred for the purpose of keeping property in an ordinarily efficient operating condi- tion over its probable useful life for the uses for which the property was acquired. Capital expenditures, in contrast, are for replacements, alterations, improvements, or additions that appreciably prolong the life of the property, materially increase its value, or make it adaptable to a different use. InEstate of Walling v. Commissioner, 373 F.2d 190, 192–193 (3 rd Cir. 1966), the court explained that the relevant dis- tinction between capital improvements and repairs is whether the expenditures were made to “put” or “keep” property in efficient operating condition. InPlain- field-Union Water Co. v. Commissioner, 39 T.C. 333, 338 (1962), nonacq. on other grounds (1964–2 C.B. 8), the court stated that if the expenditure merely restores the property to the state it was in before the situation prompting the expenditure arose and does not make the property more valu- able, more useful, or longer-lived, then such an expenditure is usually considered a deductible repair. In contrast, a cap- ital expenditure is generally considered to be a more permanent increment in the longevity, utility, orworth of the property. The standards for applying section 263(a), as set forth in the regulations, case law, and administrative guidance, are difficulttodiscernandapplyinpractice and have led to considerable uncertainty and controversy for taxpayers. On Jan- uary 20, 2004, the IRS and the Treasury Department published Notice 2004–6, 2004–1 C.B. 308, announcing an intention to propose regulations providing guidance in this area. The notice identified issues under consideration by the IRS and the Treasury Department and invited public comment on whether these or other issues should be addressed in the regulations and, if so, what specific rules and principles should be provided. On August 21, 2006, the IRS and the Treasury Department published in theFederal Register(REG–168745–03, 2006–2 C.B. 532 [71 FR 48590–01]) pro- posed amendments to the regulations un- der section 263(a) (2006 proposed regula- tions) relating to amounts paid to acquire, produce, or improve tangible property. The IRS and the Treasury Department received numerous written comments on the 2006 proposed regulations and held a public hearing on December 19, 2006. On March 10, 2008, after consideration of the comment letters and the statements at the public hearing, the IRS and the Treasury Department withdrew the 2006 proposed regulations and proposed new regulations (2008 proposed regulations) in the Federal Register(73 FR 47 12838–01) under sections 162(a) (relating to the deduction for ordinary and necessary trade or business expenses) and 263(a) (relating to the capitalization requirement). The IRS and the Treasury Department received several comment letters on the 2008 proposed regulations and held a public hearing on the 2008 proposed regulations on June 24, 2008. After considering the comment letters and the statements at the public hearing, the IRS and the Treasury Department are issuing temporary regulations amending 26 CFR part 1. The IRS and the Treasury Department are also withdrawing the 2008 proposed regulations and are proposing new regulations that incorporate the text of these temporary regulations. Explanation of Provisions I.Overview Section 263(a) generally requires the capitalization of amounts paid to acquire, produce, or improve tangible property. These temporary regulations provide a general framework for capitalization and retain many of the provisions of the 2008 proposed regulations, which in many in- stances incorporated standards from exist- ing authorities under section 263(a). The temporary regulations also modify several sections of the 2008 proposed regulations in response to comments received and to achieve results that are more consistent with the established authorities. The tem- porary regulations adopt the same general format as the 2006 and 2008 proposed reg- ulations, whereby §1.263(a)–1T provides general rules for capital expenditures, §1.263(a)–2T provides rules for amounts paid for the acquisition or production of tangible property, and §1.263(a)–3T provides rules for amounts paid for the improvement of tangible property. The temporary regulations also adopt and re- fine many of the rules contained in the 2008 proposed regulations. For example, the temporary regulations adopt and refine the definition and treatment of materials and supplies under §1.162–3T, thede min- imisrule for the acquisition and production of property under §1.263(a)–2T, and the safe harbor for routine maintenance under §1.263(a)–3T. April 2, 20126152012–14 I.R.B. The temporary regulations also mod- ify some of the rules set out in the 2008 proposed regulations. For example, the temporary regulations revise certain rules for determining whether there has been an improvement to a unit of property under §1.263(a)–3T. Notably, the temporary reg- ulations revise the rules for determining whether an amount is paid for an improve- ment to a building. The temporary regu- lations also revise the rule for determining whether an amount is paid for the replace- ment of a major component or substantial structural part of a unit of property. In ad- dition, the temporary regulations include numerous new and revised examples to il- lustrate the application of the improvement rules. Finally, the temporary regulations provide several additional rules that were not included in the 2008 proposed regula- tions. For example, the temporary regula- tions provide rules under §1.263(a)–3T(f) for the treatment of amounts paid to im- prove leased property and provide rules under §1.168(i)–8T that revise the defini- tion ofdispositionfor property subject to section 168 to include the retirement of a structural component of a building. II.Materials and Supplies Under §1.162–3 Section 1.162–3 provides, in part, that a taxpayer carrying materials and supplies on hand should include in expenses the charges for materials and supplies only in the amount that are actually consumed andusedinoperationduringthetaxable year for which the return is made. Section 1.162–3 does not define materials and supplies; however various judicial and administrative authorities have ruled on whether property constitutes a material or supply (rather than inventory or depre- ciable property).See, for example, Rev. Rul. 81–185, 1981–2 C.B. 59; Rev. Rul. 78–382, 1978–2 C.B. 111. In response to practitioner comments that the 2006 proposed regulations failed to address the relationship between the treatment of acquisitioncosts and the treat- ment of materials and supplies, the 2008 proposed regulations proposed substantial modifications to §1.162–3. The 2008 pro- posed regulations defined materials and supplies as tangible property that is used or consumed in the taxpayer’s operations that (1) is not a unit of property or acquired as part of a single unit of property; (2) is a unit of property that had an economic useful life of 12 months or less, beginning when the property was used or consumed; (3) is a unit of property that had an acqui- sition or production cost (as determined under section 263A) of $100 or less; or (4) is identified as a material and supply in future published guidance. In addition, the 2008 proposed regulations adopted the general rule that incidental materials and supplies (for which no inventories or records of consumption are maintained) are deductible in the year purchased and that non-incidental materials and supplies are not deductible until the year in which they are used or consumed in the tax- payer’s operations. The 2008 proposed regulations in- cluded a specific rule for the treatment of rotable or temporary spare parts that otherwise met the definition of materi- als and supplies. Because rotable and temporary spare parts are typically re- moved, repaired, and reused over a period of years, the 2008 proposed regulations treated rotable and temporary spare parts as used or consumed in the taxable year in which a taxpayer disposed of the rotable or temporary part. The temporary regulations generally retain the framework set forth in the 2008 proposed regulations for materials and supplies. In response to practitioner and industry comments, however, the tem- porary regulations modify and expand the definition of materials and supplies, provide an alternative optional method of accounting for rotable and temporary spare parts, and provide an election to treat certain materials and supplies under thede minimisrule of §1.263(a)–2T. In addition, consistent with the 2008 proposed regu- lations, the temporary regulations allow a taxpayer to elect to capitalize certain materials and supplies. A.Definition of materials and supplies The 2008 proposed regulations defined the first category of materials and supplies as tangible property used and consumed in the taxpayers operations, not constituting a unit of property under §1.263(a)–3(d)(2), and not acquired as part of a single unit of property. Under this definition, many component parts acquired separately from an existing unit of property would not be treated as materials and supplies if they were treated as separate units of property under §1.263(a)–3(d)(2). The IRS and the Treasury Department intended that these components generally qualify as materi- als and supplies. Therefore, the tempo- rary regulations redefine the first category of materials and supplies by further de- scribing the types of components that qual- ify and by eliminating the requirement that such property not be a unit of property un- der §1.263(a)–3T(d)(2). Under the tempo- rary regulations, the first category of ma- terials and supplies includes components that are acquired to maintain, repair, or im- prove a unit of tangible property owned, leased, or serviced by the taxpayer and that are not acquired as part of any single unit of property. In addition, the temporary regulations provide a new category of materials and supplies. One commentator suggested that the IRS and the Treasury Department consider the treatment of certain property that does not fit clearly into any of the categories set out in the 2008 proposed regulations but that generally is not con- sidered depreciable property or inventory property, such as fuel, water, or lubricants. The temporary regulations add a category of materials and supplies for fuel, lubri- cants, water, and similar items that are reasonably expected to be consumed in 12 months or less, beginning when used in the taxpayer’s operations. In addition, the IRS and the Treasury Department received several comments re- questing that the definition of materials and supplies raise the specified acquisition or production cost threshold from $100 or less to $500 or less and that this specified amount be indexed for inflation. The tem- porary regulations retain the $100 limita- tion to avoid possible inappropriate distor- tions of a taxpayer’s income. The tem- porary regulations add language, however, that gives the IRS and the Treasury Depart- ment the flexibility to change the amount of the limitation by future published guid- ance. Moreover, a taxpayer with applica- ble financial statements will be permitted to deduct amounts paid for property up to higher thresholds if it complies with the re- quirements set out in thede minimisrule provided in §1.263(a)–2T. Finally, several commentators ques- tioned the effect of proposed §1.162–3 on certain safe harbor revenue procedures that 2012–14 I.R.B.616April 2, 2012 permit taxpayers to treat certain property as materials and supplies. For example, Rev. Proc. 2002–12, 2002–1 C.B. 374, allows a taxpayer to treat smallwares as materials and supplies that are not inci- dental under §1.162–3. Similarly, Rev. Proc. 2002–28, 2002–1 C.B. 815, allows a qualifying small business taxpayer to treat certain inventoriable items in the same manner as materials and supplies that are not incidental under §1.162–3. The temporary regulations do not super- sede, obsolete, or replace these revenue procedures to the extent they deem cer- tain property to constitute materials and supplies under §1.162–3. This designated property continues to qualify as materials and supplies under the temporary regu- lations because the property is identified in published guidance as materials and supplies. B.Optional method for rotable or temporary spare parts The 2008 proposed regulations pro- posed to allow a deduction for amounts paid for rotable or temporary spare parts when the parts were discarded from the taxpayer’s operations. Alternatively, a taxpayer could elect to capitalize and de- preciate rotable spare parts over the parts’ applicable recovery period. The IRS and the Treasury Department received comments stating that the re- quirement to defer the deduction of rotable spare parts until the year of disposition is inconsistent with the method that many taxpayers currently use for rotable spare parts and would result in an administrative burden for those taxpayers. One commen- tator explained that, under this method, a taxpayer deducts an amount paid for a new rotable spare part in the taxable year in which it installs the rotable part in its equipment. The taxpayer includes in in- come and assigns a costbasis equal to the fair market value of the used, non-func- tioning part, and capitalizes the costs of repairing the part. If the repaired part is later used as a replacement part in the tax- payer’s equipment, the taxpayer deducts the basis of the part in the taxable year it is re-installed. This cycle continues until disposition of the part. The temporary regulations generally adopt the recommendations of the com- mentator and include the proposed method of accounting for rotable parts as an op- tional method. This optional method may be used as an alternative to treating the parts as used or consumed in the year of disposition or electing to treat the parts as depreciable assets. If a taxpayer chooses to use the optional method, the method must be used for all of the taxpayer’s rotable and temporary spare parts in the same trade or business. C.Election to deduct materials and supplies under the de minimis rule The IRS and the Treasury Department received several comments requesting that the regulations clarify whether a taxpayer may apply thede minimisrule contained in §1.263(a)–2 of the 2008 proposed reg- ulations to units of property that were also treated as materials and supplies un- der §1.162–3 of the proposed regulation. Under the proposedde minimisrule, a taxpayer was not required to capitalize amounts paid for the acquisition or pro- duction of a unit of property if the taxpayer met certain requirements set out in that regulation. The proposedde minimisrule provided a taxpayer with more favor- able treatment (that is, deduction when an amount is paid or incurred) than the treatment of materials and supplies un- der the general rule of §1.162–3 (that is, deduction when property is used or con- sumed). Commentators indicated that the requirement to differentiate and separately account for certain materials and supplies is impractical and presents an administra- tive burden that is inconsistent with the purpose of thede minimisrule. Thus, commentators requested that a taxpayer be permitted to apply thede minimisrule of §1.263(a)–2, rather than the materials and supplies rules, to the costs of any unit of property that meets the definition of materials and supplies. The temporary regulations adopt this recommendation and allow a taxpayer to elect to apply thede minimisrule of §1.263(a)–2T(g) to the costs of acquir- ing or producing any type of material or supply defined in §1.162–3T if such costs meet the requirements of thede minimis rule. Thus, a taxpayer may apply a single timing rule (that is, deduction when paid or incurred) to any unit of property, includ- ing materials and supplies, to the extent the aggregate amount paid for such prop- erty does not exceed the limit described in §1.263(a)–2T(g)(1)(iv). D.Election to capitalize materials and supplies The temporary regulations retain the rule from the 2008 proposed regulations that permits a taxpayer to elect to cap- italize and depreciate amounts paid for certain materials and supplies. Several commentators questioned the effect of this provision and the other new rules under proposed §1.162–3 on previous IRS pro- nouncements that distinguished certain depreciable propertyfrom materials and supplies.See, for example, Rev. Rul. 2003–37, 2003–1 C.B. 717 (permitting taxpayers to treat certain rotable spare parts used in a service business as depre- ciable assets); Rev. Rul. 81–185, 1981–2 C.B. 59 (concluding that major standby emergency spare parts are depreciable property); Rev. Rul. 69–201, 1969–1 C.B. 60 (holding that standby replacement parts used in pit mining business are items for which depreciation is allowable); Rev. Rul. 69–200, 1969–1 C.B. 60 (holding that flight equipment rotatable spare parts and assemblies are tangible property for which depreciation is allowable while expendable flight equipment spare parts are materials and supplies); Rev. Proc. 2007–48, 2007–2 C.B. 110 (providing a safe harbor method of accounting to treat certain rotable spare parts as depreciable assets). Section 1.162–3T isapplicable to all materialsandsuppliesasdefinedunder that provision, including certain types of property that were treated as depreciable property under previously published guid- ance. Thus, for example, the temporary regulations modify Rev. Rul. 2003–37, Rev. Rul. 81–185, Rev. Rul. 69–200, and Rev. Rul. 69–201 to the extent that the temporary regulations characterize certain tangible properties addressed in these rul- ings as materials and supplies. However, the temporary regulations permit taxpay- ers to elect to treat these properties as as- sets subject to the allowance for deprecia- tion consistent with the holdings in these revenue rulings. In addition, the IRS and the Treasury Department recognize that Rev. Proc. 2007–48 may need to be re- vised to address the treatment of certain rotable spare parts defined as materials and April 2, 20126172012–14 I.R.B. supplies under the temporary regulations. Thus, comments are requested on the ap- plication of the safe harbor method in this context. III.Repairs Under §1.162–4 The 2008 proposed regulations pro- posed to revise §1.162–4 (the repairs regu- lation) to provide rules consistent with the improvement rules under §1.263(a)–3 of the proposed regulations. The 2008 pro- posed regulations provided that amounts paid for repairs and maintenance to tangi- ble property are deductible if the amounts paid are not required to be capitalized un- der §1.263(a)–3. The IRS and Treasury Department received no comments on this proposed regulation. The temporary regulations retain the rule from the 2008 proposed regulations and clarify that a tax- payer is permitted to deduct amounts paid to repair and maintain tangible property provided such amounts are not required to be capitalized under section 263(a) or any other provision of the Code or regulations. See, for example, section 263A and the regulations thereunder. IV.Rentals Under §1.162–11 and Leased Property Under §1.167(a)–4 The existing regulations under §1.162–11 provide rules for the treatment of amounts paid (1) to acquire a leasehold and (2) for leasehold improvements by a lessee on a lessor’s property. The tem- porary regulations do not amend the rule in §1.162–11(a) that provides that a tax- payer may amortize the cost of acquiring a leasehold over the term of the lease. The temporary regulations make only minor revisions to the rule in §1.162–11(b) that provides that the cost of erecting a build- ing or making a permanent improvement to property leased by the taxpayer is a capital expenditure and is not deductible as a business expense. Section 1.162–11(b) of the existing regulations also provides that a taxpayer lessee may amortize a leasehold improve- ment over the shorter of the estimated useful life of the improvement or the re- maining period of the lease. A similar rule exists in §1.167(a)–4. In that respect, the existing regulations do not reflect the amendments made to sections 168 and 178 by sections 201(a) and 201(d)(2)(A), respectively, of the Tax Reform Act of 1986, Public Law 99–514. See sections 168(i)(6) and (8), which require a lessee or lessor to depreciate or amortize leasehold improvements under the cost recovery provisions of the Code applicable to the improvements, without regard to the term of the lease. Accordingly, the tempo- rary regulations both amend the rules in §§1.162–11(b) and 1.167(a)–4 to provide that a lessee or lessor must depreciate or amortize its leasehold improvements under the cost recovery provisions of the Internal Revenue Code applicable to the improvements, without regard to the term of the lease, and also remove the rules permitting amortization over the shorter of the estimated useful life or the term of the lease. For example, if the leasehold improvement is property to which section 168 applies, the leasehold improvement is depreciated under section 168. Section 1.162–11T(b) also includes cross refer- ences to §1.263(a)–3T(f)(1) (regarding improvements to leased property) and to §1.167(a)–4T (regarding depreciation or amortization deductions for leasehold im- provements). V.Amounts Paid to Acquire or Produce Tangible Property Under §1.263(a)–2T The 2008 proposed regulations pro- vided rules for the capitalization of amounts paid to acquire or produce units of tangible property. The temporary regu- lations retain most of these rules, including the general requirement to capitalize ac- quisition and production costs, and the requirement to capitalize amounts paid to defend and perfect title to property. In response to comments received, the tem- porary regulations clarify the application of the rules to moving and reinstallation costs; retain the rule for costs incurred prior to placing property into service; add and clarify certain rules with respect to transaction costs; and modify and refine thede minimisrule. A.Moving and reinstallation costs An example in the 2008 proposed reg- ulations illustrated that a taxpayer gener- ally is not required to capitalize the costs of moving tangible personal property already placed in service from one facility to an- other similar facility. Several commenta- tors expressed concern, however, that the example in the 2008 proposed regulations omitted any discussion of the treatment of amounts paid to reinstall the unit of prop- erty in the new location. Amounts paid to move and reinstall a unit of property that has already been placed in service by the taxpayer generally are not amounts paid to acquire or produce a unit of property. Thus, these costs are not required to be capitalized under the rules for acquisition or production of property. But, if the costs of moving and reinstalling a unit of prop- erty directly benefit, or are incurred by rea- son of, an improvement to the unit of prop- erty that is moved and reinstalled, such costs are required to be capitalized. The temporary regulations address these types of moving and reinstallation costs in exam- ples provided in §1.263(a)–3T(h)(4), gov- erning improvements to property. B.Work performed prior to placing property into service The 2008 proposed regulations pro- vided that acquisition costs include costs for work performed on a unit of property prior to the date the unit of property is placed in service. Several commentators expressed concern that this rule would require a taxpayer to capitalize generally deductible costs, such as repair costs, if they were incurred prior to placing the unit of property in service. One commentator suggested that the regulations allow a tax- payer to rebut the presumption that these costs are acquisition costs. Amounts paid for work performed on a unit of property prior to placing the prop- erty in service are related to the acquisition of the unit of property and, therefore, must be treated as an acquisition cost. The tem- porary regulations do not incorporate a rebuttable presumption in this rule because there are very few, if any, costs to which the presumption would apply. Moreover, a rebuttable presumption is more subjective and difficult to administer. Thus, the tem- porary regulations retain the bright-line rule that requires a taxpayer to capitalize costs that are incurred prior to the date a unit of property is placed in service. C.Transaction costs The 2008 proposed regulations pro- vided that a taxpayer must, in general, capitalize amounts paid to facilitate the acquisition or production of real or per- sonal property. They included a rule that 2012–14 I.R.B.618April 2, 2012 provided that costs relating to activities performed in the process of determin- ing whether to acquire real property and which real property to acquire generally are deductible pre-decisional costs unless they are described in the regulations as in- herently facilitative costs. The temporary regulations retain the general rule in the 2008 proposed regulations and the rules defining the costs that facilitate the ac- quisition or production of real or tangible property. The temporary regulations also clarify that a taxpayer may be required to allocate certain facilitative costs be- tween personal property and real property acquiredinasingletransaction. Accord- ingly, the temporary regulations add a “reasonable allocation” rule to assist a taxpayer in making allocations of facilita- tive costs between personal property and real property. In addition, the temporary regulations provide that a taxpayer may allocate inherently facilitative amounts to separate units of property that are consid- ered, but not acquired, and recover such costs in accordance with applicable sec- tions of the Code and regulations. The temporary regulations do not accommo- date commentators’ requests to extend the rule permitting deduction of certain pre-decisional costs of acquiring real prop- erty to personal property because such a rule could generate controversy over un- duly small amounts. D.De minimis rule The 2008 proposed regulations pro- vided that a taxpayer must capitalize amounts paid to acquire or produce a unit of real or personal property, includ- ing the related transaction costs. Under the proposedde minimisrule, however, a taxpayer was not required to capitalize amounts paid for the acquisition or pro- duction (including any amounts paid to facilitate the acquisition or production) of a unit of property if (1) the taxpayer had an applicable financial statement (AFS) as defined in the regulation; (2) the taxpayer had, at the beginning of the taxable year, written accounting procedures treating as an expense for non-tax purposes the amounts paid for property costing less than a certain dollar amount; (3) the tax- payer treated the amounts paid during the taxable year as an expense on its AFS in accordance with its written accounting procedures; and (4) the total aggregate of amounts paid and not capitalized for the taxable year under this provision did not distort the taxpayer’s income for the taxable year (the “no distortion require- ment”). The IRS and the Treasury Department included the no distortion requirement in the 2008de minimisrule in an effort to limit the deduction to amounts that clearly reflected income under section 446. To ease the administrative burden of determining whether amounts expensed under thede minimisrule distorted tax- able income, the 2008 proposed regula- tions included a safe harbor. Under this safe harbor, an amount deducted under the AFS-basedde minimisrule for the taxable year would be deemed not to distort income if that amount (when added to the amounts deducted in the taxable year as materials and supplies for units of property costing $100 or less) was less than or equal to the lesser of 0.1 percent of the taxpayer’s gross receipts for the taxable year or 2 percent of the taxpayer’s total AFS depreciation and amortization for the taxable year. The preamble to the 2008 proposed regulations clarified that, depending on a taxpayer’s particular facts and circumstances, an amount in excess of the safe harbor would not necessarily result in a distortion of income. A number of commentators approved of the concept of an AFS-basedde minimis rule but were critical of the inclusion of the no distortion requirement. The commen- tators expressed concern that the no dis- tortion requirement would increase contro- versy, was burdensome, and was contrary to the regulation’s goal of clarity and cer- tainty. Some commentators asserted that the imposition of a financial conformity re- quirement on the use of ade minimisrule established its own safeguards with respect to the materiality of the deductions under thede minimisrule. In addition, some commentators sug- gested that if the no distortion require- ment were retained in the final regula- tions, the safe harbor limits should be set at a higher level. The IRS and the Trea- sury Department also received comment letters requesting that thede minimisrule be expanded to a taxpayer without an AFS by setting specificde minimisthreshold amounts. Thede minimisrule under the tem- porary regulations retains the require- ment that a taxpayer may deduct certain amounts paid for tangible property if the taxpayer has an AFS, has written account- ing procedures for expensing amounts paid for such property under certain dollar amounts, and treats such amounts as ex- penses on its AFS in accordance with such written accounting procedures. However, the temporary regulations replace the no distortion requirement with an overall ceiling that generally limits the total ex- penses that a taxpayer may deduct under thede minimisrule. The new criteria man- dates that the aggregate of amounts paid and not capitalized under thede minimis rule for the taxable year must be less than or equal to thegreaterof (1) 0.1 percent of the taxpayer’s gross receipts for the taxable year as determined for Federal income tax purposes; or (2) 2.0 percent of the taxpayer’s total depreciation and amortization expense for the taxable year as determined in its AFS. The use of a ceiling provides an objec- tive and administrable limit on a taxpayer’s totalde minimisexpense deduction and does not require an independent analysis to determine whether the amount clearly reflects the taxpayer’s income. While a taxpayer’s treatment onits financial state- ments provides a reasonable foundation for determining a taxpayer’sde minimis expenses, the application of certain limits, based on a percentage of gross receipts or percentage of depreciation expense, is sup- ported by the case law and the clear reflec- tion of income principle under section 446. See, for example,Cincinnati, New Orleans &Tex.Pac.Ry.Co.v.UnitedStates,424 F.2d 563 (Ct. Cl. 1970);Alacare Home Health Services, Inc. v. Commissioner, T.C. Memo. 2001–149. In response to several comment letters, the temporary regulations also add and modify several provisions governing the application of thede minimisrule. For example, temporary regulations eliminate the requirement in the 2008 proposed regulations that, in calculating whether a taxpayer’sde minimisamount exceeds the ceiling, the taxpayer must also include the amounts deducted under proposed §1.162–3 as materials and supplies cost- ing $100 or less. Under the temporary regulations, amounts paid for materials and supplies are subject to thede min- April 2, 20126192012–14 I.R.B. imisceiling only if the taxpayer elects under §1.162–3T to treat those materials or supplies under thede minimisrule of §1.263(a)–2T. In addition, the temporary regulations eliminate the exceptions from the proposedde minimisrule for property acquired for repairs and property acquired for improvements. Thus, thede minimis rule may be applied to these amounts. However, thede minimisrule does not apply to amounts paid for labor and over- head incurred in repairing or improving property. The IRS and the Treasury Department received one comment letter suggesting that that the temporary regulations clarify the application of thede minimisrule to a member of a consolidated group. In response, the temporary regulations add a provision that permits a member to uti- lize the written accounting procedures provided on the applicable financials state- ments of its affiliated group. The IRS and the Treasury Department intend to give further consideration to the application of thede minimisrule in a consolidated group setting. In this regard, the IRS and the Treasury Department request additional comments on the manner in which the de minimisrule, including thede minimis rule limitations, may be applied to, and based on, the tax and financial results of a consolidated group. Thede minimisrule in the temporary regulations is not intended to prevent a tax- payer from reaching an agreement with its IRS examining agents that, as an admin- istrative matter, based on risk analysis or materiality, the IRS examining agents will not review certain items. It is not intended that examining agents must now revise their materiality thresholds in accordance with thede minimisrule ceiling. Thus, if examining agents and a taxpayer agree that certain amounts in excess of thede minimis rule ceiling are immaterial and should not be subject to review, that agreement should be respected, notwithstanding the require- ments of thede minimisrule in the tem- porary regulations. However, a taxpayer that seeks a deduction for amounts in ex- cess of the amount allowed by this rule or by agreement with IRS examining agents will have the burden of showing that such treatment clearly reflects income. Finally, the temporary regulations do not expand thede minimisrule to a tax- payer without an AFS or provide specific de minimisamounts deductible by a tax- payer in this context. A taxpayer with- out an AFS does not have a consistent, audited methodology for determiningde minimisexpenses, and as a result, the IRS would have little or no assurance that a tax- payer without an AFS was using a reason- able, consistent methodology that clearly reflects income. However, the temporary regulations provide some relief for a tax- payer without an AFS by providing a de- duction under §1.162–3T for materials and supplies that cost $100 or less. The IRS and the Treasury Department request com- ments addressingde minimisrule alterna- tives that would substantiate the use of a reasonable and consistent methodology and ensure clear reflection of income for determiningde minimisexpenses for a tax- payer without an AFS. VI.Amounts to Improve Property Under §1.263(a)–3T A.Overview The temporary regulations retain the basic framework of the 2008 proposed regulations for determining the unit of property and for determining whether there is an improvement to the unit of property. The temporary regulations also retain many of the simplifying conventions set out in the 2008 proposed regulations, including the routine maintenance safe harbor and the optional regulatory ac- counting method. As explained below, the temporary regulations also modify the 2008 proposed regulations in several ar- eas. A goal of both the 2006 and 2008 pro- posed regulations was to reduce contro- versy and provide clarity in determining whether an amount is paid for an improve- ment that must be capitalized under section 263(a). In several respects, however, the more objective rules provided in the 2008 proposed regulations limited the circum- stances in which an amount paid would be capitalized as an improvement. First, the 2008 proposed regulations defined the unit of property for a building as the build- ing and its structural components. Thus, work performed on a building would rise to the level of an improvement only if it resulted in a betterment or restoration (or a new or different use) when applied to the building and its structural components as a whole. Second, the restoration rules under the 2008 proposed regulations pro- vided that a taxpayer did not have to capi- talize, or treat as an improvement, amounts paid to replace a major component or sub- stantial structural part of a unit of property unless those amounts were paid after the recovery period for the property, and either (1) the replacement cost comprised 50 per- cent or more of the replacement cost of the entire unit of property, or (2) the replace- ment parts comprised 50 percent or more of the physical structure of the unit of prop- erty (“the 50 percent thresholds”). Thus, capitalization underthe major component rule applied only if the property was fully depreciated and either of the 50 percent thresholds were triggered. These sections of the 2008 proposed regulations would have led to results that were contrary to long-standing case law (discussed below) and inconsistent with the way most taxpayers had treated these items for tax purposes. Although the pre- amble to the 2008 proposed regulations provided that a taxpayer should not rely on the proposed rules, many taxpayers ap- plied to change their methods of account- ing from capitalizing certain expenditures to deducting these expenditures as repairs based on the standards in the 2008 pro- posed regulations. The 2008 proposed regulations limited capitalization and allowed more frequent deductions for work performed on tangi- ble property, in part, to lessen the effects of depreciation and disposition rules un- der section 168 (MACRS). Under section 168(i)(6), a taxpayer is required to depre- ciate an amount paid for an improvement using the same recovery period and the same depreciation method as the under- lying property, with the recovery period beginning when the improvement is placed in service. In addition, §1.168–2(l)(1) of the proposed ACRS regulations (which have been generally applied to MACRS property) provides that a disposition does not include the retirement of a structural component of a building. Accordingly, §1.168–6(b) of the proposed ACRS reg- ulations provides that no loss shall be recognized upon the retirement of a struc- tural component of a building. Thus, if a taxpayer replaced a structural component of a building during the recovery period of the building, the taxpayer could not immediately recover the basis allocable 2012–14 I.R.B.620April 2, 2012 to the removed component, but rather had to continue to depreciate it as part of the building. If the taxpayer were required to capitalize the costs of the replacement component under section 263(a), then the taxpayer would be required to depreciate contemporaneously both the retired com- ponent and the replacement component. To achieve results more consistent with existing law and to provide relief from the potential inequities that can result from the application of the depreciation and disposition rules, the temporary regula- tions revise and amend the 2008 proposed regulations in several respects. First, the temporary regulations retain the rule from the 2008 proposed regulations that the unit of property for a building consists of the building and its structural components. However, the temporary regulations revise the manner in which the improvement standards must be applied to the building and its structural components. In deter- mining whether an amount paid is for an improvement to the building, the tem- porary regulations require a taxpayer to consider the effect of the expenditure on certain significant andspecifically defined components of the building, rather than the building and its structural components as a whole. Second, the temporary reg- ulations do not include the 50 percent thresholds and recovery period limitation for determining whether a replacement rises to the level of a major component or substantial structural part of a unit of prop- erty. Finally, the temporary regulations include new provisions under section 168 that expand the definition of dispositions to include the retirement of a structural component of a building. This change allows a taxpayer to recognize a loss on the disposition of a structural component of a building before the disposition of the entire building, so that a taxpayer will not have to continue to depreciate amounts allocable to structural components that are no longer in service. Thus, under the temporary regulations, a taxpayer is not required to capitalize and depreciate si- multaneously amounts paid for both the removed and the replacement properties. The IRS and the Treasury Depart- ment recognize that it may be difficult for taxpayers to determine specifically the amount of the adjusted basis of the property that is allocable to the retired component. This difficulty may be partic- ularly acute in industries where a taxpayer has capitalized a number of improvements as part of cyclical remodels or renovations. Comments are requested on computa- tional methodologies or safe harbors that a taxpayer may use to simplify this deter- mination. In addition to these changes, the tempo- rary regulations incorporate more detailed rules for determining the units of prop- erty for condominium, cooperatives, and leased property, for the treatment of lease- hold improvements, and for additional costs incurred during an improvement, such as related repair and maintenance costs. The temporary regulations also clarify various examples and add new ex- amples illustrating the treatment of items such as moving and reinstallation costs, retail remodeling costs, and the costs of replacing major components. B.Determining the unit of property 1. Overview The 2008 proposed regulations gener- ally defined a unit of property as consisting of all the components of the unit of prop- erty that are functionally interdependent. The proposed regulations, however, pro- vided special rules for determining the unit of property for buildings, plant property, and network assets. For property other than buildings, the 2008 proposed regu- lations further refined the units of prop- erty by treating a functionally interdepen- dent component as a separate unit of prop- erty if the taxpayer initially assigned a dif- ferent economic useful life to the compo- nent for financial statement or regulatory purposes or if the taxpayer assigned a dif- ferent MACRS class or recovery method to the component. The temporary regula- tions retain most of these rules for deter- mining units of property, with minor ex- ceptions. In addition, the temporary reg- ulations clarify the application of the im- provement rules to the unit of property for buildings and set out more detailed rules for applying these rules to condo- miniums, cooperatives, and leased prop- erty. The temporary regulations also con- tain new and revised provisions address- ing the treatment of, and the unit of prop- erty determination for, leasehold improve- ments. 2. Buildings and Structural Components The 2008 proposed regulations retained the rule from the 2006 proposed regu- lations that the building (as defined in §1.48–1(e)(1)) and its structural compo- nents (as defined in §1.48–1(e)(2)) are a single unit of property. In response to the 2008 proposed regulations, the IRS and the Treasury Department did not re- ceive any comments addressing the unit of property for buildings. After issuance of the 2008 proposed regulations, however, many taxpayers claimed that major work performed on buildings did not result in an improvement because the work affected only a small portion of the unit of property, that is, the entire building. Under this anal- ysis, for example, taxpayers claimed that the costs of new roofs, replacements of en- tire heating and air conditioning systems, and major structural changes to building interiors were all deductible as repairs or maintenance. Moreover, taxpayers may have viewed the 50 percent thresholds and recovery period limitation exceptions to the major component and substantial structural part rule as consistent with the conclusion that these types of expenses should generally be treated as deductible repair or maintenance costs. Although the preamble to the 2008 proposed regulations explicitly stated that a taxpayer should not rely on the proposed rules, many taxpayers regarded these rules as the IRS’s and the Treasury Department’s interpretation of current law. The temporary regulations revise the 2008 standards in several respects to achieve results that are more consistent with current law. The temporary reg- ulations retain the general rule that the unit of property for a building is com- prised of the building and its structural components. The temporary regulations, however, require that a taxpayer apply the improvement standards separately to the primary components of the building, that is, the building structure or any of the specifically defined building systems. Thus, a cost is treated as a capital expendi- ture if it results in an improvement to the building structure or to any of the specif- ically enumerated building systems. The temporary regulations define the building structure as the building (as defined in §1.48–1(e)(1)) and its structural compo- nents (as defined in §1.48–1(e)(2)) other April 2, 20126212012–14 I.R.B. than the components specifically enumer- ated as building systems. The temporary regulations define building systems to in- clude (1) the heating, ventilation, and air conditioning systems (“HVAC”); (2) the plumbing systems; (3) the electrical sys- tems; (4) all escalators; (5) all elevators; (6) the fire protection and alarm systems; (7) the security systems; (8) the gas distri- bution systems; and (9) any other systems identified in published guidance. Accordingly, if an amount paid results in a restoration of a building structure, such as the replacement of an entire roof, then under the temporary regulations the ex- penditure constitutes an improvement to the building unit of property. Similarly, if an amount paid results in a betterment to a building system, such as an improve- ment to the HVAC system, then the expen- diture also constitutes an improvement to the building unit of property. Compared to the approach provided in the 2008 pro- posed regulations, the approach contained in these temporary regulations produces results that are more consistent with cur- rent law.See, for example,Smith v. Com- missioner, 300 F.3d 1023 (9 th Cir. 2002) (holding that costs to replace a substan- tial portion of floor were capital expen- ditures);Tsakopoulous v. Commissioner, T.C. Memo. 2002–8 (holding that costs to replace the roof on a portion of the suites of a shopping center were capital expendi- tures);Hill v. Commissioner,T.C.Memo. 1983–112 (holding that costs to replace the water heater and furnace in rental property were capital expenditures);Stewart Sup- ply Co. v. Commissioner, T.C. Memo. 1963–62 (holding that costs to replace the front wall of a building and make electri- cal connections to that wall were capital expenditures);First Nat’l Bank v. Com- missioner,30 B.T.A. 632 (1934) (holding that costs of replacing the electrical system in a bank building were capital expendi- tures);Georgia Car and Locomotive Co., 2 B.T.A. 986 (1925) (holding that costs of a new roof on a building were capital ex- penditures). The approach for buildings is conceptually similar to the plant prop- erty rule discussed below, which segre- gates plant property into units of property that perform discrete and major functions within the plant. a. Condominiums and cooperatives The 2008 proposed regulations pro- vided that the unit of property for a condo- minium was the individual unit owned by the taxpayer and that the unit of property for a cooperative was the individual unit possessed by the taxpayer. The temporary regulations provide additional detail defin- ing the unit of property for condominiums and cooperatives and provide additional guidance for applying the improvement rules to these units of property. The tempo- rary regulations provide that for the owner of a condominium, the unit of property is the individual unit owned by the taxpayer and the structural components that are part of the condominium unit. Similarly, for a taxpayer that has an ownership interest in a cooperative housing corporation, the unit of property is the portion of the building in which the taxpayer has possessory rights and the structural components that are part of the portion of the building subject to the taxpayer’s possessory rights. For both condominiums and cooperatives, how- ever, the temporary regulations provide that an amount is paid for an improvement to these units of property if the amount results in an improvement to the building structure that is part of the condominium or cooperative unit or to the portion of any building system that is part of the condo- minium or cooperative unit. b. Leased buildings (taxpayer as lessee) The 2008 proposed regulations did not address the unit of property for leased property. The IRS and the Treasury De- partment received several comments re- questing that the regulations include more detailed rules regarding the unit of prop- erty for leased property and the unit of property for leasehold improvements. The temporary regulations define the unit of property for leased buildings and provide that if a taxpayer is a lessee of all or a portion of one or more buildings (such as an office, floor, or certain square footage), the unit of property is each building and its structural components or the portion of each building subject to the lease and the structural components associated with the leased portion. The temporary regulations also provide that an amount is paid for an improvement to a leased building or a leased portion of a building if the amount paid results in an improvement to the leased building structure (or the portion thereof subject to the lease) or any of the leased building systems (or the portion thereof subject to the lease). 3. Property Other Than Buildings The 2008 proposed regulations gener- ally defined the unit of property for real and personal property other than buildings to include all functionally interdependent components. Components were defined as functionally interdependent if placing one component in service depends on placing the other component in service. Special rules were provided for plant property and network assets. The temporary regulations retain the functional interdependence test as the general rule for determining the unit of property for real and personal property other than buildings. The temporary reg- ulations also continue to provide special rules for plant property and network as- sets. However, the temporary regulations remove the rule requiring taxpayers to treat a functionally interdependent com- ponent as a separate unit of property if the taxpayer initially assigned a different economic useful life to the component for financial statement or regulatory purposes. In addition, the temporary regulations in- clude a rule for determining the unit of property for leased property other than buildings. a. Plant property Under the 2008 proposed regulations, a unit of property for plant property gen- erally was comprised of each component (or group of components) within the plant that performs a discrete and major func- tion or operation within functionally inter- dependent machinery or equipment. The discrete and major function rule provides a reasonable and administrable limitation on the functional interdependence standard, which otherwise could be overly broad in its application to industrial equipment. Accordingly, the temporary regulations re- tain the plant property rule as it was pro- posed in the 2008 proposed regulations. b. Network assets The 2008 proposed regulations gen- erally defined network assets as railroad 2012–14 I.R.B.622April 2, 2012 track, oil and gas pipelines, water and sewage pipelines, power transmission and distribution lines, and telephone and cable lines but reserved defining the unit of prop- erty for network assets in specific indus- tries. The preamble to the 2008 proposed regulations invited industries with network assets to request guidance under the In- dustry Issue Resolution (“IIR”) program. Although several commentators requested that the regulations provide guidance on the units of property for network assets, given the detailed factual issues underpin- ning the proper treatment of such assets, the units of property for network assets are more appropriately determined through guidance tailored to individual industries under the IIR program. The IRS and the Treasury Department have accepted IIR requests from several industries to develop industry specific guidance in this area and encourage other industries with network assets to request guidance under the IIR procedures. The temporary regulations retain the definition of network assets provided in the 2008 proposed regulations and add an operative rule providing that in the case of network assets, the unit of property is determined by the taxpayer’s particular facts and circumstances except as other- wise provided in guidance published in the Federal Registeror the Internal Revenue Bulletin. The functional interdependence standard, by itself, could lead to unit of property definitions for network assets that are overly broad. Thus, functional interde- pendence is not determinative for network assets. Finally, the temporary regulations do not alter or invalidate previously pub- lished guidance addressing the treatment of network assets for particular industries, such as Rev. Proc. 2011–43, 2011–37 I.R.B. 326 (safe harbor method for elec- tric utility transmission and distribution property); Rev. Proc. 2011–28, 2011–18 I.R.B. 743 (network asset maintenance allowance or units of property method for wireless telecommunication network assets); Rev. Proc. 2011–27, 2011–18 I.R.B. 740 (network asset maintenance allowance or units of property method for wireline telecommunication network assets); Rev. Proc. 2002–65, 2002–2 C.B. 700 (track maintenance allowance method for Class II and III railroads); or Rev. Proc. 2001–46, 2001–2 C.B. 263 (track maintenance allowance method for Class I railroads). c. Leased property other than leased buildings The IRS and the Treasury Department received several comments requesting that the proposed regulations include more de- tailed rules regarding the unit of property for leased personal property. The tem- porary regulations provide that a lessee’s unit of property for leased real or per- sonal property other than building prop- erty is determined under the general rules for property other than buildings, includ- ing the functional interdependence test and the plant property rule (as applicable), ex- cept that, after applying those applicable rules, the unit of property may not be larger than the unit of leased property. 4. Unit of Property for Improvements The 2008 proposed regulations pro- vided that an improvement to a unit of property, other than a leasehold improve- ment, is not a unit of property separate from the unit of property improved. The 2008 proposed regulations provided that a leasehold improvement made by a lessee that is section 1250 property is treated as a separate unit of property. The temporary regulations retain the general rule that an improvement is generally not a unit of property separate from the unit of property improved but clarify the rule for lease- hold improvements. As explained below, the temporary regulations provide that only a “lessee improvement,” rather than a “leasehold improvement,” is a unit of property separate from the unit of property improved. Moreover, this rule has been moved to a separate subsection governing the unit of property for improvements. 5. Unit of Property for Leasehold Improvements Current law provides that if a lessee makes a leasehold improvement that is not a substitute for rent, the lessee is gen- erally required to capitalize the cost of the improvement under section 263(a) and §§1.162–11(b) and 1.167(a)–4 and, if the leasehold improvement is property to which section 168 applies, depreciate the improvement under section 168.See section 168(i)(8)(A). Current law, how- ever, does not clearly address the unit of property for leasehold improvements. The 2008 proposed regulations pro- vided that, in the case of a leasehold im- provement made by a lessee that is section 1250 property, the leasehold improve- ment is a separate unit of property. The 2008 proposed regulations did not address leased section 1245 property or discuss the unit of property for improvements made by a lessor. The IRS and the Treasury Department received several comments requesting that the regulations provide ad- ditional guidance on the unit of property for improvements to leased section 1250 property and address the unit of property for improvements to leased section 1245 property. In addition, commentators sug- gested that revised regulations provide operative rules for determining when there has been an improvement to leased prop- erty. In response to the comments, the temporary regulations address whether amounts paid by a lessee or lessor are for the improvement of a unit of leased property, requiringcapital treatment. The temporary regulations also define the unit of property for purposes of determining whether amounts paid subsequent to an initial leasehold improvement must be capitalized. The temporary regulations for lessee improvements are consistent with the rule in the 2008 proposed regulations but pro- vide further elaboration and are extended to section 1245 property. The temporary regulations provide that an amount ini- tially capitalized as a lessee improvement is treated as a cost of acquiring or produc- ing a unit of property, and constitutes a unit of property separate from the leased prop- erty being improved. However, the cost of improving a lessee improvement is not a unit of property separate from the lessee improvement being improved. Treating the lessee’s initial improve- ment as a separate unit of property is based on the premise that, when making a lease- hold improvement, the lessee should be treated as if it has acquired or produced new property. This new property interest is separate and distinguishable from the lessee’s interest in the underlying property. Also, this approach is consistent with the depreciation rules under sections 168(i)(6) and (i)(8)(A), which treat the leasehold improvement as a separate asset for pur- poses of section 168. Finally, treatment April 2, 20126232012–14 I.R.B. of a lessee’s subsequent improvement as part of the lessee’s initial leasehold improvement is consistent with the rule governing the unit of property determina- tion for improvements to owned property, which generally treats the improvement and the property improved as a single unit of property. The temporary regulations also provide a rule for determining the unit of property for a lessor improvement. The temporary regulations provide that an amount capital- ized as a lessor improvement is not a unit of property separate from the unit of prop- erty improved. This rule is based on the premise that the lessor of property gener- ally should be treated in the same man- ner as any other owner of property when it makes an improvement to its property. Thus, in accordance with the general rule for property owners, a lessor improvement to a unit of property is not a unit of prop- erty separate from the property being im- proved. 6. Additional Rules for Determining Units of Property The 2008 proposed regulations in- cluded two additional rules that, if appli- cable, would more narrowly define the unit of property for property other than buildings. The 2008 proposed regulations provided that a component must be treated as a separate unit of property if, at the time the unit of property is placed in service by the taxpayer, the taxpayer has recorded on its books and records for financial or reg- ulatory accounting purposes an economic useful life for the component that is dif- ferent from the economic useful life of the unit of property of which the component is a part (the “book life consistency rule”). The 2008 proposed regulations also pro- vided that a component must be treated as a separate unit of property if the taxpayer has properly treated the component as be- ing within a different MACRS class than the class of the unit of property of which the component is a part, or depreciated the component using a section 167 or section 168 depreciation method different from the depreciation method for the unit prop- erty of which the component is a part (the “depreciation consistency rule”). The IRS and the Treasury Department received several comments requesting that the book life consistency rule be removed from the final regulation. Commentators noted that tax and financial accounting have different goals and that a taxpayer generally has non-tax reasons for clas- sifying property differently for financial accounting purposes. For these reasons, the temporary regulations do not adopt the book life consistency rule contained in the 2008 proposed regulations. The temporary regulations retain the depreciation consistency rule that applies to property, other than buildings, in the taxable year the property is initially placed in service. The temporary regulations add a second depreciation consistency rule that applies if a taxpayer or the IRS properly changes the MACRS class or depreciation method for any type of property (for exam- ple, as a result of a cost segregation study or a change in the use of the property) in a taxable year after the year the property was initially placed in service. Under this rule, the taxpayer must change the unit of property determination for the effected property to be consistent with the change in treatment for depreciation purposes. Thus, for example, ifa taxpayer performs a cost segregation study and changes the classification of components in a build- ing from section 1250 property to section 1245 property, the taxpayer must use the same classifications to define the unit of property for capitalization purposes. C.Special Rules for Improvements 1. Improvements to Leased Property The 2008 proposed regulations pro- vided that a taxpayer must capitalize amounts paid to acquire or produce a unit of real or personal property, including leasehold improvement property. The 2008 proposed regulations also noted that a taxpayer must capitalize amounts paid to improve a unit of property whether the taxpayer is the owner or lessee of the unit of property. However, the 2008 proposed regulations did not provide operative rules for determining whether there was an im- provement to leased property (“leasehold improvement”) and did not clarify how a leasehold improvement must be treated under the regulations. a. Application of intangible regulation under §1.263(a)–4 to leasehold improvements The IRS and the Treasury Department received several informal questions and comments regarding whether lessee im- provements should becapitalized under the 2008 proposed regulations or under §1.263(a)–4 (“intangibles regulations”), which governs the capitalization of costs related to intangible property. Section 1.263(a)–4(d)(8), which is titled “Certain benefits arising from the provision, pro- duction, or improvement of real property,” provides, in part, that a taxpayer must cap- italize amounts paid to produce or improve real property owned by another if the real property can reasonably be expected to produce significant economic benefits for the taxpayer. Examples of amounts capi- talized under this section include amounts contributed by a taxpayer to a city to de- fray the cost of constructing a publicly owned bridge capable of accommodating the taxpayer’s trucks and amounts con- tributed by a taxpayer to a port authority to build a breakwater that will make it easier for the taxpayer to unload its vessels. Section 1.263(a)–4(d)(8) of the reg- ulations was not intended to apply to leasehold improvements or to situations in which the taxpayer pays to acquire or produce tangible property that clearly ben- efits the taxpayer and not other parties. The examples provided under the intan- gibles regulations involve improvements to public assets where there is an intan- gible economic benefit to the taxpayer, not a direct tangible interest in property, such as a leasehold interest. In contrast to the examples under the intangibles regulations, a leasehold improvement in- volves an interest in tangible property for which basis recovery is permitted through depreciation.See, for example, section 168(i)(8)(A) (treatment of leasehold im- provements that are subject to section 168). The temporary regulations provide that §1.263(a)–4 does not apply to amounts paid for improvements to units of leased property or to amounts paid for the acqui- sition or production of leasehold improve- ment property. In addition, the temporary regulations provide operative rules for the definition and treatment of leasehold improvements by lessees and lessors and 2012–14 I.R.B.624April 2, 2012 clarify that these rules are the exclu- sive guidance for determining whether amounts paid by a taxpayer are for an improvement to a unit of leased property. b. Operative rules for leasehold improvements The IRS and the Treasury Department received several comments requesting that the regulations provide guidance regard- ing the application of the improvement rules to leased section 1250 property (gen- erally real property) and leased section 1245 property (generally personal prop- erty). The temporary regulations apply to both leased real property and leased personal property and provide operative rules for both lessees and lessors that make improvements to a leased unit of property. i. Lessee improvements Under the temporary regulations, a tax- payer lessee must capitalize the aggregate of related amounts that it pays to improve a unit of leased property, except to the extent that section 110 applies to a con- struction allowance received by the lessee for the purpose of such improvement or where the improvement constitutes a sub- stitute for rent. A taxpayer lessee must also capitalize the aggregate of related amounts paid by the lessor to improve a unit of leased property if the lessee owns the improvement for federal income tax purposes, except to the extent that section 110 applies to a construction allowance re- ceived by the lessee for the purpose of such improvement. An amount paid for a lessee improvement under the temporary regu- lations is treated as an amount paid to ac- quire or produce a unit of real or personal property under §1.263(a)–2T(d)(1)(i). Because a lessee improvement involves the acquisition or production of a new and distinct interest in property and this prop- erty interest is often different from the un- derlying leased property, amounts paid for a lessee improvement are treated as the ac- quisition or production of a new unit of property (that is, a unit of property sep- arate from the leased unit of property), rather than an improvement to the under- lying property. This treatment is consis- tent with the depreciation requirements un- der section 168(i)(8)(A), which do not al- low a taxpayer to depreciate leasehold im- provements over the term of the under- lying lease, but ratherrequire that a tax- payer depreciate the leasehold improve- ment over the applicable recovery period under MACRS for the type of property ac- quired or produced. ii. Lessor improvements The temporary regulations provide that a taxpayer lessor must capitalize the ag- gregate of related amounts that it pays di- rectly, or indirectly through a construction allowance to the lessee, to improve a unit of leased property where the lessor is the owner of the improvement or to the ex- tent that section 110 applies to the con- struction allowance.In addition, a lessor must also capitalize the aggregate of re- latedamountspaidbythelesseetoim- prove a unit of leasedproperty where the lessee’s improvement constitutes a substi- tute for rent. Finally, amounts capitalized by the lessor under this paragraph may not be capitalized by the lessee. The rules provided in the temporary regulations for lessor improvements are corollaries to the rules provided for lessee improvements. In general, a lessor must capitalize amounts paid for leasehold im- provements where the lessor is the owner of the leasehold improvement, where sec- tion 110 applies, or where the lessee’s im- provement is a substitute for rent. How- ever, in contrast with a lessee, the lessor is the owner of the underlying property. As such, a lessor improvement is treated in the same manner as any other owner im- provement to a unit of property. Therefore, a lessor improvement is treated as an im- provement to the underlying property un- der §1.263(a)–3T and is not treated as the acquisition or production of a new unit of property. 2. Certain Costs Incurred During an Improvement The 2008 proposed regulations did not prescribe a plan of rehabilitation doctrine as traditionally described in the case law. That judicially-created doctrine provides that a taxpayer must capitalize otherwise deductible repair or maintenance costs if they are incurred as part of a general plan of rehabilitation, modernization, and improvement to the property.See Moss v. Commissioner, 831 F.2d 833 (9 th Cir. 1987);United States v. Wehrli, 400 F.2d 686 (10 th Cir. 1968);Norwest Corp. v. Commissioner, 108 T.C. 265 (1997). Instead, the 2008 proposed regulations in- corporated the section 263A rules for the treatment of repairs and maintenance per- formed during an improvement. Specif- ically, the 2008 proposed regulations provided that a taxpayer must capitalize all the direct costs of an improvement and all the indirect costs (including other- wise deductible repair costs) that directly benefit or are incurred by reason of an improvement in accordance with the rules under section 263A.See§1.263A–1(e). Thus, the 2008 proposed regulations con- cluded that repairs and maintenance that do not directly benefit and that are not incurred by reason of an improvement are not required to be capitalized under section 263(a), regardless of whether the repairs and maintenance are performed at the same time as an improvement. The 2008 proposed regulations also included an exception for an individual residence, which permitted an individual taxpayer to capitalize repair and maintenance costs in- curred at the time of a substantial remodel of its residence. The temporary regulations retain the general rule from the 2008 proposed reg- ulations for otherwise deductible indirect costs incurred during an improvement but clarify that all indirect costs, including repair and removal costs, are subject to the section 263A standard. The temporary regulations also retain the exception for substantial improvements to individual residences. The rules provided in section 263A and §1.263A–1(e) regarding the capitalization of indirect costs require the capitalization of indirect costs that directly benefit or are incurred by reason of an improvement to property. By adopting the §1.263A–1(e) standard for purposes of section 263(a), the temporary regulations set out a clearly ar- ticulated standard that provides appropri- ate parameters for determining when oth- erwise deductible indirect costs must be capitalized as part of an improvement to property. Accordingly, the temporary reg- ulations obsolete the plan of rehabilitation doctrine to the extent the court created doc- trine provided different standards for de- termining whether an otherwise deductible indirect cost must be capitalized as part of an improvement. April 2, 20126252012–14 I.R.B. 3. Removal Costs The 2008 proposed regulations did not address the treatment of amounts paid to remove a unit of property, asset, or a com- ponent of a unit of property. Examples in the 2008 proposed regulations, how- ever, suggested that if a taxpayer removes a component in order to facilitate a re- placement and the costs of the replacement component constitute an improvement to the unit of property, then the costs of re- moving the old component must be treated a part of the improvement. No comments were received address- ing the treatment of removal costs, and the temporary regulations do not include a specific rule for such costs. But the costs of removing a component of a unit of prop- erty should be analyzed in the same man- ner as any other indirect cost incurred dur- ing an improvement to property. Thus, similar to the treatment of otherwise de- ductible repair and maintenance costs in- curred during an improvement, the costs of removing a component of a unit of prop- erty must be capitalized if they directly benefit or are incurred by reason of an im- provement to a unit of property.See,for example,Towanda Coke Corp. v. Com- missioner, 95 T.C. 124 (1990) (holding that costs of removing piping damaged in a fire and installing new pipe were capi- tal expenditures);Phillips Easton Supply Co.v.Commissioner, 20 T.C. 455 (1953) (holding that costs of removing a cement floor in a building and replacing it with a concrete floor were capital expenditures to improve the property); Rev. Rul. 2000–7, 2000–1 C.B. 712 (providing that the costs of removing a component of a deprecia- ble asset are either capitalized or deducted based on whether the replacement of the component constitutes an improvement or a repair). As with other costs incurred during an improvement, a taxpayer may deduct the costs of removing a component if the taxpayer can demonstrate that such costs relate only to the disposition of the removed property and that the costs do not have the requisite relationship to any im- provement. In addition, the temporary regulations do not affect the holding of Rev. Rul. 2000–7 as it applies to the costs of remov- ing an entire unit of property. Under Rev. Rul. 2000–7, a taxpayer is not required to capitalize the cost of removing a retired depreciable asset under section 263(a) or section 263A, even where the retirement and removal occurred in connection with the installation of a replacement asset. Historically, the costs of removing a depre- ciable asset generally have been allocable to the removed asset and, thus, generally have been deductible when the asset is retired.See§1.165–3(b); §1.167(a)–1(c); §1.167(a)–11(d)(3)(x); Rev. Rul. 74–455, 1974–2 C.B. 63; Rev. Rul. 75–150, 1975–1 C.B. 73. Because the costs of removing a retired asset typically relate to the depreciable asset being removed and are not allocable to the improvements, §1.263(a)–3T generally is not applicable to such removal costs. Moreover, the temporary regulations do not change the treatment of any amounts addressed un- der section 280B, which governs amounts expended and losses sustained for the de- molition of structures. D.Safe harbor for routine maintenance The 2008 proposed regulations pro- vided a safe harbor from capitalization for the costs of performing certain routine maintenance activities. Under the safe harbor, an amount paid was deemed not to improve the unit of property if it was for the ongoing activities that a taxpayer (or a lessor) expected to perform as a result of the taxpayer’s (or the lessee’s) use of the unit of property to keep the unit of property in its ordinarily efficient operating condi- tion. The activities were routine only if, at the time the unit of property was placed in service, the taxpayer reasonably expected to perform the activities more than once during the class life of the unit of property (that is, the recovery period prescribed under sections 168(g)(2) and 168(g)(3), regardless of whether the property was depreciated under section 168(g)). The IRS and the Treasury Department received comments criticizing the safe har- bor’s use of defined class life as the testing period. Instead, the comments suggested that the safe harbor should utilize the eco- nomic useful life of the unit of property as the appropriate testing period. The tempo- rary regulations retain the requirement that a taxpayer must expect to perform routine maintenance more than once during the de- fined class life of the unit of property. The class life based standard is more objective, is more consistent among taxpayers, and is more administrable than a standard based on the economic useful life of the prop- erty. Notably, during the consideration of the 2006 proposed regulations, many com- mentators expressed concern that the eco- nomic useful life of property is not an ac- curate determinant of its actual useful life and that reliance on this standard would create disparate treatment among taxpay- ers in characterizing similar costs. The IRS and the Treasury Department also received comments regarding the ap- plication of the routine maintenance safe harbor to buildings. Because buildings typically have a long class life (for ex- ample, 39.5 years for nonresidential real property), many remodeling projects ar- guably could be deducted under the safe harbor, regardless of the nature or extent of the work involved. For example, if a taxpayer expected to replace a major com- ponent, such as a roof, an HVAC sys- tem, or an electrical system, more than once during the long class life of the build- ing, then the costsof such replacements generally would have been deductible un- der the safe harbor. Allowing a deduc- tion for costs attributable to these types of projects is inconsistent with much of the case law addressing building improve- ments. Generally, the courts have held that amounts paid for replacements of major components or substantial structural parts of buildings and their structural compo- nents are capital expenditures.See,for example,Tsakopoulous v. Commissioner, T.C. Memo 2002–8 (holding that costs to replace the roof on a portion of the suites of a shopping center were capital expendi- tures);Hill v. Commissioner,T.C.Memo 1983–112 (holding that costs to replace the water heater and the furnace in rental prop- erty were capital expenditures);Stewart Supply Co. v. Commissioner, T.C. Memo 1963–62 (holding that costs to replace the front wall of a building and make electri- cal connections to that wall were capital expenditures);First Nat’l Bank v. Com- missioner, 30 B.T.A. 632 (1934) (holding that costs of replacingthe electrical system in a bank building were capital expendi- tures);Georgia Car and Locomotive Co., 2 B.T.A. 986 (1925) (holding that costs of a new roof on a building were capital ex- penditures). Accordingly, the routine maintenance safe harbor is not appropriate for work per- formed on buildings. Rather, the proper 2012–14 I.R.B.626April 2, 2012 analysis requires the application of the general rules for improvements, including the rules for determining whether the costs are incurred for a betterment or restoration to the building or the building systems, or to adapt the building or any of its systems to a new or different use. The temporary regulations revise the routine maintenance safeharbortoapplyonlytopropertyother than buildings. In addition, the temporary regulations include new rules clarify- ing the application of the improvement standards to a building and provide new examples illustrating the application of these rules. E.Betterments The 2008 proposed regulations pro- vided that an amount paid results in a betterment, and accordingly, an improve- ment, if it ameliorates a material condition or material defect that existed prior to the acquisition of the property or arose during the production of the property; results in a material addition to the unit of property (including a physical enlargement, expan- sion, or extension); or results in a material increase in the capacity, productivity, ef- ficiency, strength, or quality of the unit of property or its output. The temporary regulations retain all of these criteria, as well as the 2008 proposed rules that detail how the betterment standards are applied. The IRS and the Treasury Department received several comment letters rec- ommending that the drafters modify the betterment rules in several areas, create exceptions for particular situations, and clarify or modify some of the examples. One commentator expressed concern that the 2008 proposed regulations’ definition of betterments would require a taxpayer to capitalize costs that do not extend the use- ful life of the unit of property as a whole and suggested that the MACRS rules be modified so that betterments would be assigned a recovery period based on the remaining recovery period of the unit of property. Such a revision to the MACRS regulations would be contrary to section 168(i)(6), which generally requires that the depreciation deduction for an addition or improvement be computed in the same manner as the depreciation deduction for the underlying property would be com- puted if the underlying property had been placed in service at the same time as the addition or improvement. 1.AmountsPaidtoAmeliorateMaterial Conditions and Defects a. Knowledge of defect Several commentators suggested changes to the 2008 proposed rule that defined a betterment as an amount paid to ameliorate a material condition or de- fect that existed prior to acquisition or arose during the production of the unit of property, whether or not the taxpayer was aware of the defect at the time of acquisition or production. One commen- tator suggested that a taxpayer should be required to capitalize the costs of amelio- rating a defect only if the taxpayer was aware of or should have been aware of the defect at the time of acquisition. Another commentator suggested that a taxpayer should be required to capitalize these costs only if they were incurred within two years of the acquisition of the property. The temporary regulations do not revise the rule to require that a taxpayer’s knowl- edge be taken into account in determining whether expenditures to ameliorate a pre- existing condition or defect must be cap- italized. The rule provided in the 2008 proposed regulations is consistent with es- tablished case law, which requires a tax- payer to capitalize these costs whether or not the taxpayer was aware of the defect at the time of acquisition.See United Dairy Farmers, Inc. v. United States, 267 F.3d 510 (6 th Cir. 2001);Dominion Resources, Inc. v. United States, 219 F.3d 359 (4 th Cir. 2000);La France Wine Co. v. Commis- sioner, T.C. Memo 1974–254. In addition, a rule that would require a subjective in- quiry as to the taxpayer’s knowledge at the time of acquisition or production would be difficult for the IRS to administer and to enforce. Finally, the IRS and the Treasury De- partment did not adopt the suggestion to add a two-year limitation on the applica- tion of the rule because such a limitation might encourage a taxpayer simply to post- pone its expenditures to avoid treatment as an improvement. b. Environmental cleanup of reacquired property As mentioned above, the 2008 pro- posed regulations required a taxpayer to capitalize an amount paid to ameliorate a material condition or defect that existed at the time the taxpayer acquired or produced theproperty.Therulefollowsthegeneral principle that a taxpayer must capitalize costs incurred to correct a pre-existing defect in acquired property regardless of whether the taxpayer was aware of the de- fect at the time of acquisition.See United Dairy Farmers, Inc. v. United States,267 F.3d 510 (6 th Cir. 2001). The preamble to the 2008 proposed regulations stated that under this rule a taxpayer would be required to capitalize environmental re- mediation costs in the situation in which the taxpayer contaminated property in the course of its business operations, disposed of the property (for example, by sale), and later reacquired property to clean up the contamination. The preamble requested comments regarding the appropriate treat- ment of environmental remediation costs in these situations, including how to deter- mine whether the taxpayer’s own use, or a prior owner’s use, caused the contamina- tion. Several commentators recommended that the regulations allow a deduction for clean-up costs under certain circumstances after a taxpayer acquires, or reacquires, property that the taxpayer had previously contaminated. The commentators gener- ally asserted that a taxpayer that acquires or reacquires property that it had previ- ously contaminated should be treated no differently than a taxpayer that continu- ously owns the property and contaminated the property through the course of its oper- ations. See Rev. Rul. 94–38, 1994–1 C.B. 35, in which a taxpayer was permitted to deduct the costs of remediating property that it continuously owned and contami- nated in the course of its operations be- cause the taxpayer restored the property to the condition it was in prior to the circum- stances necessitatingthe expenditure. One commentator addressed the situation in which a taxpayer contaminates property as a lessee of property and later acquires the property in an effort to minimize disputes with the lessor over clean-up obligations. The commentator recommended an excep- tion to capitalization for amounts incurred April 2, 20126272012–14 I.R.B. to clean up contamination that existed at the time a taxpayer acquires property pro- vided (1) the taxpayer is legally liable for the cost of cleaning up the property prior to its acquisition by the taxpayer, and (2) the taxpayer’s sole purpose for acquiring the property is to minimize the cost of clean-up. The commentator also indicated that a taxpayer that acquires contaminated property for an amount that is at least equal to the remediated fair market value of the property should be treated no differently than a taxpayer that continuously owned the property. The IRS and the Treasury Department recognize that a taxpayer that acquires, or reacquires, contaminated property for an amount at least equal to the remediated fair market value of the property may be in a position similar to that of a taxpayer that had continuously owned the property. However, the IRS and the Treasury De- partment are reluctant to create a rule that would hinge on the taxpayer’s purpose for acquiring the property and a subjective de- termination of the remediated fair market value of the property. Moreover, Con- gress specifically provides a deduction un- der section 198 for taxpayers that incur certain environmental remediation expen- ditures that are otherwise required to be capitalized under section 263(a), including costs incurred by taxpayers conducting re- mediation on reacquired property. Taxpay- ers that elect to deduct these remediation costs under section 198 must comply with the requirements of that provision. The IRS and the Treasury Department recognize, however, that a taxpayer may encounter an unusual situation for which section 198 does not provide relief or to which the rationale underlying the tem- porary regulations does not apply. The IRS and the Treasury Department believe that these situations are better addressed through subject-specific guidance outside the regulations. Any taxpayer with a spe- cific concern regarding the treatment of these types of costs should consider sub- mitting a request for a private letter ruling under Rev. Proc. 2011–1, 2011–1 I.R.B. 1 (or its successor). 2. Material Increase in Capacity, Productivity, Efficiency, Strength, or Quality The 2008 proposed regulations defined betterments to include expenditures that result in a material increase in the capacity, productivity, efficiency, strength, or qual- ity of the unit of property or its output. One commentator expressed concern about the subjective nature of determining any in- crease in “quality” of a unit of property. The temporary regulations do not change this standard but revise the examples from the 2008 proposed regulations and add a number of new examples to help illustrate and clarify the application of the increase in quality standard to particular facts and circumstances. Another commentator requested an example that permitted a deduction for the costs of earthquake retrofitting. The temporary regulations do not include an example allowing a deduction for earth- quake retrofitting. Earthquake retrofitting encompasses various factual scenarios and could involve substantial structural addi- tions that strengthen the unit of property and that may constitute betterments un- der the temporary regulations. Also, the temporary regulations retain an example from the 2008 proposed regulations that illustrates that certain amounts paid to strengthen a building to make it safer in the event of an earthquake may consti- tute a betterment to the unit of property. The temporary regulations illustrate that a taxpayer’s treatment of amounts paid for earthquake retrofitting depends on the tax- payer’s particular facts and circumstances. 3. Refreshing and Remodeling Buildings The 2008 proposed regulations pro- vided an example that addressed whether amounts paid to update or remodel a build- ing resulted in a betterment because they materially increased the capacity, pro- ductivity, efficiency, strength, or quality of the unit of property. InExample 6of §1.263(a)–3(f)(3) of the 2008 proposed regulations, a taxpayer was not required to capitalize as betterments the amounts paid to change periodically the layout and ap- pearance of its retail stores. The IRS and the Treasury Department received sev- eral comments suggesting that additional examples be added to the regulations to clarify the types of refresh or remodel expenses that would not result in a bet- terment. One commentator suggested the addition of an example illustrating that a remodel expense intended to increase sales should not, by itself, be evidence of a material increase in the quality of the unit of property under the betterment standards. Another commentator recom- mended revising the betterment standards to clarify that minor costs incurred as part of regularly recurring store updates are treated as currently deductible selling or marketing expenses. The betterment standards in the tempo- rary regulations have not been revised to create an exception for minor and recur- ring store refresh or remodel costs. The analysis of whether store refresh or re- model costs result in a betterment requires an examination of all the facts and circum- stances. The application of aper seex- ception to capitalization for all costs in- curred as part of a recurring store refresh or remodel would be inappropriate, for ex- ample, in situations where a taxpayer per- forms major structural work on the build- ing during a refresh or remodel. To provide additional guidance in this area, however, the temporary regulations expand upon the facts and analysis pro- vided inExample 6and set out additional examples addressing the refreshing and re- modeling of retail buildings. The addi- tional examples demonstrate a range of outcomes based on the amount and type of work performed on the building and its structural components. The examples in the temporary regulations illustrate a re- fresh of retail buildings that merely keeps the buildings in ordinarily efficient oper- ating condition; a refresh of retail build- ings that also includes an improvement to a building system; and finally, a large scale refresh and remodel of retail buildings that involve an improvement to the buildings. These examples also illustrate the applica- tion of the rule governing the treatment of indirect costs incurred during an improve- ment of property. F.Restorations The 2008 proposed regulations pro- vided that an amount is paid to restore, and therefore improve, a unit of property if it (1) is for the replacement of a component of a unit of property and the taxpayer has 2012–14 I.R.B.628April 2, 2012 properly deducted a loss for that com- ponent (other than a casualty loss under §1.165–7); (2) is for the replacement of a component of a unit of property and the taxpayer had properly taken into account the adjusted basis of the component in realizing gain or loss resulting from the sale or exchange of the component; (3) is for the repair of damage to a unit of prop- erty for which the taxpayer has properly taken a basis adjustment as a result of a casualty loss under section 165, or relating to a casualty event described in section 165; (4) returns the unit of property to its ordinarily efficient operating condition if the property has deteriorated to a state of disrepair and was no longer functional for its intended use; (5) results in the rebuild- ing of the unit of property to a like-new condition after the end of its economic useful life; or (6) is for the replacement of a major component or a substantial struc- tural part of the unit of property. The IRS and the Treasury Department received many comments regarding the 2008 proposed restoration rules. The tem- porary regulations generally retain the restoration standards set forth in the 2008 proposed regulations but have revised cer- tain definitions as well as the operation and the application of some of the rules. The comments, the revisions, and the reasons for these changes are discussed below. 1. Casualty Loss The 2008 proposed regulations pro- vided that an amount is paid to restore a unit of property if it is for the repair of damage to the unit of property for which the taxpayer had properly taken a basis adjustment as a result of a casualty loss under section 165, or relating to a casualty event described in section 165 (“casualty loss rule”). The IRS and the Treasury De- partment received comments from several practitioners and industry groups request- ing that the drafters remove the proposed casualty loss rule from the regulation. These commentators requested that the regulations confirm and acknowledge that a taxpayer that is engaged in a trade or business is entitled to claim a casualty loss deduction, adjust basis in the property, and claim an ordinary and necessary business expense deduction to repair the property damaged in the casualty event. The temporary regulations retain the ca- sualty loss rule because the rule is consis- tent with the fundamental principle that a taxpayer must capitalize the cost of acquir- ing new property. The casualty loss rule is also consistent with the restoration rules in the temporary regulations that require a taxpayer to capitalize the cost of a replace- ment component where it has properly de- ducted a loss for the component or taken into account the adjusted basis of the com- ponent in realizing gain or loss. In these situations, a taxpayer deducts the amount of the loss, reduces basis in the unit of property by the amount of loss, and then incurs costs to acquire a replacement com- ponent. Thus, the replacement is treated like the acquisition of new property (that is, the replacement of the reduced or elim- inated basis), and the amounts paid for the replacement is treated as a capital expen- diture. The replacement of property dam- aged in a casualty may involve the replace- ment or restoration of the entire property or components of that property. In either event, the damaged part of the property is treated as retired, the basis attributable to the damaged part is removed, and the dam- aged part is restored or replaced. Thus, costs to restore or replace the portion of property for which basis has been recov- ered are analogous to the costs of acquiring new property and must be treated as capi- tal expenditures. In response to the casualty loss rule in the 2008 proposed regulations, commen- tators contended that the casualty loss and the repair expense do not create a double deduction for the same item because they arise out of separate tax events. Specifi- cally, the commentators argued that the ca- sualty loss permitted under section 165(c) compensates the taxpayer for the unantici- pated diminution in value of the taxpayer’s property, while the repair expense deduc- tion permitted under section 162 compen- sates the taxpayer for its out-of-pocket ex- penditures necessary to restore its property to working condition. The commentators emphasized that sections 165 and 162 con- fer separate benefits with separate regula- tory requirements. The IRS and the Treasury Department recognize that the section 165 loss and the section 162 business expense deduction do not create a double deduction for the same item and do confer different benefits to a taxpayer engaged in a trade or business. The section 165 loss permits recognition for a property loss suffered (in this case due to a casualty), and the section 162 de- duction allows a taxpayer to take current deductions for the ordinary and necessary expenses of carrying on a trade or busi- ness, unless such deductions are prohibited under section 263(a). Where a casualty event occurs, however, the application of the section 165 loss provisions to a unit of property, specifically the reduction of basis that is required, creates a situation where the principles of section 263(a) should ap- ply to the restoration event to prohibit a section 162 deduction. As discussed, in this situation, the amounts paid to restore property are analogous to the costs of ac- quiring new property and are properly cap- italized, in this case through the addition of basis to the restored underlying property. Commentators also asserted that the ca- sualty loss rule in the 2008 proposed reg- ulations negated the benefit of the casu- alty loss deduction specifically permitted under section 165(c) and §1.165–7(a)(1) to a taxpayer engaged in a trade or busi- ness where there is partial damage to prop- erty, rather than full destruction. The com- mentators claimed that the casualty loss rule results in especially harsh treatment to a business taxpayer because this taxpayer must capitalize its restoration costs and re- cover them over the full recovery period assigned to the underlying property start- ing in the year the improvement is placed in service. By retaining the casualty loss rule, however, the temporary regulations are not eliminating the benefit provided to trade and businesses by the allowance of a casualty loss. Rather, the temporary regu- lations are disallowing the acceleration of deductions for both the casualty loss and the costs of restoring the property. The ca- sualty loss rule does not limit a taxpayer’s ability to accelerate the recovery of the basis attributable to such property through the section 165 loss provisions. Rather, it requires a taxpayer to capitalize the costs of restoring the property, with recovery of such costs permitted through depreciation over the proper recovery period. One commentator asserted that it was Congress’ intent in enacting section 165(c) and the Treasury Department’s intent in applying section 165(c) to business tax- payers (which, the commentator contends, is imputed to Congress through legislative April 2, 20126292012–14 I.R.B. enactment) to confer a benefit on all tax- payers by allowing them a casualty loss in situations where such loss would not otherwise be deductible (that is, where there is only partial damage to the prop- erty). The commentator further explains that a requirement to capitalize otherwise deductible section 162 expenses follow- ing a casualty undercuts Congress’ intent in allowing a current deduction for the loss in value of the property. The prob- lem with this analysis, however, is that an individual not engaged in a trade or business or in a for-profit transaction (an individual) is not entitled to an additional deduction under section 162 or any other provision for amounts paid to repair the damaged property. Thus, Congress could not have intended to provide an additional benefit to all taxpayers (in the form of a section 162 deduction) through legisla- tive reenactment, where that benefit was not available to an individual who had suffered partial damage from a casualty. In general, an individual takes the loss deduction, reduces its basis in the dam- aged property, and capitalizes the costs of restoring the damaged property. In con- trast, under the commentator’s preferred approach, a business taxpayer would take the loss deduction, reduce the basis of the damaged property, and then claim an immediate deduction for the restoration costs. Thus, the commentator’s approach would result in disparate results between individual and business taxpayers. The casualty loss rule is consistent with current law. Although commentators pointed to cases that specifically permit taxpayers to take business expense deduc- tions for the costs of restoring property damaged in a casualty event, those same cases often imply that a repair expense and a loss deduction are of opposite char- acter and may be mutually exclusive.See, for example,Trinity Meadows Raceway v. Commissioner,187 F.3d 638 (6 th Cir. 1999) (unpublished decision) (disallowing both a casualty loss and a related sec- tion 162 deduction for property damaged by a flood because the taxpayer did not maintain adequate records but stating that a taxpayer may deduct the repairs under section 162 or take the loss in value under section 165);Hubinger v. Commissioner, 36 F.2d 724 (2 nd Cir. 1929) (holding taxpayer could not deduct the costs of reconditioning property after a fire as ordi- nary and necessary expenses because such items were more in the nature of casualty losses, but taxpayer was not entitled to casualty loss because there was no proof of loss);R. R. Hensler, Inc. v. Commis- sioner, 73 T.C. 168 (1979),acq., (1980–2 C.B. 1) (allowing a business expense deduction for taxpayer’s cost of recover- ing, repairing, and replacing equipment “displaced and damaged” by flood and distinguishing such property from prop- erty that is “lost, destroyed, or abandoned” and which “gives rise to a loss under sec- tion 165”);Atlantic Greyhound Corp. v. United States, 111 F. Supp. 953 (Ct. Cl. 1953) (disallowing casualty losses for the expenses of repairing buses occasioned by accidents because such damage was “expected, normal, and inevitable” and the costs of repairing such damage was ordi- nary and necessary). In addition, where this question has been raised, the courts have not opined on whether the taxpayer may take a casualty loss and a business expense deduction with regard to a single casualty.See R.R. Hensler,73T.C.at176 n. 9;Louisville & Nashville R.R. Co. v. Commissioner, T.C. Memo 1987–616, n. 24. The IRS and the Treasury Department are aware that the property damaged in a casualty event might have remaining basis that is insignificant compared to the costs necessary to restore the property. Fo- cusing on this possibility, commentators requested that if the casualty loss rule con- tained in the 2008 proposed regulations were retained, consideration should be given to allowing taxpayers to forgo claim- ing a section 165 loss in order to qualify for a section 162 deduction. The tempo- rary regulations address this concern and provide for such a result. Specifically, the temporary regulations revise the rules of accounting for property to which section 168 applies (MACRS property) and also for determining gain or loss upon the dis- position of MACRS property. These rules, discussed in more detail in section VII of this preamble, provide that a taxpayer electing to use a general asset account under temporary regulation §1.168(i)–1T may forgo recognizing a casualty loss (without reducing basis) and may claim a repair deduction under section 162 for the replacement property, provided the replacement cost is not treated as a capital expenditure under a different provision of the temporary regulations. 2. Rebuilding to Like-New Condition The 2008 proposed regulations pro- vided that if an amount paid results in the rebuilding of a unit of property to a like-new condition after the end of its economic useful life, the amount must be capitalized as a restoration of the unit of property. However, an exception pro- vided that if the amount is paid after the economic useful life of the property but during the recovery period (as prescribed in section 168(c)), the amount is not re- quired to be capitalized. The temporary regulations revise the rule to apply only to amounts paid to rebuild the unit of prop- erty after the end of the class life of the unit of property as defined under sections 168(g)(2) and (3). The temporary regu- lations also remove the recovery period exception so that a taxpayer must look only to the class life of the property in determining the application of this rule. The use of defined class life rather than economic useful life provides a more ob- jective standard for determining whether the rebuilding rule applies and is con- sistent with the standard that applies in determining whether amounts qualify for the routine maintenance safe harbor. This more objective standard is designed to avoid disputes that might otherwise arise in determining the economic useful life of property and to provide for consistent application among taxpayers that hold the same type of property. 3. Replacement of Major Component or Substantial Structural Part The 2008 proposed regulations pro- vided that an amount paid for the replace- ment of a major component or a substantial structural part of a unit of property is an amount paid to restore (and therefore improve) the unit of property. The 2008 proposed regulations defined “major com- ponent or substantial structural part” as a part or a combination of parts of the unit of property, the cost of which comprises 50 percent or more of the replacement cost of the unit of property or the replace- ment of which comprises 50 percent or more of the physical structure of the unit of property (“the 50 percent thresholds”). 2012–14 I.R.B.630April 2, 2012 Furthermore, the 2008 proposed regula- tions provided that an amount was not required to be capitalized as a replacement of a major component or substantial struc- tural part if it was paid during the recovery period prescribed in section 168(c) (“re- covery period limitation”). The IRS and the Treasury Department received two comments on this provision. One commentator suggested that the reg- ulation should provide guidance establish- ing reasonable methods for substantiating replacement costs. This commentator also recommended that the drafters eliminate the 50 percent thresholds because phys- ical structure is too difficult to measure. Another commentator suggested that the 50 percent thresholds should be abandoned arguing that they have no basis in law and will lead to unexpected complications in application. The 50 percent thresholds and the re- covery period limitation were first intro- duced in the 2008 proposed regulations. The exceptions were intended to provide a more objective standard for capitaliza- tion in this area and to counter the effect of the disposition and depreciation rules for buildings that generally require a tax- payer to capitalize and depreciate multiple replacements of the same structural com- ponent while continuing to recover the cost of the original structural component as part of the asset (for example, a taxpayer could not take a retirement loss on the disposition of a structural component of a building). The 50 percent thresholds and the recovery period limitation in the 2008 pro- posed regulations provided an objective, bright-line alternative to the highly factual analysis applied by the courts and the IRS in determining whether a replacement part is a major component or substantial struc- tural part of property and must therefore be capitalized, or is a relatively minor portion of the physical structure of the property or of any of its major parts and may there- fore be deducted as a repair. Neither the courts nor the IRS, however, have previ- ously adopted or applied the 50 percent thresholds or the recovery period limita- tion in determining whether a taxpayer must capitalize the cost of replacement parts or components.See, for example, Buckland v. United States, 66 F. Supp. 681 (D. Conn. 1946) (holding that costs to replace window sills in a factory build- ing were deductible); Rev. Rul. 2001–4, 2001–1 C.B. 295 (holding, in part, that costs of certain heavy maintenance on air- craft airframe were deductible);Smith v. Commissioner, 300 F.3d 1023, 1032 (9 th Cir. 2002) (holding that costs of relining aluminum smelting cells were capital ex- penditures even though they amounted to only 22.21 percent of the costs of replacing an entire cell);Denver & Rio Grande West- ern R.R. Co. v. Commissioner, 279 F.2d 368 (10 th Cir. 1960) (holding that costs to replace the floor planks and stringers of a viaduct were capital expenditures);P. Dougherty Co. v. Commissioner, 159 F.2d 272 (4 th Cir. 1946) (holding that costs of replacing the stern section of a barge were capital expenditures);Tsakopoulous v. Commissioner, T.C. Memo 2002–8 (holding that costs to replace the roof on a portion of the suites of a shopping center were capital expenditures);Stewart Supply Co. v. Commissioner, T.C. Memo 1963–62 (holding that costs to replace a front wall of a building and make electrical connections to that wall were capital expenditures). The IRS and the Treasury Department are concerned that the 50 percent thresh- olds and the recovery period limitation, al- though objective, will lead to results that are drastically different from the results reached in the case law and rulings in this area. The 50 percent thresholds and the re- covery period limitation would, in many cases, allow the replacement of a major component or substantial structural part to be treated as deductible repair rather than a capital expenditure, in effect reversing most of the existing authorities. The temporary regulations therefore re- tain the standard that requires capitaliza- tion of an amount paid for the replacement of a major component or substantial struc- tural part of the unit of property but re- vise the standard to more closely follow the facts and circumstances approach used by the courts. Under the temporary regu- lations, in determining whether an amount is paid for the replacement of a part or a combination of partsthat comprise a ma- jor component or a substantial structural part of the unit of property, the taxpayer must consider all the facts and circum- stances, including the quantitative or qual- itative significance of the part or combina- tion of parts in relation to the unit of prop- erty or, in the case of a building, in rela- tion to the building structure or the rele- vant building system. The temporary reg- ulations also define a major component or substantial structural part to include a part or combination of parts that comprise a large portion of the physical structure of the unit of property or that perform a dis- crete and critical function in the operation of the unit of property. The replacement of a minor component of the unit of property, even though such component may affect the function of the unit of property, will not generally by itself constitute a major com- ponent or substantial structural part under the temporary regulations. The temporary regulations add a number of examples to il- lustrate the application of the revised stan- dards in a variety of situations, including its application to a building structure and building systems. In addition, the temporary regulations revise the disposition and depreciation rules to minimize the harsh result that occurs when an original part and any sub- sequent replacements of the same part are required to be capitalized and recovered simultaneously. As mentioned, in the case of buildings, taxpayers are currently required to capitalize and depreciate the costs to replace a structural component and to continue to recover the cost of the original structural component (for exam- ple, a taxpayer could not take a retirement loss on the disposition of a structural com- ponent of a building). For example, if a taxpayer were required to capitalize the costs of replacing an entire roof, it could not recover its basis in the original roof that was removed. Rather, the taxpayer would have to continue depreciating the removed roof, and at the same time, capitalize and depreciate the replacement roof over the same recovery period as the building. The temporary regulations revise the definition of disposition so that a taxpayer may treat the retirement of a structural component of a building as a disposition of property. Furthermore, the temporary regulations clarify that a taxpayer may recognize a loss on a component of a unit of property that is section 1245 property if the taxpayer consistently treats the component as a sep- arate asset for disposition purposes. As a result, the 50 percent thresholds and the re- covery period limitation are not necessary to prevent contemporaneous depreciation of both the retired component and the re- placement component and, therefore, are not included in the temporary regulations April 2, 20126312012–14 I.R.B. as exceptions to the major component and substantial structural part rule. VII.Accounting and Disposition Rules for MACRS Property The temporary regulations revise the rules for accounting for assets to which section 168 applies (MACRS property) and the rules for determining gain or loss upon the disposition of MACRS property. Currently, a taxpayer may account for its MACRS property by accounting for an asset individually in a single asset account, by combining two or more assets in a mul- tiple asset account (or pool), or by electing to include the asset in a general asset ac- count. The temporary regulations continue to allow these types of accounts. How- ever, the rules under §1.167(a)–7 for the different types of multiple asset accounts (specifically groupaccount, classified ac- count, and composite account) are based on a taxpayer being permitted to depreci- ate assets in the account over their useful lives or average useful lives (less salvage value). Since the enactment of the Ac- celerated Cost Recovery System (ACRS) in 1981, a taxpayer is required to depreci- ate assets over their recovery periods in- stead of their useful lives. Consequently, the temporary regulations eliminate group accounts, classified accounts, and compos- ite accounts. Instead, the temporary regu- lations provide that each multiple asset ac- count must include, in most cases, assets that have the same depreciation method, recovery period, and convention, and that are placed in service in the same taxable year. Section 1.168–6 of the proposed ACRS regulations provides the rules for deter- mining gain or loss upon the disposition of ACRS property. These rules gener- ally have been applied to MACRS prop- erty. The temporary regulations provide rules for determining gain or loss upon the disposition of MACRS property that are consistent with the disposition rules under §1.168–6 of the proposed ACRS regula- tions. However, as previously mentioned, the temporary regulations expand the def- inition of disposition for MACRS prop- erty to include the retirement of a structural component of a building and, accordingly, the temporary regulations allow the recog- nition of a loss upon such retirement. The temporary regulationsalso clarify that, if an asset is disposed of by physical aban- donment and that asset is subject to non- recourse indebtedness, the asset is treated in the same manner as an asset disposed of by sale. In addition, the temporary regula- tions provide rules for determining the as- set disposed of and identifying which mul- tiple asset account includes the asset dis- posed of. The temporary regulations also amend the rules for general asset accounts un- der §1.168(i)–1. Section 1.168(i)–1(e)(2) provides that, in general, no loss is rec- ognized upon the disposition of an asset from a general asset account. However, §1.168–1(e)(3)(iii) provides that a tax- payer may elect to recognize gain or loss upon the disposition of an asset in a gen- eral asset account if there is a qualifying disposition. A qualifying disposition is defined to include a casualty loss, a charitable contribution, termination of a business or income producing activity, and certain types of transactions. The tempo- rary regulations amend the general asset account rules by expanding the definition of disposition to include the retirement of a structural component of a building and by expanding the definition of a qualifying disposition to allow the recognition of gain or loss upon most dispositions of assets in general asset accounts. Thus, by electing general asset account treatment, a taxpayer will have the option of recognizing gain or loss on an expanded list of qualifying dispositions, which are not all treated as qualifying dispositions under the current general asset account rules. In addition, the temporary regulations modify the rules for establishing general asset accounts and clarify the computation of depreciation for a general asset account when the assets in the account are eligible for the additional first year depreciation deduction. A.Accounting for MACRS property The existing regulations under §1.167(a)–7 allow ataxpayer to account for its depreciable assets by treating each asset as a single asset account or by com- bining two or more assets in a multiple asset account (or pool). A taxpayer may establish as many accounts for deprecia- ble assets as the taxpayer wants and may group the assets in multiple asset accounts in different ways. When depreciation was determined using the useful lives of assets and average useful lives were permitted for an account, the common multiple as- set accounts were a group account (assets similar in kind with approximately the same useful lives), a classified account (assets based on use without regard to use- ful life), and a composite account (assets in the same account without regard to their character or useful lives). The temporary regulations amend §1.167(a)–7 to provide generally that those rules (which were originally issued in 1956) apply only to property subject to section 167 and not to MACRS property (generally property placed in service after 1986) or ACRS property (generallyproperty placed in ser- vice after 1980 and before 1987). The temporary regulations will, consis- tent with the rules under §1.167(a)–7, con- tinue to provide flexibility to a taxpayer in establishing its depreciable accounts for MACRS property. The temporary regu- lations under §1.168(i)–7T allow a tax- payer to account for its MACRS property by treating each asset as a single asset ac- count or by combining two or more as- sets in a multiple asset account. A tax- payer also may establish as many accounts for assets as the taxpayer wants. If a tax- payer chooses to account for its assets in multiple asset accounts, the temporary reg- ulations provide that each multiple asset account must include assets that have the same depreciation method, recovery pe- riod, and convention, and are placed in ser- vice in the same taxable year. For exam- ple, in one multiple asset account, a tax- payer in the wholesale distribution busi- ness may account for most of its items of 5-year property that are placed in service in 2012 and have the same depreciation method, recovery period, and convention even though the assets may have different uses (for example, copiers, forklifts, and equipment in the distribution warehouse). Alternatively, the taxpayer may choose to account for the items of 5-year property in more than one multiple asset account, each as a single asset account, or in a combina- tion of single and multiple asset accounts. Even if assets have the same depreci- ation method, recovery period, and con- vention, depreciation for the assets may be computed differently. For example, depre- ciation may be limited for passenger au- tomobiles subject to section 280F(a), or some assets may be eligible for the addi- tional first year depreciation while others 2012–14 I.R.B.632April 2, 2012 are not. As a result, the temporary regu- lations provide additional rules for estab- lishing multiple asset accounts. For exam- ple, assets subject to the mid-month con- vention may be grouped in a multiple as- set account only with assets placed in ser- vice in the same month. Similarly, assets eligible for the additional first year depre- ciation deduction cannot be grouped with assets ineligible for the additional first year depreciation deduction. Also, assets eligi- ble for the additional first year deprecia- tion deduction may be grouped only with assets eligible for the same percentage of the additional first year depreciation. In limited circumstances, the tempo- rary regulations require the use of a sin- gle asset account. A taxpayer must ac- count for an asset in a single asset ac- count if the taxpayer uses the asset both for business use and personal use, or the tax- payer places the asset in service and dis- poses of it in the same taxable year. A single asset account is also required for an asset that was included in a general as- set account but general asset account treat- ment for the asset was terminated under the rules in §1.168(i)–1T. Section 1.168(i)–7T does not apply to assets while they are in- cluded in general asset accounts subject to §1.168(i)–1T. B.Dispositions of MACRS property Section 168(i)(6) provides that an improvement or addition to property is depreciated under section 168 by using the depreciation method, recovery period, and convention that would be applicable to the underlying property if the underlying property is placed in service at the same time as the improvement or addition. If an improvement or addition to the under- lying property is placed in service after the taxpayer placed the underlying prop- erty in service, the recovery period for the improvement or addition begins on the placed-in-service date of the improvement or addition. In effect, that improvement or addition is treated asa separate asset for purposes of section 168. If a lessor made an improvement for a lessee and that improvement is irrevo- cably disposed of or abandoned by the lessor at the termination of the lease, sec- tion 168(i)(8)(B) allows the lessor to rec- ognize gain or loss upon the disposition of that improvement. This rule applies to improvements that are structural compo- nents of a building. Similarly, if a lessee of a leased building makes an improvement that is a structural component of that build- ing, the lessee may recognize gain or loss upon its disposition of that improvement. However, §1.168–2(l)(1) of the pro- posed ACRS regulations (which have been generally applied to MACRS property) provides that a disposition does not include the retirement of a structural component of a building. Consequently, §1.168–6(b) of the proposed ACRS regulations pro- vides that no loss is recognized upon the retirement of a structural component of a building. As previously mentioned, the tempo- rary regulations for determining whether there is an improvement to the unit of property take an approach different from the 2008 proposed regulations in order to achieve results more consistent with ex- isting case law and to avoid the potential inequities resulting from the depreciation and disposition rules. As explained below, the temporary regulations expand the defi- nition of disposition to include retirements of structural components of buildings and clarify that, in some cases, components of section 1245 property may be treated as the asset disposed of. These changes will al- low taxpayers, for example, to claim a re- tirement loss for worn or damaged com- ponents that are discarded from the tax- payer’s operations. On the other hand, a taxpayer that has elected general asset ac- count treatment may choose not to claim a retirement loss for property that has been disposed of, and would accordingly con- tinue to depreciate thebasis in the property. 1. Definition of Disposition Under the temporary regulations under §1.168(i)–8T, a disposition occurs when ownership of the asset is transferred or when the asset is permanently withdrawn from use either in the taxpayer’s trade or business or in the production of income. A disposition includes the sale, exchange, retirement, physical abandonment, or de- struction of an asset. A disposition also in- cludes the retirement of a structural com- ponent of a building. Finally, a disposition also occurs when an asset is transferred to a supplies, scrap, or similar account. Prior to the enactment of ACRS in 1981, a taxpayer was permitted to depreci- ate the cost of property over its useful life (less salvage value), which was based on the taxpayer’s subjective determination of the period over which the asset would be useful to the taxpayer in its trade or busi- ness or in the production of its income. Some taxpayers utilized component depre- ciation under this system in determining the useful life of buildings. Under com- ponent depreciation, a taxpayer allocates the cost of a building to its component parts and then assigns a separate useful life to each of these components. Each of the component parts is then depreciated as a separate asset. The ACRS rules pro- hibited the use of component depreciation and required composite depreciation for buildings. Composite depreciation was also required when the ACRS rules were modified in 1986 (generally referred to as “MACRS,” the modified rules generally applied to property placed in service after 1986). Under composite depreciation, a taxpayer depreciates a building and its structural components using the same re- covery period and depreciation method. The temporary regulations do not change the requirement to use composite depre- ciation. Under section 168, a taxpayer must depreciate a building and all of its structural components using the same re- covery period, depreciation method, and convention, even though under the tem- porary regulations each of the structural components is a separate asset. 2. Gain or Loss The temporary regulations provide rules for determining gain or loss upon the disposition of MACRS property that are consistent with the disposition rules under §1.167(a)–8 and §1.168–6 of the proposed ACRS regulations. If an asset is disposed of by sale, exchange, or involuntary con- version, gain or loss is recognized under the applicable provisions of the Internal Revenue Code. If an asset is disposed of by physical abandonment, loss is recog- nized in the amount of the asset’s adjusted depreciable basis at the time of the aban- donment. However, if the abandoned asset is subject to nonrecourse indebtedness, the temporary regulations clarify that the asset is treated in the same manner as an asset disposed of by sale. If an asset is disposed of by conversion to personal use, no gain or loss is recognized.See§1.168(i)–4(c). April 2, 20126332012–14 I.R.B. If an asset is disposed of other than by sale, exchange, involuntary conversion, physical abandonment, or conversion to personal use (for example, when the asset is transferred to a supplies or scrap ac- count), gain is not recognized but loss is recognized in the amount of the excess of the asset’s adjusted depreciable basis over its fair market value at the time of dis- position. The temporary regulations also provide that the manner of disposition (for example, abnormal retirement or normal retirement) is not taken into consideration in determining whether a disposition oc- curs or gain or loss is recognized. 3. Determining the Appropriate Asset Disposed of The temporary regulations provide that the facts and circumstances of each dis- position are considered in determining the appropriate asset disposed of. In general, the asset for disposition purposes cannot be larger than the unit of property as deter- mined under §1.263(a)–3T(e)(2), (e)(3), and (e)(5) or as otherwise provided in pub- lished guidance in theFederal Registeror in the Internal Revenue Bulletin (see, for example, Rev. Proc. 2011–28, 2011–18 I.R.B. 743, providing units of property for wireless network assets). However, each disposed of building is the asset ex- cept if more than one building is treated as the asset under §1.1250–1(a)(2)(ii). If the building includes two or more con- dominium or cooperative units, then each condominium or cooperative unit (instead of the building) is the asset. Consistent with the expansion of the definition of a disposition to include a retirement of a structural component of a building, the temporary regulations provide that each structural component of a building, con- dominium unit, or cooperative unit is the asset for disposition purposes. Further, if a taxpayer properly includes an item in one of the asset classes 00.11 through 00.4 of Rev. Proc. 87–56, 1987–2 C.B. 674, or classifies an item in one of the categories under section 168(e)(3) (other than a category that includes buildings or structural components; for example, retail motor fuels outlet and qualified lease- hold improvement property), each item is the asset provided it is not larger than the unit of property as determined under §1.263(a)–3T(e)(3) or (e)(5). For exam- ple, each desk is the asset, each computer is the asset, and each qualified smart electric meter is the asset (assuming these assets are not larger than the unit of property as determined under §1.263(a)–3T(e)(3) or (e)(5)). Consistent with section 168(i)(6), the temporary regulations also provide that if the taxpayer places in service an improvement or addition to an asset after the taxpayer placed the asset in service, the improvement or addition is a sepa- rate asset for depreciation purposes. The temporary regulations also provide that a taxpayer generally may use any reason- able, consistent method to treat each of an asset’s components as the asset for dispo- sition purposes. The temporary regulations provide rules for determining the placed-in-service year of the asset disposed of. In general, a taxpayer must use the specific identi- fication method. Under this method, the taxpayer can determine when the asset disposed of was placed in service. If a tax- payer accounts for assets in multiple asset accounts, the IRS and the Treasury De- partment recognize that it may be imprac- ticable to determine from the taxpayer’s records when the asset disposed of was placed in service. Accordingly, the tempo- rary regulations allow the taxpayer to use a first-in, first-out (FIFO) method under which the taxpayer treats the asset dis- posed of as being from the multiple asset account with the earliest placed-in-service year that has assets with the same recovery period as the asset disposed of. However, if the taxpayer can readily determine from its records the unadjusted depreciable ba- sis of the asset disposed of, the temporary regulations allow the taxpayer to use a modified FIFO method under which the taxpayer treats the asset disposed of as being from the multiple asset account with the earliest placed-in-service year that has assets with the same recovery period as the asset disposed of and with the same unadjusted depreciable basis of the asset disposed of. If the asset disposed of is a mass asset in a multiple asset account, the temporary regulations also allow the taxpayer to use a mortality dispersion ta- ble to identify when the asset was placed in service. Finally, the temporary regu- lations allow a taxpayer to use any other method designated by the Secretary. The IRS and the Treasury Department invite taxpayers to submit comments on reason- able methods to be considered for this purpose. However, the IRS and the Trea- sury Department do not consider a last-in, last-out (LIFO) method to be a reasonable method. Under the LIFO method, the tax- payer treats the asset disposed of as being from the multiple asset account with the most recent placed-in-service year that has assets with the same recovery period as the asset disposed of. 4. Accounting for Assets Disposed Of The IRS and the Treasury Department recognize that it may be impracticable for a taxpayer that accounts for assets in mul- tiple asset accounts to determine from the taxpayer’s records the unadjusted depre- ciable basis of the asset disposed of. Ac- cordingly, the temporary regulations pro- vide that the taxpayer may use any reason- able, consistent method to make that deter- mination. Similar rules are provided if the asset disposed of is a component of a larger asset. When an asset is disposed of, the temporary regulations provide that de- preciation ends for that asset.See §1.167(a)–10(b). Accordingly, if the asset disposed of is in a single asset account, the temporary regulations provide that the sin- gle asset account terminates as of the date of disposition (taking into account the ap- plicable convention of the asset disposed of). Also, if the asset disposed of is in a multiple asset account, the temporary reg- ulations provide that the asset is removed from that account and the unadjusted de- preciable basis and depreciation reserve of the account are adjusted. Similar rules are provided if the asset disposed of is a component of a larger asset. The temporary regulations also pro- vide that the §1.167(a)–8 rules apply to property subject to section 167 and not to MACRS property (generally property placed in service after 1986) or ACRS property (generallyproperty placed in ser- vice after 1980 and before 1987). C.General asset accounts Section 168(i)(4) provides that under regulations, a taxpayer may maintain one or more general asset accounts for any MACRS property. Except as provided in regulations, all proceeds realized on any disposition of property in a general asset 2012–14 I.R.B.634April 2, 2012 account shall be included in income as or- dinary income. The existing rules for general asset accounts are provided under §1.168(i)–1. The provisions of §1.168(i)–1 apply only to assets for which the taxpayer has made an election to account for the assets in gen- eral asset accounts. The temporary reg- ulations for general asset accounts under §1.168(i)–1T retain this rule. Under the existing rules and temporary regulations, each general asset account is effectively treated as the asset. 1. Establishing General Asset Accounts Consistent with the existing general as- set account rules under §1.168(i)–1(c), the temporary regulations provide that assets may be grouped into one or more general asset accounts. The temporary regulations, however, expand the assets that may be in- cluded in each general asset account. The temporary regulations eliminate the exist- ing rule that each general asset account must include only assets that have the same asset class. Thus, under the temporary reg- ulations, each general asset account must include only assets that have the same de- preciation method, recovery period, and convention, and are placed in service in the same taxable year. The existing general asset account rules also provide special rules for establishing general asset accounts. These rules are necessary because even though assets have the same depreciation method, recovery period, and convention, depreciation for the assets may be computed differently. As a result, the temporary regulations do not change the existing rules, but they add new rules to be consistent with the tem- porary regulations for establishing multi- ple asset accounts for MACRS property. For example, assets eligible for the ad- ditional first year depreciation deduction cannot be grouped with assets ineligible for the additional first year depreciation deduction. Also, assets eligible for the ad- ditional first year depreciation deduction may be grouped only with assets eligible for the same percentage of the additional first year depreciation. 2. Depreciation of General Asset Account Section 1.168(i)–1(d) provides the rules for determining the depreciation for each general asset account. However, these rules do not reflect the additional first year depreciation provisions added to section 168 since the promulgation of §1.168(i)–1 in 1994. Accordingly, the temporary reg- ulations provide rules for determining the depreciation for a general asset account where all the assets in the account are eli- gible for the additional first year deprecia- tion deduction and where all the assets in the account are not eligible for that deduc- tion. 3. Disposition of an Asset from a General Asset Account Consistent with the expansion of the definition of disposition of MACRS property, the temporary regulations ex- pand the definition of disposition under §1.168(i)–1(e)(1) to include a retirement of a structural component of a building. Immediately before any disposition of an asset in a general asset account, the ex- isting rules treat the asset as having an ad- justed depreciable basis of zero for pur- poses of section 1011. Therefore, no loss is realized upon the disposition of the as- set. The existing rules also provide that any amount realized ona disposition gen- erally is recognizedas ordinary income. Further, the existing rules provide that the unadjusted depreciable basis and depreci- ation reserve of the general asset account are not affected by the disposition. Ac- cordingly, a taxpayer continues to depre- ciate the general asset account, including theassetdisposedof,asthoughnodisposi- tion occurred. The temporary regulations do not change any of these rules. The existing rules also allow a taxpayer to terminate general asset account treat- ment upon certain dispositions. Under the existing rules, the taxpayer may elect to recognize gain or loss for a general asset account when the taxpayer disposes of all of the assets, or the last asset, in the ac- count. The temporary regulations retain this rule. The existing rules further allow a tax- payer to elect to terminate general asset ac- count treatment for an asset in a general as- set account when the taxpayer disposes of the asset in a qualifying disposition. Un- der the existing rules, a qualifying dispo- sition generally is a casualty or extraor- dinary event. The temporary regulations expand a qualifying disposition to include generally any disposition. If a taxpayer elects to terminate general asset account treatment for an asset disposed of in a qual- ifying disposition, the temporary regula- tions do not change the existing rules that require the taxpayer to remove the asset disposed of from the general asset account and adjust the unadjusted depreciable basis and depreciation reserve of the account. The temporary regulations also do not change the existing rules that require a tax- payer to terminate general asset account treatment for assets in a general asset ac- count that are disposed of in transactions subject to section 167(i)(7)(B), section 1031, or section 1033, or in an abusive transaction described under the existing rules. In addition, the temporary regula- tions require a partnership to terminate its general asset accounts upon the technical termination of the partnership under sec- tion 708(b)(1)(B). 4. Other Transactions The temporary regulations require a taxpayer to terminate general asset account treatment for an asset that the taxpayer uses for both business use and personal use. If there is a redetermination of basis of an asset in a general asset account (for example, due to contingent purchase price or discharge of indebtedness), the tempo- rary regulations provide that the election for the asset also applies to the increase or decrease in basis and require the taxpayer to establish a new general asset account for that increase or decrease in basis. 5. Identification of Disposed Of or Converted Asset Because the general asset account is the asset, the existing rules provide that a tax- payer may use any reasonable method that is consistently applied to all of its gen- eral asset accounts for determining the un- adjusted depreciable basis of an asset for which general asset account treatment is terminated. The temporary regulations re- tain this rule but provide what methods are reasonable for identifying the placed-in- service year of the asset disposed of. These methods are the same as those discussed above for identifying the placed-in-service year of an asset disposed of in a multi- ple asset account: the specific identifica- tion method, the FIFO method, the modi- fied FIFO method, a mortality dispersion April 2, 20126352012–14 I.R.B. table if the asset disposed of is a mass as- set grouped in a general asset account with other mass assets, or any method desig- nated by the Secretary. The LIFO method is not permitted. The temporary regulations also amend §§1.165–2 and 1.1016–3 to include cross-references to §§1.168(i)–1T and 1.168(i)–8T. VIII.Effective Dates and Changes in Methods of Accounting The preamble to the 2008 proposed reg- ulations provided that a change to conform to the proposed regulations upon finaliza- tion will be considered a change in method of accounting under section 446(e). The 2008 proposed regulations, however, were not effective until issued as final regula- tions and thus did not provide specific pro- cedures for changes in method of account- ing. The IRS and the Treasury Department received several comments regarding the procedures that a taxpayer should uti- lize to change its method of accounting to comply with the regulations. Several commentators favored the use of a cut-off method, primarily for reasons of admin- istrative convenience. However, other commentators asserted that any change in method of accounting must include a section 481(a) adjustment. The temporary regulations under §1.162–3T are generally effective for amounts paid or incurred (to acquire or produce property) in taxable years begin- ning on or after January 1, 2012, except for §1.162–3T(e), which is effective for taxable years beginning on or after January 1, 2012. The temporary regulations under §§1.167(a)–4, 1.167(a)–7T, 1.167(a)–8T, 1.168(i)–1T, 1.168(i)–7T, 1.168(i)–8T, 1.263(a)–1T, 1.263(a)–2T, 1.263(a)–3T, 1.263(a)–6T, and 1.1016–3T are gener- ally effective for taxable years begin- ning on or after January 1, 2012, except for §§1.263(a)–2T(f)(2)(iii), (f)(2)(iv), (f)(3)(ii), and (g), which are effective for amounts paid or incurred (to acquire or produce property) in taxable years be- ginning on or after January 1, 2012. In addition, the temporary regulations under §1.263A–1T are effective for amounts paid or incurred (to acquire or produce property) in taxableyears beginning on or after January 1, 2012. As stated in the preamble to the 2008 proposed regulations, a change to con- form to these regulations will be a change in method of accounting under section 446(e). In general, a taxpayer seeking a change in method of accounting to comply with these temporary regulations must take into account an adjustment under section 481(a). Procedures will be provided under which taxpayers may obtain automatic consent for a taxable year beginning on or after Jan 1, 2012 to change to a method of accounting provided in the temporary regulations. The imposition of a section 481(a) ad- justment for a change in method of ac- counting to conform to the temporary reg- ulations provides for a uniform and con- sistent rule for all taxpayers and ultimately reduces the administrative burdens on tax- payers and the IRS in enforcing the re- quirements of section 263(a). Although the IRS and the Treasury Department rec- ognize that requiring a section 481(a) ad- justmentmayplaceaburdenontaxpayers to calculate reasonable adjustments, tax- payers have shown a willingness and abil- ity to make these calculations in request- ing method changes after the publication of the 2008 proposed regulations. In addi- tion, taxpayers and the IRS routinely reach agreements on calculation methodologies and amounts. Moreover, by utilizing a sec- tion 481(a) adjustment to make the change, a taxpayer is put on the same method of ac- counting for all amounts or costs incurred both prior to and after the effective date of these regulations. Furthermore, a section 481(a) adjustment results in similar treat- ment for all taxpayers, including those that changed their method of accounting in re- sponse to the 2008 proposed regulations. Finally, requiring a section 481(a) adjust- ment reduces the burden for taxpayers and the IRS during examinations that include years both before andafter the effective date of these regulations because the par- ties will need to apply only the temporary regulations, and will not need to apply the rules in effect prior to the effective date of the temporary regulation. Comments and Public Hearing The text of these temporary regulations also serves as the text of the proposed reg- ulations set forth in a notice of proposed rulemaking on this subject in the this issue of the Bulletin. Please see the “Comments and Public Hearing” section of the notice of proposed rulemaking for the procedures to follow for submitting comments and re- questing to speak at thepublichearingon the proposed regulations on this subject. Special Analyses It has been determined that this Trea- sury decision is not asignificant regula- tory action as defined in Executive Order 12866, as supplemented by Executive Or- der 13563. Therefore, a regulatory assess- ment is not required. It also has been de- termined that section 553(b) of the Admin- istrative Procedure Act (5 U.S.C. chapter 5) does not apply to these regulations, and, because the regulation does not impose a collection of information on small entities, the Regulatory Flexibility Act (5 U.S.C. chapter 6) does not apply. Pursuant to sec- tion 7805(f), these temporary regulations will be submitted to the Chief Counsel for Advocacy of the Small Business Admin- istration for comment on their impact on small business. Drafting Information The principal authors of these regulations are Merrill D. Feldstein and Kathleen Reed, Office of the Associate Chief Counsel (Income Tax and Accounting). Other personnel from the IRS and the Treasury Department have participated in their development. ***** Amendments to the Regulations Accordingly, 26 CFR part 1 is amended as follows: PART 1—INCOME TAXES Paragraph 1. The authority citation for part 1 is amended by adding an entry in numerical order to read as follows: Authority: 26 U.S.C. 7805 * * * Section 1.168(i)–1Talso issued under 26 U.S.C. 168(i)(4). * * * Par. 2. Section 1.162–3 is revised to read as follows: §1.162–3 Materials and Supplies. (a) through (k) [Reserved]. For further guidance, see §1.162–3T(a) through (k). 2012–14 I.R.B.636April 2, 2012 Par. 3. Section 1.162–3T is added to read as follows: §1.162–3T Materials and supplies (temporary). (a)In general—(1)Non-incidental ma- terials and supplies. Amounts paid to ac- quire or produce materials and supplies are deductible in the taxable year in which the materials and supplies are used or con- sumed in the taxpayer’s operations. (2)Incidental materials and supplies. Amounts paid to acquire or produce inci- dental materials and supplies that are car- ried on hand and for which no record of consumption is kept or of which physi- cal inventories at the beginning and end of the taxable year are not taken, are de- ductible in the taxable year in which these amounts are paid, provided taxable income is clearly reflected. (3)Use or consumption of rotable and temporary spare parts. Except as provided in paragraphs (d), (e), and (f) of this sec- tion, for purposes of paragraph (a)(1) of this section, rotable and temporary spare parts (defined under paragraph (c)(2) of this section) are used or consumed in the taxpayer’s operations in the taxable year in which the taxpayer disposes of the parts. (b)Coordination with other provisions of the Internal Revenue Code. Nothing in this section changes the treatment of any amount that is specifically provided for under any provision of the Internal Rev- enue Code or regulations other than sec- tion 162(a) or section 212 and the regula- tions under those sections. For example, see §1.263(a)–3T, which requires taxpay- ers to capitalize amounts paid to improve tangible property and section 263A and the regulations under section 263A, which re- quire taxpayers to capitalize the direct and allocable indirect costs, including the cost of materials and supplies, to property pro- duced or to property acquired for resale. See also §1.471–1, which requires taxpay- ers to include in inventory certain materi- als and supplies. (c)Definitions—(1)Materials and sup- plies. For purposes of this section,mate- rials and suppliesmeans tangible property that is used or consumed in the taxpayer’s operations that is not inventory and that— (i) Is a component acquired to main- tain, repair, or improve a unit of tan- gible property (as determined under §1.263(a)–3T(e)) owned, leased, or ser- viced by the taxpayer and that is not acquired as part of any single unit of tan- gible property; (ii) Consists of fuel, lubricants, water, and similar items, that are reasonably ex- pected to be consumed in 12 months or less, beginning when used in taxpayer’s operations; (iii)Isaunitofpropertyasdetermined under §1.263(a)–3T(e) that has an eco- nomic useful life of 12 months or less, be- ginning when the property is used or con- sumed in the taxpayer’s operations; (iv) Is a unit of property as determined under §1.263(a)–3T(e) that has an acqui- sition cost or production cost (as deter- mined under section 263A) of $100 or less (or other amount as identified in pub- lished guidance in theFederal Register or in the Internal Revenue Bulletin (see §601.601(d)(2)(ii)(b)ofthischapter));or (v) Is identified in published guid- ance in theFederal Registeror in the Internal Revenue Bulletin (see §601.601(d)(2)(ii)(b)ofthischapter)as materials and supplies for which treatment is permitted under this section. (2)Rotable and temporary spare parts. For purposes of this section, rotable spare parts are materials and supplies under paragraph (c)(1)(i) of this section that are acquired for installation on a unit of prop- erty, removable from that unit of property, generally repaired or improved, and either reinstalled on the same or other property or stored for later installation. Tempo- rary spare parts are materials and supplies under paragraph (c)(1)(i) of this section that are used temporarily until a new or repaired part can be installed and then are removed and stored for later (emergency or temporary) installation. (3)Economic useful life—(i)General rule. The economic useful life of a unit of property is not necessarily the useful life inherent in the property but is the period over which the property may reasonably be expected to be useful to the taxpayer or, if the taxpayer is engaged in a trade or busi- ness or an activity for the production of in- come, the period over which the property may reasonably be expected to be useful to the taxpayer in its trade or business or for the production of income, as applica- ble. See §1.167(a)–1(b) for the factors to be considered in determining this period. (ii)Taxpayers with an applicable finan- cial statement. For taxpayers with an ap- plicable financial statement (as defined in paragraph (c)(3)(iii) of this section), the economic useful life of a unit of property, solely for the purposes of applying the pro- visions of paragraph (c)(1)(iii) of this sec- tion, is the useful life initially used by the taxpayer for purposes of determining de- preciation in its applicable financial state- ment, regardless of any salvage value of the property. If a taxpayer does not have an applicable financial statement for the taxable year in which a unit of property was originally acquired or produced, the economic useful life of the unit of prop- erty must be determined under paragraph (c)(3)(i) of this section. Further, if a tax- payer treats amounts paid for a unit of property as an expense in its applicable fi- nancial statement on a basis other than the useful life of the property or if a taxpayer does not depreciate the unit of property on its applicable financial statement, the economic useful life of the unit of prop- erty must be determined under paragraph (c)(3)(i) of this section. For example, if a taxpayer has a policy of treating as an expense on its applicable financial state- ment amounts paid for a unit of property costing less than a certain dollar amount, notwithstanding that the unit of property has a useful life of more than one year, the economic useful life of the unit of prop- erty must be determined under paragraph (c)(3)(i) of this section. (iii)Definition of applicable finan- cial statement. The taxpayer’s applicable financial statement is the taxpayer’s fi- nancial statement listed in paragraphs (c)(3)(iii)(A) through (C) of this section that has the highest priority (including within paragraph (c)(3)(iii)(B) of this sec- tion). The financial statements are, in descending priority— (A) A financial statement required to be filed with the Securities and Exchange Commission (SEC) (the 10–K or the An- nual Statement to Shareholders); (B) A certified audited financial state- ment that is accompanied by the report of an independent CPA (or in the case of a foreign entity, by the report of a similarly qualified independent professional), that is used for— (1) Credit purposes; (2) Reporting to shareholders, partners, or similar persons; or April 2, 20126372012–14 I.R.B. (3) Any other substantial non-tax pur- pose; or (C) A financial statement (other than a tax return) required to be provided to the Federal or a state government or any Federal or state agencies (other than the SEC or the Internal Revenue Service). (4)Amount paid. For purposes of this section, in the case of a taxpayer using an accrual method of accounting, the termsamount paidandpaymentmean a liability incurred (within the meaning of §1.446–1(c)(1)(ii)). A liability may not be taken into account under this section prior to the taxable year during which the liability is incurred. (5)Produce. For purposes of this sec- tion,producemeans construct, build, in- stall, manufacture, develop, create, raise, or grow. This definition is intended to have the same meaning as the definition used for purposes of section 263A(g)(1) and §1.263A–2(a)(1)(i), exceptthatimprove- ments are excluded from the definition in this paragraph (c)(5) and are separately defined and addressed in §1.263(a)–3T. Amounts paid to produce materials and supplies are subject to section 263A. (d)Election to capitalize and depreci- ate—(1)In general. A taxpayer may elect to treat as a capital expenditure and to treat as an asset subject to the allowance for de- preciation the cost of any material or sup- ply as defined in paragraph (c)(1) of this section. Except as specified in paragraph (d)(2) of this section, an election made un- der this paragraph (d) applies to amounts paid during the taxable year to acquire or produce any material or supply to which paragraph (a) of this section would apply (but for the election under this paragraph (d)). Any asset for which this election is made shall not be treated as a material or a supply. (2)Exceptions. A taxpayer may not elect to capitalize and depreciate under paragraph (d) of this section— (i) Any amount paid to acquire or pro- duce a material or supply described in paragraph (c)(1)(i) of this section if— (A) The material or supply is intended to be used as a component of a unit of prop- erty that is a material or supply under para- graph (c)(1)(iii), (iv), or (v) of this section; and (B) The taxpayer has not elected to cap- italize and depreciate that unit of property under this paragraph (d); or (ii) Any amount paid to acquire or produce a rotable or temporary spare part if the taxpayer has applied the optional method of accounting for rotable and tem- porary spare parts under paragraph (e) of this section. (3)Manner of electing. A taxpayer makes the election under paragraph (d) of this section by capitalizing the amounts paid to acquire or produce a material or supply in the taxable year the amounts are paid and by beginning to recover the costs when the asset is placed in service by the taxpayer for the purposes of deter- mining depreciation under the applicable provisions of Internal Revenue Code and regulations thereunder. A taxpayer must make this election in its timely filed orig- inal Federal income tax return (including extensions) for the taxable year the asset is placed in service by the taxpayer for purposes of determining depreciation. See §1.263(a)–2T for the treatment of amounts paid to acquire or produce real or per- sonal tangible property. In the case of a pass-through entity, the election is made by the pass-through entity, and not by the shareholders or partners. A taxpayer may make an election for each material or sup- ply that qualifies for the election under this paragraph (d). A taxpayer may revoke an election made under this paragraph (d) with respect to a material or supply only by filing a request for a private letter rul- ing and obtaining the Commissioner’s con- sent to revoke the election. The Commis- sioner may grant a request to revoke this election if the taxpayer can demonstrate good cause for the revocation. An election may not be made or revoked through the filing of an application for change in ac- counting method or, before obtaining the Commissioner’s consent to make the late election or to revoke the election, by filing an amended Federal income tax return. (e)Optional method of accounting for rotable and temporary spare parts—(1)In general. This paragraph (e) provides an optional method of accounting for rotable and temporary spare parts (the optional method for rotables). A taxpayer may use the optional method for rotables, instead of the general rule under paragraph (a)(3) of this section, to account for its rotable and temporary spare parts as defined in para- graph (c)(2) of this section. A taxpayer that uses the optional method for rotables must use this method for all of its rotable and temporary spare parts in the same trade or business. The optional method for rota- bles is a method of accounting under sec- tion 446(a). Under the optional method for rotables, the taxpayer must apply the rules in this paragraph (e) to each rotable or tem- porary spare part (part) upon the taxpayer’s initial installation, removal, repair, mainte- nance or improvement, reinstallation, and disposal of each part. (2)Description of optional method for rotables—(i)Initial installation. The tax- payer must deduct the amount paid to ac- quire or produce the part in the taxable year that the part is first installed on a unit of property for use in the taxpayer’s opera- tions. (ii)Removalfromunitofproperty.In each taxable year in which the part is re- moved from a unit of property to which it was initially or subsequently installed, the taxpayer must— (A) Include in gross income the fair market value of the part; and (B) Include in the basis of the part the fair market value of the part included in in- come under paragraph (e)(2)(ii)(A) of this section and the amount paid to remove the part from the unit of property. (iii)Repair, maintenance, or improve- ment of part. The taxpayer may not cur- rently deduct and must include in the basis of the part any amounts paid to maintain, repair, or improve the part in the taxable year these amounts are paid. (iv)Reinstallation of part. The tax- payer must deduct the amounts paid to re- install the part and those amounts included in the basis of the part under paragraphs (e)(2)(ii)(B) and (e)(2)(iii) of this section, to the extent that those amounts have not been previously deducted under this para- graph (e)(2)(iv), in the taxable year that the part is reinstalled on a unit of property. (v)Disposal of the part. The tax- payer must deduct the amounts included in the basis of the part under paragraphs (e)(2)(ii)(B) and (e)(2)(iii) of this section, to the extent that those amounts have not been previously deducted under paragraph (e)(2)(iv) of this section, in the taxable year in which the part is disposed of by the taxpayer. (f)Electiontoapplydeminimis rule—(1)In general. A taxpayer may elect to apply thede minimisrule under §1.263(a)–2T(g) to any material or supply defined in paragraph (c)(1) this section. 2012–14 I.R.B.638April 2, 2012 Any material or supply to which the tax- payer elects to apply thede minimisrule under §1.263(a)–2T(g) is not treated as a material or supply under this section.See §1.263(a)–2T(g)(5). (2)Manner of electing. A taxpayer makes the election by deducting the amounts paid to acquire or produce a material or supply in the taxable year that the amounts are paid and by com- plying with the requirements set out in §1.263(a)–2T(g). A taxpayer must make this election in its timely filed original Federal income tax return (including ex- tensions) for the taxable year that amounts are paid for the material or supply. In the case of a pass-through entity, the election is made by the pass-through entity and not by the shareholders or partners. A taxpayer may make an election for each material or supply that qualifies for the election under paragraph (f) of this sec- tion. A taxpayer may revoke an election made under paragraph (f) of this section with respect to a material or supply only by filing a request for a private letter ruling and obtaining the Commissioner’s consent to revoke the election. The Commissioner may grant a request to revoke this elec- tion if the taxpayer can demonstrate good cause for the revocation. An election may not be made or revoked through the filing of an application for change in accounting method or, before obtaining the Commis- sioner’s consent to make the late election or to revoke the election, by filing an amended Federal income tax return. (g)Sale or disposition of materials and supplies. Upon sale or other disposition, materials and supplies as defined in this section are not treated as a capital asset un- dersection1221oraspropertyusedinthe trade or business under section 1231. Any asset for which the taxpayer makes the election to capitalize and depreciate under paragraph (d) of this section shall not be treated as a material or supply. (h)Examples. The rules of this section are illustrated by the following examples, in which it is assumed (unless otherwise stated) that the property is not an inciden- tal material or supply, that the taxpayer is a calendar year, accrual method taxpayer, and that the taxpayer has not elected to capitalize under paragraph (d) of this sec- tion or to apply thede minimisrule under paragraph (f) of this section. Example 1.Non-rotable components. X owns a fleet of aircraft that it operates in its business. In Year 1, X purchases a stock of spare parts, which it uses to maintain and repair its aircraft. X keeps a record of consumption of these spare parts. In Year 2, X uses the spare parts for the repair and maintenance of one of its aircraft. Assume each aircraft is a unit of prop- erty under §1.263(a)–3T(e) and that spare parts are not rotable or temporary spare parts under paragraph (c)(2) of this section. Assume these repair and main- tenance activities do not improve the aircraft under §1.263(a)–3T. These parts are materials and supplies under paragraph (c)(1)(i)of this section because they are components acquired and used to maintain and re- pair X’s aircraft. Under paragraph (a)(1) of this sec- tion, the amounts that X paid for the spare parts in Year 1 are deductible in Year 2, the taxable year in which the spare parts are used to repair and maintain the aircraft. Example 2.Rotable spare parts. X operates a fleet of specialized vehicles that it uses in its service business. Assume that each vehicle is a unit of prop- erty under §1.263(a)–3T(e). At the time that it ac- quires a new type of vehicle, X also acquires a sub- stantial number of rotable spare parts that it will keep on hand to quickly replace similar parts in X’s vehi- cles as those parts break down or wear out. These rotable parts are removable from the vehicles and are repaired so that they can be reinstalled on the same or similar vehicles. X does not use the optional method of accounting for rotable and temporary spare parts provided in paragraph (e) of this section. In Year 1, X acquires several vehicles and a number of rotable spare parts to be used as replacement parts in these ve- hicles. In Year 2, X repairs several vehicles by using these rotable spare parts to replace worn or damaged parts. In Year 3, X removes these rotable spare parts from its vehicles, repairs the parts, and reinstalls them on other similar vehicles. In Year 5, X can no longer use the rotable parts it acquired in Year 1 and disposes of them as scrap. Under paragraph (c)(1)(i) of this section, the rotable spare parts acquired in Year 1 are materials and supplies. Under paragraph (a)(3) of this section, rotable spare parts are generally used or con- sumed in the taxable year in which the taxpayer dis- poses of the parts. Therefore, under paragraph (a)(1) of this section, the amounts that X paid for the rotable spare parts in Year 1 are deductible in Year 5, the tax- able year in which X disposes of the parts. Example 3.Rotable spare parts; application of optional method of accounting. Assume the same facts as inExample 2, except X uses the optional method of accounting for all its rotable and tempo- rary spare parts under paragraph (e) of this section. In Year 1, X acquires several vehicles and a number of rotable spare parts (the “Year 1 rotables”) to be used as replacement parts in these vehicles. In Year 2, X repairs several vehicles and uses the Year 1 rotables to replace worn or damaged parts. In Year 3, X pays amounts to remove these Year 1 rotables from its ve- hicles. In Year 4, X pays amounts to maintain, repair, or improve the Year 1 rotables. In Year 5, X pays amounts to reinstall the Year 1 rotables on other sim- ilar vehicles. In Year 8, X removes the Year 1 rotables from these vehicles and stores these parts for possible later use. In Year 9, X disposes of the Year 1 rotables. Under paragraph (e) of this section, X must deduct the amounts paid to acquire and install the Year 1 rota- bles in Year 2, the taxable year in which the rotable spare parts are first installed by X in X’s vehicles. In Year 3, when X removes the Year 1 rotables from its vehicles, X must include in its gross income the fair market value of each part. Also, in Year 3, X must include in the basis of each Year 1 rotable the fair market value of the rotable and the amount paid to re- move the rotable from the vehicle. In Year 4, X must include in the basis of each Year 1 rotable the amounts paid to maintain, repair,or improve each rotable. In Year 5, the year that X reinstalls the Year 1 rotables (as repaired or improved) in other vehicles, X must deduct the reinstallation costs and the amounts previ- ously included in the basis of each part. In Year 8, the year that X removes the Year 1 rotables from the vehi- cles, X must include in income the fair market value of each rotable part removed. In addition, in Year 8, X must include in the basis of each part the fair mar- ket value of that part and the amount paid to remove the each rotable from the vehicle. In Year 9, the year that X disposes of the Year 1 rotables, X may deduct the amounts remaining in the basis of each rotable. Example 4.Rotable part acquired as part of a single unit of property; not material or supply.X operates a fleet of aircraft. In Year 1, X acquires a new aircraft, which includes two new aircraft en- gines. The aircraft costs $500,000 and has an eco- nomic useful life of more than 12 months, beginning when it is placed in service. In Year 5, after the air- craft is operated for several years in X’s business, X removes the engines from the aircraft, repairs or im- proves the engines, and either reinstalls the engines on a similar aircraft or stores the engines for later re- installation. Assume the aircraft purchased in Year 1, including its two engines, is a unit of property un- der §1.263(a)–3T(e). Because the engines were ac- quired as part of the aircraft, a single unit of property, the engines are not materials or supplies under para- graph (c)(1)(i) of this section nor rotable or temporary spare parts under paragraph (c)(2) of this section. Ac- cordingly, X may not apply the rules of this section to the aircraft engines upon the original acquisition of the aircraft nor after the removal of the engines from the aircraft for use in the same or similar aircraft. Rather, X must apply the rules under §§1.263(a)–2T and 1.263(a)–3T to the aircraft, including its engines, to determine the treatment of amounts paid to acquire, produce, or improve the unit of property. Example 5.Components of real property.X owns an apartment building that it leases in its busi- ness operation and discovers that a window in one of the apartments is broken. Assume that the build- ing, including its windows, is a unit of property un- der §1.263(a)–3T(e) and the window is not a rotable or temporary spare part under paragraph (c)(2) of this section. X pays for the acquisition and delivery of a new window to replace the broken window. In the same taxable year, the new window is installed. As- sume that the replacement of the window does not improve the property under §1.263(a)–3T and that X does not recognize gain or loss on the disposition of the broken window. The new window is a material or supply under paragraph (c)(1)(i) of this section be- cause it is a component acquired and used to repair a unit of property owned by X and used in X’s op- erations. Under paragraph (a)(1) of this section, the amounts X paid for the acquisition and delivery of the window are deductible in the taxable year in which the window is installed in the apartment building. See April 2, 20126392012–14 I.R.B. §1.168(i)–8T for the treatment of the disposition of the broken window. Example 6.Consumable property. X operates a fleet of aircraft that carries freight for its customers. X has several storage tanks on its premises, which hold jet fuel for its aircraft. Assume that once the jet fuel is placed in X’s aircraft, the jet fuel is reasonably expected to be consumed within 12 months or less. On December 31, Year 1, X purchases a two-year sup- ply of jet fuel. In Year 2, X uses a portion of the jet fuel purchased on December 31, Year 1, to fuel the aircraft used in its business. The jet fuel that X pur- chased in Year 1 is a material or supply under para- graph (c)(1)(ii) of this section because it is reason- ably expected to be consumed within 12 months or less from the time it is placed in X’s aircraft. Under paragraph (a)(1) of this section, X may deduct in Year 2 the amounts paid for the portion of jet fuel used in the operation of X’s aircraft in Year 2. Example 7.Unit of property that costs $100 or less. X operates a business that rents out a variety of small individual items to customers (rental items). X maintains a supply of rental items on hand. In Year 1, X purchases a large quantity of rental items to use in its rental business. Assume that each rental item is a unit of property under §1.263(a)–3T(e) and costs $100 or less. In Year 2, X begins using all the rental items purchased in Year 1 by providing them to cus- tomers of its rental business. X does not sell or ex- change these items on established retail markets at any time after the items are used in the rental busi- ness. The rental items are materials and supplies un- derparagraph(c)(1)(iv)ofthissection. Underpara- graph (a)(1) of this section, the amounts that X paid for the rental items in Year 1 are deductible in Year 2, the taxable year in which the rental items are used in X’s business. Example 8.Unit of property that costs $100 or less. X provides billing services to its customers. In Year 1, X pays amounts to purchase 50 facsim- ile machines to be used by its employees. Assume each facsimile machine is a unit of property under §1.263(a)–3T(e) and costs less than $100. In Year 1, X’s employees begin using 35 of the facsimile ma- chines, and X stores the remaining 15 machines for use in a later taxable year. The facsimile machines are materials and supplies under paragraph (c)(1)(iv) of this section. Under paragraph (a)(1) of this section, the amounts X paid for 35 of the facsimile machines are deductible in Year 1, the taxable year in which X uses those machines. The amounts that X paid for each of the remaining 15 machines are deductible in the taxable year in which each machine is used. Example 9.Materials and supplies used in improvements; coordination with §1.263(a)–3T.X owns various machines that are used in its business. Assume that each machine is a unit of property under §1.263(a)–3T(e). In Year 1, X purchases a supply of spare parts for its machines. X acquired the parts to use in the repair or maintenance of the machines under §1.162–4T or in the improvement of the ma- chines under §1.263(a)–3T. The spare parts are not rotable or temporary spare parts under paragraph (c)(2) of this section. In Year 2, X uses all of these spare parts in an activity that improves a machine under §1.263(a)–3T. Under paragraph (c)(1)(i) of this section, the spare parts purchased by X in Year 1 are materials and supplies. Under paragraph (a)(1) of this section, the amounts paid for the spare parts are otherwise deductible as materials and supplies in Year 2, the taxable year in which X uses those parts. However, because these materials and supplies are used to improve X’s machine, X is required to cap- italize the amounts paid for those spare parts under §1.263(a)–3T. See also section 263A for the require- ment to capitalize the direct and allocable indirect costs of property produced or property acquired for resale. Example 10.Cost of producing materials and supplies; coordination with section 263A.Xisaman- ufacturer that produces liquid waste as part of its op- erations. X determines that its current liquid waste disposal process is inadequate. To remedy the prob- lem, in Year 1, X constructs a leaching pit to provide a draining area for the liquid waste. Assume the leach- ing pit is a unit of property under §1.263(a)–3T(e) and has an economic useful life 12 months or less, start- ing on the date that X begins to use the leaching pit as a draining area. At the end of this period, X’s factory will be connected to the local sewer system. In Year 2, X starts using the leaching pit in its operations. The amounts paid to construct the leaching pit (includ- ing the direct and allocable indirect costs of property produced under section 263A) are amounts paid for a material or supply under paragraph (c)(1)(iii) of this section. Under paragraph (a)(1) of this section, the amounts paid for the leaching pit are otherwise de- ductible as materials and supplies in Year 2, the tax- able year in which X uses the leaching pit. However, because the amounts paid to construct the leaching pit directly benefit or are incurred by reason of X’s man- ufacturing operations, X must capitalize those costs under section 263A to the property produced.See §1.263A–1(e)(3)(ii)(E). Example 11.Costs of acquiring materials and supplies for production of property; coordination with section 263A. In Year 1, X purchases jigs, dies, molds, and patterns for use in the manufacture of X’s products. Assume each jig, die, mold, and pattern is a unit of property under §1.263(a)–3T(e). The eco- nomic useful life of each jig, die, mold, and pattern is 12 months or less, beginning when each item is used in the manufacturing process. The jigs, dies, molds, and patterns are not components acquired to maintain, repair, or improve any of X’s equipment under paragraph (c)(1)(i) of this section. X begins using the jigs, dies, molds and patterns in Year 2 to manufacture its products. These items are materi- als and supplies under paragraph (c)(1)(iii) of this section. Under paragraph (a)(1) of this section, the amounts paid for the items are otherwise deductible in Year 2, the taxable year in which X uses those items. However, because the amounts paid for these materials and supplies directly benefit or are incurred by reason of X’s manufacturing operations, X must capitalize the costs under section 263A to the prop- erty produced.See§1.263A–1(e)(3)(ii)(E). Example 12.Election to capitalize and depreci- ate.X operates a rental business that rents out a va- riety of items (rental items) to its customers. Assume each rental item is a separate unit of property as de- termined under §1.263(a)–3T(e). X does not sell or exchange these items on established retail markets at any time after the items are used in the rental busi- ness. X purchases various rental items, each of which costs less than $100 or has an economic useful life of 12 months or less, beginning when the items are used or consumed. The rental items are materials and sup- plies under paragraph (c)(1)(iii) or (c)(1)(iv) of this section. Under paragraph (a)(1) of this section, the amount paid for each rental item is deductible in the taxable year in which the item is used in the rental business. However, X would prefer to treat the cost of each rental item as a capital expenditure subject to depreciation. Under paragraph (d) of this section, X may elect not to apply the rule contained in paragraph (a)(1) of this section to the rental items. X makes this election by capitalizing the amounts paid for each rental item in the taxable year that X purchases the item and by beginning to recover the costs of each item on its timely filed Federal income tax return for the taxable year that X places the item in service for purposes of determining depreciation under the ap- plicable provisions of the Internal Revenue Code and the regulations thereunder. See §1.263(a)–2T(h) for the treatment of capital expenditures. Example 13.Election to capitalize and depreci- ate. X is an electric utility. X acquires certain tempo- rary spare parts, which it keeps on hand to avoid oper- ational time loss in the event it must make emergency repairs to a unit of property that is subject to depre- ciation. These parts are not used to improve property under §1.263(a)–3T(d). These temporary spare parts are used until a new or repaired part can be installed and then are removed and stored for later emergency installation. X does not use the optional method of accounting for rotable and temporary spare parts in paragraph (e) of this section for any of its rotable or temporary spare parts. The temporary spare parts are materials and supplies under paragraph (c)(1)(i) of this section. Under paragraphs (a)(1) and (a)(3) of this section, the amounts paid for the temporary spare parts are deductible in the taxable year in which they are disposed of by the taxpayer. However, because it is unlikely that the temporary spare parts will be dis- posed of in the near future, X would prefer to treat the amounts paid for the spare parts as capital ex- penditures subject to depreciation. X may elect un- der paragraph (d) of this section not to apply the rule contained in paragraph (a)(1) of this section to each of its temporary spare parts. X makes this election by capitalizing the amounts paid for each spare part in the taxable year that X acquires the spare parts and by beginning to recover the costs of each part on its timely filed Federal incometax return for the taxable year in which the part is placed in service for pur- poses of determining depreciation under the applica- ble provisions of the Internal Revenue Code and the regulations thereunder. See §1.263(a)–2T(h) for the treatment of capital expenditures and section 263A for the requirement to capitalize the direct and allo- cable indirect costs of property produced or property acquired for resale. Example 14.Election to apply de minimis rule. X provides consulting services to its customers. X purchases 50 office chairs to be used by its employ- ees. Each office chair is a unit of property that costs $80. Also in the same taxable year, X pays amounts to purchase 50 customized briefcases. Assume each briefcase is a unit of property under §1.263(a)–3T(e), costs $120, and has an economicusefullifeof12 months or less, beginning when used and consumed. X has an applicable financial statement (as defined in §1.263(a)–2T(g)(6)), and X has a written policy at the beginning of the taxable year to expense amounts paid for units of property costing less than $300. The briefcases and the office chairs are materials and 2012–14 I.R.B.640April 2, 2012 supplies under paragraph (c)(1)(iii) and (c)(1)(iv), respectively, of this section. Under paragraph (a)(1) of this section, the amounts paid for the office chairs and briefcases are deductible in the taxable year in which they are used or consumed. However, assum- ing X meets all the requirements of §1.263(a)–2T(g), X may elect under paragraph (f) of this section to apply thede minimisrule under §1.263(a)–2T(g) to amounts paid for the office chairs and briefcases, rather than treat these amounts as the costs of mate- rials and supplies under §1.162–3T. (i)Accounting method changes.Ex- cept as otherwise provided in this section, a change to comply with this section is a change in method of accounting to which the provisions of sections 446 and 481, and the regulations thereunder, apply. A tax- payer seeking to change to a method of ac- counting permitted in this section must se- cure the consent of the Commissioner in accordance with §1.446–1(e) and follow the administrative procedures issued under §1.446–1(e)(3)(ii) for obtaining the Com- missioner’s consent to change its account- ing method. (j)Effective/applicability date.This section generally applies to amounts paid or incurred (to acquire or produce prop- erty) in taxable years beginning on or after January 1, 2012. However, a taxpayer may apply §1.162–3T(e) (the optional method of accounting for rotable and temporary spare parts) to taxable years beginning on or after January 1, 2012. For the ap- plicability of regulations to taxable years beginning before January 1, 2012, see §1.162–3 in effect prior to January 1, 2012 (§1.162–3 as contained in 26 CFR part 1 edition revised as of April 1, 2011). (k)Expiration date. The applicability of this section expires on December 23, 2014. Par. 4. Section 1.162–4 is revised to read as follows: §1.162–4 Repairs. (a)through(d)[Reserved].Forfurther guidance, see §1.162–4T(a) through (d). Par. 5. Section 1.162–4T is added to read as follows: §1.162–4T Repairs (temporary). (a)In general. A taxpayer may deduct amounts paid for repairs and maintenance to tangible property if the amounts paid are not otherwise required to be capitalized. (b)Accounting method changes.Ex- cept as otherwise provided in this section, a change to comply with this section is a change in method ofaccounting to which the provisions of sections 446 and 481, and the regulations thereunder, apply. A tax- payer seeking to change to a method of ac- counting permitted in this section must se- cure the consent of the Commissioner in accordance with §1.446–1(e) and follow the administrative procedures issued under §1.446–1(e)(3)(ii) for obtaining the Com- missioner’s consent to change its account- ing method. (c)Effective/applicability date.This section applies to taxable years beginning on or after January 1, 2012. For the ap- plicability of regulations to taxable years beginning before January 1, 2012, see §1.162–4 in effect prior to January 1, 2012 (§1.162–4 as contained in 26 CFR part 1 edition revised as of April 1, 2011). (d)Expiration date. The applicability of this section expires on December 23, 2014. §1.162–6 [Removed] Par. 6. Section 1.162–6 is removed. Par. 7. Section 1.162–11 is amended by revising paragraph (b), and adding para- graphs (c) and (d) to read as follows: §1.162–11 Rentals ***** (b) [Reserved]. For further guidance, see §1.162–11T(b). (c) [Reserved]. For further guidance, see §1.162–11T(c). (d) [Reserved]. For further guidance, see §1.162–11T(d). Par. 8. Section 1.162–11T is added to read as follows: §1.162–11T Rentals (temporary) (a) [Reserved]. For further guidance, see §1.162–11(a). (b)Improvements by lessee on lessor’s property. The cost to a taxpayer of erecting buildings or making permanent improve- ments on property of which the taxpayer is a lessee is a capital expenditure and is not deductible as a business expense. For the rules regarding improvements to leased property where the improvements are tan- gible property, see §1.263(a)–3T(f)(1). For the rules regarding depreciation or amortization deductions for leasehold im- provements, see §1.167(a)–4T. (c)Effective/applicability date.This section applies to taxable years beginning on or after January 1, 2012. For the ap- plicability of regulations to taxable years beginning before January 1, 2012, see §1.162–11 in effect prior to January 1, 2012 (§1.162–11 as contained in 26 CFR part 1 edition revised as of April 1, 2011). (d)Expiration date. The applicability of this section expires on December 23, 2014. Par. 9. Section 1.165–2 is amended by revising paragraph (c) and adding para- graphs (d) and (e) to read as follows: §1.165–2 Obsolescence of nondepreciable property. ***** (c)Cross references. [Reserved]. For further guidance, see §1.165–2T(c). (d)Effective/applicability date.[Re- served]. For further guidance, see §1.165–2T(d). (e)Expiration date.[Reserved].For further guidance, see §1.165–2T(e). Par. 10. Section 1.165–2T is added to read as follows: §1.165–2T Obsolescence of nondepreciable property (temporary). (a) and (b) [Reserved]. For further guidance, see §1.165–2(a) and (b). (c)Cross references. For the allowance under section 165(a) of losses arising from the permanent withdrawal of de- preciable property from use in the trade or business or in the production of in- come, see §1.167(a)–8T, §1.168(i)–1T, or §1.168(i)–8T, as applicable. For provi- sions respecting the obsolescence of de- preciable property forwhich depreciation is determined under section 167 (but not under section 168, section 1400I, section 1400L(c), section 168 prior to its amend- ment by the Tax Reform Act of 1986 (100 Stat. 2121), or under an additional first year depreciation deduction provision of the Internal Revenue Code (for example, section 168(k) through (n), 1400L(b), or 1400N(d))), see §1.167(a)–9. For the al- lowance of casualty losses, see §1.165–7. (d)Effective/applicability date.This section applies to taxable years beginning on or after January 1, 2012. For the ap- plicability of regulations to taxable years beginning before January 1, 2012, see April 2, 20126412012–14 I.R.B. §1.165–2 in effect prior to January 1, 2012 (§1.165–2 as contained in 26 CFR part 1 edition revised as of April 1, 2011). (e)Expiration date. The applicability of this section expires on December 23, 2014. Par. 11. Section 1.167(a)–4 is revised to read as follows: §1.167(a)–4 Leased property. (a)In general. [Reserved]. For further guidance, see §1.167(a)–4T(a). (b)Effective/applicability date.[Re- served]. For further guidance, see §1.167(a)–4T(b). Par. 12. Section 1.167(a)–4T is added to read as follows: §1.167(a)–4T Leased property (temporary). (a)In general. Capital expenditures made by either a lessee or lessor for the erection of a building or for other perma- nent improvements on leased property are recovered by the lessee or lessor under the provisions of the Internal Revenue Code applicable to the cost recovery of the build- ing or improvements, if subject to depre- ciation or amortization, without regard to the period of the lease. For example, if the building or improvement is property to which section 168 applies, the lessee or lessor determines the depreciation deduc- tion for the building or improvement under section 168.Seesection 168(i)(8)(A). If the improvement is property to which sec- tion 167 or section 197 applies, the lessee or lessor determines the depreciation or amortization deduction for the improve- ment under section 167 or section 197, as applicable. (b)Effective/applicability date—(1)In general. Except as provided in paragraphs (b)(2) and (b)(3) of this section, this sec- tion applies to taxable years beginning on or after January 1, 2012. (2)Application of this section to lease- hold improvements placed in service after December 31, 1986, in taxable years be- ginning before January 1, 2012. For lease- hold improvements placed in service after December 31, 1986, in taxable years be- ginning before January 1, 2012, a taxpayer may— (i) Apply the provisions of this section; or (ii) Depreciate any leasehold improve- ment to which section 168 applies under the provisions of section 168 and depre- ciate or amortize any leasehold improve- ment to which section 168 does not apply under the provisions of the Internal Rev- enue Code that are applicable to the cost recovery of that leasehold improvement, without regard to the period of the lease. (3)Application of this section to lease- hold improvements placed in service be- fore January 1, 1987. For leasehold im- provements placed in service before Jan- uary 1, 1987, see §1.167(a)–4 in effect prior to January 1, 2012 (§1.167(a)–4 as contained in 26 CFR part 1 edition revised as of April 1, 2011). (4)Change in method of ac- counting.Except as provided in §1.446–1(e)(2)(ii)(d)(3)(i), a change to comply with this section for deprecia- ble assets placed in service in a taxable year ending on or after December 30, 2003, is a change inmethod of account- ing to which the provisions of section 446(e) and the regulations under sec- tion 446(e) apply. Except as provided in §1.446–1(e)(2)(ii)(d)(3)(i), a taxpayer also may treat a change to comply with this section for depreciable assets placed in service in a taxable year ending before December 30, 2003, as a change in method of accounting to which the provisions of section 446(e) and the regulations under section 446(e) apply. (5)Expiration date. The applicability of this section expires on December 23, 2014. Par. 13. Section 1.167(a)–7 is amended by adding paragraphs (e), (f), and (g) to read as follows: §1.167(a)–7 Accounting for depreciable property. ***** (e)Applicability. [Reserved]. For fur- ther guidance, see §1.167(a)–7T(e). (f)Effective/applicability date.[Re- served]. For further guidance, see §1.167(a)–7T(f). (g)Expiration date. [Reserved]. For further guidance, see §1.167(a)–7T(g). Par. 14. Section 1.167(a)–7T is added to read as follows: §1.167(a)–7T Accounting for depreciable property (temporary). (a) through (d) [Reserved]. For further guidance, see §1.167(a)–7(a) through (d). (e)Applicability. Paragraphs (a), (b), and (d) of this section apply to property for which depreciation is determined un- der section 167 (but not under section 168, section 1400I, section 1400L(c), section 168 prior to its amendment by the Tax Re- form Act of 1986 (100 Stat. 2121), or un- der an additional first year depreciation de- duction provision of the Internal Revenue Code (for example, section 168(k) through (n), 1400L(b), or 1400N(d))). Paragraph (c) of this section does not apply to gen- eral asset accounts as provided by section 168(i)(4) and §1.168(i)–1T. (f)Effective/applicability date.This section applies to taxable years beginning on or after January 1, 2012. For the ap- plicability of regulations to taxable years beginning before January 1, 2012, see §1.167(a)–7 in effect prior to January 1, 2012 (§1.167(a)–7 as contained in 26 CFR part 1 edition revised as of April 1, 2011). (g)Expiration date. The applicability of this section expires on December 23, 2014. Par. 15. Section 1.167(a)–8 is amended by adding paragraphs (g), (h), and (i) to read as follows: §1.167(a)–8 Retirements. ***** (g)Applicability. [Reserved]. For fur- ther guidance, see §1.167(a)–8T(g). (h)Effective/applicability date.[Re- served]. For further guidance, see §1.167(a)–8T(h). (i) [Reserved]. For further guidance, see §1.167(a)–8T(i). Par. 16. Section 1.167(a)–8T is added to read as follows: §1.167(a)–8T Retirements (temporary). (a) through (f) [Reserved]. For further guidance, see §1.167(a)–8(a) through (f). (g)Applicability. This section ap- plies to property for which depreciation is determined under section 167 (but not under section 168, section 1400I, section 1400L(c), section 168 prior to its amend- ment by the Tax Reform Act of 1986 (100 Stat. 2121), or under an additional first 2012–14 I.R.B.642April 2, 2012 year depreciation deduction provision of the Internal Revenue Code (for example, section 168(k) through (n), 1400L(b), or 1400N(d))). (h)Effective/applicability date.This section applies to taxable years beginning on or after January 1, 2012. For the ap- plicability of regulations to taxable years beginning before January 1, 2012,see §1.167(a)–8ineffectpriortoJanuary1, 2012 (§1.167(a)–8 as contained in 26 CFR part 1 edition revised as of April 1, 2011). (i)Expiration date. The applicability of this section expires on December 23, 2014. Par. 17. Section 1.168(i)–0 is amended by: 1. Adding entries for paragraphs (b)(5) and (b)(6). 2. Adding entry for paragraph (c)(3). 3. Redesignating the entry for para- graph (d)(2) as (d)(4) and adding new en- tries for paragraphs (d)(2) and (d)(3). 4. Redesignating the entry for para- graph (e)(2)(v) as the entry for paragraph (e)(2)(ix). 5. Adding entries for paragraphs (e)(2)(v), (vi), (vii), (viii). 6. Redesignating the entry for para- graph (e)(3)(vi) as (e)(3)(vii) and adding a new paragraph (e)(3)(vi). 7. Redesignating the entry for para- graph (h)(2) as (h)(3), and adding a new paragraph (h)(2). 8. Removing the entries for paragraphs (l), (l)(1), (l)(2), and (l)(3), and redesign- ing the entries for paragraphs (k), (k)(1), (k)(2), and (k)(3) as (l), (l)(1), (l)(2), and (l)(3), respectively. 9. Redesignating the entry for para- graph (j) as (k). 10. Redesignating the entry for para- graph (i) as (j) and adding a new paragraph (i). 11. Adding paragraph (m). §1.168(i)–0 Table of contents for the general asset account rules. ***** §1.168(i)–1 General asset accounts. ***** (b) * * * (5) and (6) [Reserved]. For fur- ther guidance, see the entries for §1.168(i)–1T(b)(5) and (6). (c) * * * (3) [Reserved]. For further guidance, see the entry for §1.168(i)–1T(c)(3). ***** (d)(2) and (3) [Reserved].For further guidance, see the entries for §1.168(i)–1T(d)(2) and (3). ***** (e)(2)*** (v) through (viii) [Reserved]. For further guidance, see the entries for §1.168(i)–1T(e)(2)(v) through (viii). ***** (e)(3)*** (vi) [Reserved]. For further guidance, see the entry for §1.168(i)–1T(e)(3)(vi). ***** (h) * * * (2) [Reserved]. For further guidance, see the entry for §1.168(i)–1T(h)(2). ***** (i) [Reserved]. For further guidance, see the entry for §1.168(i)–1T(i). ***** (m) [Reserved]. For further guidance, see the entry for §1.168(i)–1T(m). Par. 18. Section 1.168(i)–0T is added to read as follows: §1.168(i)–0T Table of contents for the general asset account rules (temporary). This section lists the major paragraphs contained in §1.168(i)–1T. §1.168(i)–1T General asset accounts (temporary). (a) through (b)(4) [Reserved]. For further guidance, see the entries for §1.168(i)–1(a) through (b)(4). (5) Mass assets. (6) Remaining adjusted depreciable ba- sis of the general asset account. (c)(1) through (c)(2) [Reserved]. For further guidance, see the entries for §1.168(i)–1(c)(1) through (c)(2). (3) Examples. (d)(1) [Reserved]. For further guid- ance, see the entry for §1.168(i)–1(d)(1). (d)(2) Assets in general asset account are eligible for additional first year depre- ciation deduction. (d)(3) No assets in general asset account are eligible for additional first year depre- ciation deduction. (d)(4) through (e)(2)(iv) [Reserved]. For further guidance, see the entries for §1.168(i)–1(d)(4) through (e)(2)(iv). (v)Mannerofdisposition. (vi) Disposition by transfer to a supplies account. (vii) Leasehold improvements. (viii) Determination of asset disposed of. (e)(2)(ix) through (e)(3)(v) [Reserved]. For further guidance, see the entries for §1.168(i)–1(e)(2)(ix) through (e)(3)(v). (vi) Technical termination of a partner- ship. (e)(3)(vii) through (h)(1) [Reserved]. For further guidance, see the entries for §1.168(i)–1(e)(3)(vii) through (h)(1). (h)(2) Business or income-producing use percentage changes. (h)(3) [Reserved]. For further guid- ance, see the entry for §1.168(i)–1(h)(3). (i) Redetermination of basis. (j) through (l) [Reserved]. For further guidance, see the entries for §1.168(i)–1(j) through (l). (m) Effective/applicability date. Par. 19. Section 1.168(i)–1 is amended by: 1. Removing paragraphs (l), (l)(1), (l)(2), and (l)(3), and redesignating para- graphs (k), (k)(1), (k)(2), and (k)(3) as paragraphs (l), (l)(1), (l)(2), and (l)(3), respectively. 2. Redesignating paragraph (j) as para- graph (k) and redesignating paragraph (i) as paragraph (j), and adding new paragraph (i). 3. Revising paragraphs (a) through (h) and revising paragraphs (j) through (l)(1). 4. Adding paragraph (m). The revisions and additions read as fol- lows: §1.168(i)–1 General asset accounts. (a) through (l)(1) [Reserved]. For further guidance, see §1.168(i)–1T(a) through (l)(1). ***** (m) [Reserved]. For further guidance, see §1.168(i)–1T(m). Par. 20. Section 1.168(i)–1T is added to read as follows: April 2, 20126432012–14 I.R.B. §1.168(i)–1T General asset accounts (temporary). (a)Scope. This section provides rules for general asset accounts under section 168(i)(4). The provisions of this section apply only to assets for which an election has been made under paragraph (l) of this section. (b)Definitions. For purposes of this section, the following definitions apply: (1)Unadjusted depreciable basishas the same meaning given such term in §1.168(b)–1(a)(3). (2)Unadjusted depreciable basis of the general asset accountis the sum of the unadjusted depreciable bases of all assets included in the general asset account. (3)Adjusted depreciable basis of the general asset accountis the unadjusted de- preciable basis of the general asset account less the adjustments to basis described in section 1016(a)(2) and (3). (4)Expensed costis the amount of any allowable credit or deduction treated as a deduction allowable for depreciation or amortization for purposes of section 1245 (for example, a credit allowable under sec- tion 30 or a deduction allowable under sec- tion 179, 179A, or 190). Expensed cost does not include any additional first year depreciation deduction. (5)Mass assetsis a mass or group of individual items of depreciable assets— (i) That are not necessarily homoge- nous; (ii) Each of which is minor in value relative to the total value of the mass or group; (iii) Numerous in quantity; (iv) Usually accounted for only on a total dollar or quantity basis; (v) With respect to which separate iden- tification is impracticable; and (vi) Placed in service in the same tax- able year. (6)Remaining adjusted depreciable ba- sis of the general asset accountis the un- adjusted depreciable basis of the general asset account less the amount of the addi- tional first year depreciation deduction al- lowed or allowable, whichever is greater, for the general asset account. (c)Establishment of general asset ac- counts—(1)Assets eligible for general as- set accounts—(i)General rules. Assets that are subject to either the general de- preciation system of section 168(a) or the alternative depreciation system of section 168(g) may be accounted for in one or more general asset accounts. An asset is included in a general asset account only to the extent of the asset’s unadjusted depre- ciable basis. However, an asset is not to be included in a general asset account if the asset is used both in a trade or business (or for the production of income) and in a per- sonal activity at any time during the tax- able year in which the asset is placed in ser- vice by the taxpayer or if the asset is placed in service and disposed of during the same taxable year. (ii)Special rules for assets generat- ing foreign source income. (A) Assets that generate foreign source income, both United States and foreign source income, or combined gross income of a FSC (as defined in former section 922), DISC (as defined in section 992(a)), or possessions corporation (as defined in section 936) and its related supplier, may be included in a general asset account if the requirements of paragraph (c)(2)(i) of this section are satisfied. If, however, the inclusion of these assets in a general asset account re- sults in a substantial distortion of income, the Commissioner may disregard the gen- eral asset account election and make any reallocations of income or expense neces- sary to clearly reflect income. (B) A general asset account shall be treated as a single asset for purposes of applying the rules in §1.861–9T(g)(3) (relating to allocation and apportion- ment of interest expense under the asset method). A general asset account that generates income in more than one group- ing of income (statutory and residual) is a multiple category asset (as defined in §1.861–9T(g)(3)(ii)), and the income yield from the general asset account must be determined by applying the rules for multiple category assets as if the general asset account were a single asset. (2)Grouping assets in general asset ac- counts—(i)General rules. If a taxpayer makes the election under paragraph (l) of this section, assets that are subject to the election are grouped into one or more gen- eral asset accounts. Assets that are eligible to be grouped into a single general asset ac- count may be divided into more than one general asset account. Each general asset account must include only assets that— (A) Have the same applicable deprecia- tion method; (B) Have the same applicable recovery period; (C) Have the same applicable conven- tion; and (D) Are placed in service by the tax- payer in the same taxable year. (ii)Special rules. In addition to the gen- eral rules in paragraph (c)(2)(i) of this sec- tion, the following rules apply when estab- lishing general asset accounts— (A) Assets subject to the mid-quarter convention may only be grouped into a general asset account with assets that are placed in service in the same quarter of the taxable year; (B) Assets subject to the mid-month convention may only be grouped into a general asset account with assets that are placed in service in the same month of the taxable year; (C) Passenger automobiles for which the depreciation allowance is limited un- der section 280F(a) must be grouped into a separate general asset account; (D) Assets not eligible for any addi- tional first year depreciation deduction (including assets for which the taxpayer elected not to deduct the additional first year depreciation) provided by, for exam- ple, section 168(k) through (n), 1400L(b), or 1400N(d), must be grouped into a sep- arate general asset account; (E) Assets eligible for the additional first year depreciation deduction may only be grouped into a general asset account with assets for which the taxpayer claimed the same percentage of the additional first year depreciation (for example, 30 percent, 50 percent, or 100 percent); (F) Except for passenger automobiles described in paragraph (c)(2)(ii)(C) of this section, listed property (as defined in sec- tion 280F(d)(4)) must be grouped into a separate general asset account; (G)Assetsforwhichthe depreciation allowance for the placed-in-service year is not determined by using an optional depre- ciation table (for further guidance, see sec- tion 8 of Rev. Proc. 87–57, 1987–2 C.B. 687, 693 (see §601.601(d)(2) of this chap- ter)) must be grouped into a separate gen- eral asset account; (H) Mass assets that are or will be sub- ject to paragraph (j)(2)(iii) of this section (disposed of or converted mass asset is identified by a mortality dispersion table) must be grouped into a separate general as- set account; and 2012–14 I.R.B.644April 2, 2012 (I) Assets subject to paragraph (h)(3)(iii)(A) of this section (change in use results in a shorter recovery period or a more accelerated depreciation method) for which the depreciation allowance for the year of change (as defined in §1.168(i)–4(a)) is not determined by us- ing an optional depreciation table must be grouped into a separate general asset account. (3)Examples. The following examples illustrate the application of this paragraph (c): Example 1. In 2012, J, a proprietorship with a cal- endar year-end, purchases and places in service one item of equipment that costs $550,000. This equip- ment is section 179 property and also is 5-year prop- erty under section 168(e). On its Federal income tax return for 2012, J makes an election under section 179 to expense $500,000 of the equipment’s cost and makes an election under paragraph (l) of this section to include the equipment in a general asset account. As a result, the unadjusted depreciable basis of the equipment is $50,000. In accordance with paragraph (c)(1) of this section, J must include only $50,000 of the equipment’s cost in the general asset account. Example 2. ThefactsarethesameasinExam- ple 1, except that J also places in service 99 other items of equipment in 2012. On its Federal income tax return for 2012, J does not make an election un- der section 179 to expense the cost of any of the 100 items of equipment and does make an election un- der paragraph (l) of this section to include the 100 items of equipment in a general asset account. All of the 100 items of equipment placed in service in 2012 are 5-year property under section 168(e), are not listed property, and are not eligible for any addi- tional first year depreciation deduction. J depreciates its 5-year property placed in service in 2012 using the optional depreciation tablethat corresponds with the general depreciation system, the 200-percent declin- ing balance method, a 5-yearrecovery period, and the half-year convention. In accordance with paragraph (c)(2) of this section, J includes all of the 100 items of equipment in one general asset account. Example 3. The facts are the same as inExample 2, except that J decides not to include all of the 100 items of equipment in one general asset account. In- stead and in accordance with paragraph (c)(2) of this section, J establishes 100 general asset accounts and includes one item of equipment in each general asset account. Example 4. K, a calendar-year corporation, is a wholesale distributer. In 2012, K places in service the following properties for use in its wholesale distribu- tion business: computers, automobiles, and forklifts. On its federal income tax return for 2012, K does not make an election under section 179 to expense the cost of any of these items of equipment and does make an election under paragraph (l) of this section to include all of these items of equipment in a general asset account. All of theseitems are 5-year property under section 168(e) and are not eligible for any addi- tional first year depreciation deduction. The comput- ers are listed property, and the automobiles are listed property and are subject tosection 280F(a). K de- preciates its 5-year property placed in service in 2012 using the optional depreciation table that corresponds with the general depreciation system, the 200-percent declining balance method, a 5-year recovery period, and the half-year convention. Although the comput- ers, automobiles, and forklifts are 5-year property, K cannot include all of them in one general asset account because the computers and automobiles are listed property. Further, even though the computers and automobiles are listed property, K cannot include them in one general asset account because the auto- mobiles also are subject to section 280F(a). In accor- dance with paragraph (c)(2) of this section, K estab- lishes three general asset accounts: one for the com- puters, one for the automobiles, and one for the fork- lifts. Example 5. L, a fiscal-year corporation with a taxable year ending June 30, purchases and places in service ten items of new equipment in October 2011, and purchases and places in service five other items of new equipment in February 2012. On its federal in- come tax return for the taxable year ending June 30, 2012, L does not make an election under section 179 to expense the cost of any of these items of equip- ment and does make an election under paragraph (l) of this section to include all of these items of equip- ment in a general asset account. All of these items of equipment are 7-year property under section 168(e), are not listed property, and are not property described in section 168(k)(2)(B) or (C). All of the ten items of equipment placed in service in October 2011 are eli- gible for the 100-percent additional first year depreci- ation deduction provided by section 168(k)(5). All of the five items of equipment placed in service in Feb- ruary 2012 are eligible for the 50-percent additional first year depreciation deduction provided by section 168(k)(1). L depreciates its 7-year property placed in service for the taxable year ending June 30, 2012, using the optional depreciation table that corresponds with the general depreciation system, the 200-percent declining balance method, a 7-year recovery period, and the half-year convention. Although the 15 items of equipment are depreciated using the same depre- ciation method, recovery period, and convention, L cannot include all of them in one general asset ac- count because they are eligible for different percent- ages of the additional first year depreciation deduc- tion. In accordance with paragraph (c)(2) of this sec- tion, L establishes two general asset accounts: one for the ten items of equipment eligible for the 100-per- cent additional first year depreciation deduction, and one for the five items of equipment eligible for the 50-percent additional first year depreciation deduc- tion. (d)Determination of depreciation al- lowance—(1)In general. Depreciation allowances are determined for each gen- eral asset account. The depreciation al- lowances must be recorded in a deprecia- tion reserve account for each general as- set account. The allowance for depre- ciation under this section constitutes the amount of depreciation allowable under section 167(a). (2)Assets in general asset account are eligible for additional first year deprecia- tion deduction. If all the assets in a gen- eral asset account are eligible for the ad- ditional first year depreciation deduction, the taxpayer first must determine the al- lowable additional first year depreciation deduction for the general asset account for the placed-in-service year and then must determine the amount otherwise allowable as a depreciation deduction for the gen- eral asset account for the placed-in-service year and any subsequent taxable year. The allowable additional first year depreciation deduction for the general asset account for the placed-in-service year is determined by multiplying the unadjusted depreciable ba- sis of the general asset account by the ad- ditional first year depreciation deduction percentage applicable to the assets in the account (for example, 30 percent, 50 per- cent, or 100 percent). The remaining ad- justed depreciable basis of the general as- set account then is depreciated using the applicable depreciation method, recovery period, and convention for the assets in the account. (3)No assets in general asset account are eligible for additional first year depre- ciation deduction. Ifnoneoftheassets in a general asset account are eligible for the additional first year depreciation de- duction, the taxpayer must determine the allowable depreciation deduction for the general asset account for the placed-in- service year and any subsequent taxable year by using the applicable depreciation method, recovery period, and convention for the assets in the account. (4)Special rule for passenger automo- biles. For purposes of applying section 280F(a), the depreciation allowance for a general asset account established for passenger automobiles is limited for each taxable year to the amount prescribed in section 280F(a) multiplied by the excess of the number of automobiles originally included in the account over the number of automobiles disposed of during the taxable year or in any prior taxable year in a transaction described in paragraphs (e)(3)(iii) (disposition of an asset in a qual- ifying disposition), (e)(3)(iv) (transactions subject to section 168(i)(7)), (e)(3)(v) (transactions subject to section 1031 or 1033), (e)(3)(vi) (technical termination of a partnership), (e)(3)(vii) (anti-abuse rule), (g) (assets subject to recapture), (h)(1) (conversion to personal use), or (h)(2) (business or income-producing use percentage changes) of this section. April 2, 20126452012–14 I.R.B. (e)Disposition of an asset from a gen- eral asset account—(1)Scope. This para- graph (e) provides rules applicable to dis- positions of assets included in a general asset account. For purposes of this para- graph (e), an asset in a general asset ac- count is disposed of when ownership of the asset is transferred or when the asset is per- manently withdrawn from use either in the taxpayer’s trade or business or in the pro- duction of income. A disposition includes the sale, exchange, retirement, physical abandonment, or destruction of an asset. A disposition also occurs when an asset is transferred to a supplies, scrap, or similar account. A disposition also includes the retirement of a structural component (as defined in §1.48–1(e)(2)) of a building (as defined in §1.48–1(e)(1)). (2)General rules for a disposition—(i) No immediate recovery of basis.Ex- cept as provided in paragraph (e)(3) of this section, immediately before a dis- position of any asset in a general asset account, the asset is treated as having an adjusted depreciable basis (as defined in §1.168(b)–1(a)(4)) of zero for purposes of section 1011. Therefore, no loss is realized upon the disposition of an asset from the general asset account. Similarly, where an asset is disposed of by transfer to a supplies, scrap, or similar account, the basis of the asset in the supplies, scrap, or similar account will be zero. (ii)Treatment of amount realized.Any amount realized on a disposition is recog- nized as ordinary income (notwithstand- ing any other provision of subtitle A of the Internal Revenue Code) to the extent the sum of the unadjusted depreciable ba- sis of the general asset account and any ex- pensed cost (as defined in paragraph (b)(4) of this section) for assets in the account ex- ceeds any amounts previously recognized as ordinary income upon the disposition of other assets in the account. The recogni- tion and character of any excess amount realized are determined under other appli- cable provisions of the Internal Revenue Code (other than sections 1245 and 1250 or provisions of the Internal Revenue Code that treat gain on a disposition as subject to section1245or1250). (iii)Effect of disposition on a general asset account. The unadjusted depreciable basis and the depreciation reserve of the general asset account are not affected as a result of a disposition of an asset from the general asset account. (iv)Coordination with nonrecognition provisions. For purposes of determining the basis of an asset acquired in a trans- action, other than a transaction described in paragraphs (e)(3)(iv) (pertaining to transactions subject to section 168(i)(7)), (e)(3)(v) (pertaining to transactions sub- ject to section 1031 or 1033), and (e)(3)(vi) (pertaining to technical terminations of partnerships) of this section, to which a nonrecognition section of the Internal Revenue Code applies (determined with- out regard to this section), the amount of ordinary income recognized under this paragraph (e)(2) is treated as the amount of gain recognized on the disposition. (v)Manner of disposition.Themanner of disposition of an asset in a general asset account (for example, normal retirement, abnormal retirement, ordinary retirement, or extraordinary retirement) is not taken into account in determining whether a dis- position occurs or gain or loss is recog- nized. (vi)Disposition by transfer to a sup- plies account. If a taxpayer made an elec- tion under §1.162–3T(d) to treat the cost of any material and supply as a capital ex- penditure subject to the allowance for de- preciation and also made an election un- der paragraph (l) of this section to include that material and supply in a general as- set account, the taxpayer can dispose of the materialandsupplybytransferringittoa supplies account only if the taxpayer has obtained the consent of the Commissioner to revoke the §1.162–3T(d) election. See §1.162–3T(d)(3) for the procedures for re- voking a §1.162–3T(d) election. (vii)Leasehold improvements.The rules of paragraph (e) of this section also apply to— (A) A lessor of leased property that made an improvement to that property for the lessee of the property, has a depreciable basis in the improvement, made an elec- tion under paragraph (l) of this section to include the improvement in a general asset account, and disposes of the improvement before or upon the termination of the lease with the lessee.Seesection 168(i)(8)(B); and (B) A lessee of leased property that made an improvement to that property, has a depreciable basis in the improvement, made an election under paragraph (l) of this section to include the improvement in a general asset account, and disposes of the improvement before or upon the termina- tion of the lease. (viii)Determination of asset disposed of—(A)In general. For purposes of ap- plying paragraph (e) of this section to the disposition of an asset in a general asset account (instead of the disposition of the general asset account), the facts and cir- cumstances of each disposition are con- sidered in determining what is the appro- priate asset disposed of. Except as pro- vided in paragraph (e)(2)(viii)(B) of this section, the asset cannot be larger than the unit of property as determined under §1.263(a)–3T(e)(2), (e)(3), and (e)(5) or as otherwise determined in published guid- ance in theFederal Registeror in the In- ternal Revenue Bulletin (see, for exam- ple, Rev. Proc. 2011–38, 2011–18 I.R.B. 743, for units of property for wireless net- work assets (see §601.601(d)(2)(ii)(b)of this chapter)). (B)Exceptions. For purposes of apply- ing paragraph (e) of this section to the dis- position of an asset in a general asset ac- count (instead of the disposition of the gen- eral asset account): (1) Each building (not including its structural components) is the asset except as provided in §1.1250–1(a)(2)(ii) or in paragraph (e)(2)(viii)(B)(2)or(5)ofthis section. (2) If a building has two or more condo- minium or cooperative units, each condo- minium or cooperative unit (not including its structural components) is the asset ex- cept as provided in §1.1250–1(a)(2)(ii) or in paragraph (e)(2)(viii)(B)(5) of this sec- tion. (3) Each structural component (includ- ing all components thereof) of a building, condominium unit, or cooperative unit is the asset. (4) If a taxpayer properly includes an item in one of the asset classes 00.11 through 00.4 of Rev. Proc. 87–56, 1987–2 C.B. 674, (see §601.601(d)(2)(ii)(b )of this chapter) or properly classifies an item in one of the categories under sec- tion 168(e)(3) (except for a category that includes buildings or structural compo- nents; for example, retail motor fuels outlet, qualified leasehold improvement property, qualified restaurant property, and qualified retail improvement prop- erty), each item is the asset provided it 2012–14 I.R.B.646April 2, 2012 is not larger than the unit of property as determined under §1.263(a)–3T(e)(3) or (e)(5) or as otherwise determined in published guidance in theFederal Reg- isteror in the Internal Revenue Bulletin (see §601.601(d)(2)(ii)(b) of this chapter), or provided paragraph (e)(2)(viii)(B)(5) of this section does not apply to the item. For example, each desk is the asset, each computer is the asset, and each qualified smart electric meter is the asset (assuming these assets are not larger than the unit of property as de- termined under §1.263(a)–3T(e)(3) or (e)(5) or as otherwise determined in pub- lished guidance in theFederal Register or in the Internal Revenue Bulletin (see §601.601(d)(2)(ii)(b) of this chapter)). (5) If the taxpayer places in service an improvement or addition to an as- set after the taxpayer placed the asset in service, the improvement or addi- tion is a separate asset provided it is not larger than the unit of property as de- termined under §1.263(a)–3T(e)(3) or (e)(5) or as otherwise determined in pub- lished guidance in theFederal Register or in the Internal Revenue Bulletin (see §601.601(d)(2)(ii)(b) of this chapter). (6) If an asset is not described in one of the asset classes 00.11 through 00.4 of Rev. Proc. 87–56, 1987–2 C.B. 674 (see §601.601(d)(2)(ii)(b) of this chapter) or in one of the categories under section 168(e)(3), a taxpayer also may use any rea- sonable, consistent method to treat each of the asset’s components as the asset. (ix)Examples. The following examples illustrate the application of this paragraph (e)(2): Example 1. A, a calendar-year partnership, main- tains one general asset account for one office building that cost $10 million. A discovers a leak in the roof of this building and, after consulting with a contractor, decides to replace the entire roof. The retirement of the roof, which is a structural component of the build- ing, is a disposition under paragraph (e)(1) of this sec- tion. However, this roof has an unadjusted deprecia- ble basis of zero pursuant to paragraph (e)(2)(i) of this section. Accordingly, A does not recognize any loss upon the retirement of the roof. Instead, the unad- justed depreciable basis of the general asset account for the office building is notaffected by the retirement of the roof and, as a result, A continues to depreciate the $10 million cost of this general asset account. Example 2. B, a calendar-year commercial air- line company, maintains one general asset account for five aircrafts that cost a total of $500 million. B replaces the existing engines on one of the air- crafts with new engines and treats each engine of an aircraft as a major component of the aircraft. As- sume each aircraft is a unit of property as determined under §1.263(a)–3T(e)(3). However, for disposition purposes of general asset accounts, B consistently treats each major component of an aircraft as the as- set. Thus, the retirement of these replaced engines is a disposition under paragraph (e)(1) of this section. However, the engines have an unadjusted deprecia- ble basis of zero pursuant to paragraph (e)(2)(i) of this section. Accordingly, B does not recognize any loss upon the retirement of the engines. Instead, the unad- justed depreciable basis of the general asset account for the five aircrafts is notaffected by the retirement of the engines and, as a result, B continues to depreci- ate the $500 million cost of this general asset account. Example 3. (i) R, a calendar-year corporation, maintains one general asset account for ten machines. The machines cost a totalof $10,000 and are placed in service in June 2012. Of the ten machines, one machine costs $8,200 and nine machines cost a to- tal of $1,800. Assume R depreciates this general as- set account using the optional depreciation table that corresponds with the general depreciation system, the 200-percent declining balance method, a 5-year re- covery period, and a half-year convention. R does not make a section 179 election for any of the ma- chines, and all of the machines are not eligible for any additional first year depreciation deduction. As of January 1, 2013, the depreciation reserve of the ac- count is $2,000 [$10,000 x 20 percent]. (ii) On February 8, 2013, R sells the machine that cost $8,200 to an unrelated party for $9,000. Under paragraph (e)(2)(i) of this section, this machine has an adjusted depreciable basis of zero. (iii) On its 2013 tax return, R recognizes the amount realized of $9,000 as ordinary income because such amount does not exceed the unad- justed depreciable basis of the general asset account ($10,000), plus any expensed cost for assets in the account ($0), less amounts previously recognized as ordinary income ($0). Moreover, the unadjusted depreciable basis and depreciation reserve of the account are not affected by the disposition of the machine. Thus, the depreciation allowance for the account in 2013 is $3,200 ($10,000 x 32 percent). Example 4. (i)ThefactsarethesameasinEx- ample 3. In addition, on June 4, 2014, R sells seven machines to an unrelated party for a total of $1,100. In accordance with paragraph (e)(2)(i) of this section, these machines have an adjusted depreciable basis of zero. (ii) On its 2014 tax return, R recognizes $1,000 as ordinary income (the unadjusted depreciable ba- sis of $10,000, plus the expensed cost of $0, less the amount of $9,000 previously recognized as ordi- nary income). The recognition and character of the excess amount realized of $100 ($1,100-$1,000) are determined under applicable provisions of the Inter- nal Revenue Code other than section 1245 (such as section 1231). Moreover, the unadjusted depreciable basis and depreciation reserve of the account are not affected by the disposition of the machines. Thus, the depreciation allowance for the account in 2014 is $1,920 ($10,000 x 19.2 percent). (3)Special rules—(i)In general.This paragraph (e)(3) provides the rules for ter- minating general asset account treatment upon certain dispositions. While the rules under paragraphs (e)(3)(ii) and (iii) of this section are optional rules, the rules under paragraphs (e)(3)(iv), (v), (vi), and (vii) of this section are mandatory rules. A tax- payer elects to apply paragraph (e)(3)(ii) or (iii) of this section by reporting the gain, loss, or other deduction on the taxpayer’s timely filed original Federal income tax re- turn (including extensions) for the taxable year in which the disposition occurs. A taxpayer may revoke the election to apply paragraph (e)(3)(ii) or (iii) of this section only by filing a request for a private letter ruling and obtaining the Commissioner’s consent to revoke the election. The Com- missioner may grant a request to revoke this election if the taxpayer can demon- strate good cause for the revocation. The election to apply paragraph (e)(3)(ii) or (iii) of this section may not be made or revoked through the filing of an applica- tion for change in accounting method. For purposes of applying paragraph (e)(3)(iii) through (vii) of this section, see paragraph (j)ofthissectionforidentifyinganasset disposed of and its unadjusted depreciable basis. (ii)Disposition of all assets remain- ing in a general asset account—(A)Op- tional termination of a general asset ac- count. Upon the disposition of all of the assets, or the last asset, in a general asset account, a taxpayer may apply this para- graph (e)(3)(ii) to recover the adjusted de- preciable basis of the general asset ac- count (rather than having paragraph (e)(2) of this section apply). Under this para- graph (e)(3)(ii), the general asset account terminates and the amount of gain or loss for the general asset account is determined under section 1001(a) by taking into ac- count the adjusted depreciable basis of the general asset account at the time of the dis- position (as determined under the appli- cable convention for the general asset ac- count). The recognition and character of the gain or loss are determined under other applicable provisions of the Internal Rev- enue Code, except that the amount of gain subject to section 1245 (or section 1250) is limited to the excess of the depreciation allowed or allowable for the general asset account, including any expensed cost (or the excess of the additional depreciation allowed or allowable for the general as- set account), over any amounts previously recognized as ordinary income under para- graph (e)(2) of this section. April 2, 20126472012–14 I.R.B. (B)Examples. The following examples illustrate the application of this paragraph (e)(3)(ii): Example 1. (i) T, a calendar-year corporation, maintains a general asset account for 1,000 calcula- tors. The calculators cost a total of $60,000 and are placed in service in 2012. Assume T depreciates this general asset account using the optional depreciation table that corresponds with the general depreciation system, the 200-percent declining balance method, a 5-year recovery period, and a half-year convention. T does not make a section 179 election for any of the calculators, and all of the calculators are not eligible for any additional first year depreciation deduction. In 2013, T sells 200 of the calculators to an unre- lated party for a total of $10,000 and recognizes the $10,000 as ordinary income in accordance with para- graph (e)(2) of this section. (ii) On March 26, 2014, T sells the remaining calculators in the general asset account to an unre- lated party for $35,000. T elects to apply paragraph (e)(3)(ii) of this section. As a result, the account ter- minates and gain or loss is determined for the account. (iii) On the date of disposition, the adjusted de- preciable basis of the account is $23,040 (unadjusted depreciable basis of $60,000 less the depreciation al- lowed or allowable of $36,960). Thus, in 2014, T rec- ognizes gain of $11,960 (amount realized of $35,000 less the adjusted depreciable basis of $23,040). The gain of $11,960 is subject to section 1245 to the ex- tent of the depreciation allowed or allowable for the account (plus the expensed cost for assets in the ac- count) less the amounts previously recognized as or- dinary income ($36,960 + $0 - $10,000 = $26,960). As a result, the entire gain of $11,960 is subject to section 1245. Example 2. (i) J, a calendar-year corporation, maintains a general asset account for one item of equipment. This equipment costs $2,000 and is placed in service in 2012. Assume J depreciates this general asset account using the optional depreciation table that corresponds with the general depreciation system, the 200-percent declining balance method, a 5-year recovery period, and a half-year conven- tion. J does not make a section 179 election for the equipment, and it is not eligible for any additional first year depreciation deduction. In June 2014, J sells the equipment to an unrelated party for $1,000. J elects to apply paragraph (e)(3)(ii) of this section. As a result, the account terminates and gain or loss is determined for the account. (ii) On the date of disposition, the adjusted depre- ciable basis of the account is $768 (unadjusted depre- ciable basis of $2,000 less the depreciation allowed or allowable of $1,232). Thus, in 2014, J recognizes gain of $232 (amount realized of $1,000 less the ad- justed depreciable basis of $768). The gain of $232 is subject to section 1245 to the extent of the deprecia- tion allowed or allowable for the account (plus the ex- pensed cost for assets in the account) less the amounts previously recognized as ordinary income ($1,232 + $0 - $0 = $1,232). As a result, the entire gain of $232 is subject to section 1245. (iii)Disposition of an asset in a qualify- ing disposition—(A)Optional determina- tion of the amount of gain, loss, or other deduction. In the case of a qualifying dis- position of an asset (described in para- graph (e)(3)(iii)(B) of this section), a tax- payer may elect to apply this paragraph (e)(3)(iii) (rather than having paragraph (e)(2) of this section apply). Under this paragraph (e)(3)(iii), general asset account treatment for the asset terminates as of the first day of the taxable year in which the qualifying disposition occurs, and the amount of gain, loss, or other deduction for the asset is determined under §1.168(i)–8T by taking into account the asset’s adjusted depreciable basis at the time of the dispo- sition. The adjusted depreciable basis of the asset at the time of the disposition (as determined under the applicable conven- tion for the general asset account in which the asset was included) equals the unad- justed depreciable basis of the asset less the depreciation allowed or allowable for the asset, computed by using the deprecia- tion method, recovery period, and conven- tion applicable to the general asset account in which the asset was included and by in- cluding the portion of the additional first year depreciation deduction claimed for the general asset account that is attribut- able to the asset disposed of. The recogni- tion and character of the gain, loss, or other deduction are determined under other ap- plicable provisions of the Internal Revenue Code, except that the amount of gain sub- ject to section 1245 (or section 1250) is limited to the lesser of— (1) The depreciation allowed or allow- able for the asset, including any expensed cost (or the additional depreciation al- lowed or allowable for the asset); or (2) The excess of— (i) The original unadjusted depreciable basis of the general asset account plus, in the case of section 1245 property origi- nally included in the general asset account, any expensed cost; over (ii) The cumulative amounts of gain previously recognized as ordinary income under either paragraph (e)(2) of this sec- tion or section 1245 (or section 1250). (B)Qualifying dispositions.Aquali- fying dispositionis a disposition that does not involve all the assets, or the last as- set, remaining in a general asset account and that is not described in paragraphs (e)(3)(iv) (pertaining to transactions sub- ject to section 168(i)(7)), (v) (pertaining to transactions subject to section 1031 or 1033), (vi) (pertaining to technical terminations of partnerships), or (vii) (anti-abuse rule) of this section. (C)Effect of a qualifying disposition on a general asset account. If the taxpayer elects to apply this paragraph (e)(3)(iii) to a qualifying disposition of an asset, then— (1) The asset is removed from the gen- eral asset account as of the first day of the taxable year in which the qualifying dis- position occurs. For that taxable year, the taxpayer accounts for the asset in a single asset account in accordance with the rules under §1.168(i)–7T(b); (2) The unadjusted depreciable basis of the general asset account is reduced by the unadjusted depreciable basis of the asset as of the first day of the taxable year in which the disposition occurs; (3) The depreciation reserve of the gen- eral asset account is reduced by the de- preciation allowed or allowable for the as- set as of the end of the taxable year im- mediately preceding the year of disposi- tion, computed by using the depreciation method, recovery period, and convention applicable to the general asset account in which the asset was included and by in- cluding the portion of the additional first year depreciation deduction claimed for the general asset account that is attribut- able to the asset disposed of; and (4) For purposes of determining the amount of gain realized on subsequent dis- positions that is subject to ordinary income treatment under paragraph (e)(2)(ii) of this section, the amount of any expensed cost with respect to the asset is disregarded. (D)Example. The following example illustrates the application of this paragraph (e)(3)(iii): Example. (i) Z, a calendar-year corporation, maintains one general asset account for 12 machines. Each machine costs $15,000 and is placed in service in 2012. Of the 12 machines, nine machines that cost a total of $135,000 are used in Z’s Kentucky plant, and three machines that cost a total of $45,000 are used in Z’s Ohio plant. Assume Z depreciates this general asset account using the optional depreciation table that corresponds with the general depreciation system, the 200-percent declining balance method, a 5-year recovery period, and the half-year convention. Z does not make a section 179 election for any of the machines, and all of the machines are not eligible for any additional first year depreciation deduction. As of January 1, 2014, the depreciation reserve for the account is $93,600. (ii) On May 27, 2014, Z sells its entire manufac- turing plant in Ohio to an unrelated party. The sales proceeds allocated to each of the three machines at the Ohio plant is $5,000. Because this transaction is a qualifying disposition under paragraph (e)(3)(iii)(B) of this section, Z elects to apply paragraph (e)(3)(iii) of this section. 2012–14 I.R.B.648April 2, 2012 (iii) For Z’s 2014 return, the depreciation al- lowance for the account is computed as follows. As of December 31, 2013, the depreciation allowed or allowable for the three machines at the Ohio plant is $23,400. Thus, as of January 1, 2014, the unadjusted depreciable basis of the account is reduced from $180,000 to $135,000 ($180,000 less the unadjusted depreciable basis of $45,000 for the three machines), and the depreciation reserve of the account is de- creased from $93,600 to $70,200 ($93,600 less the depreciation allowed or allowable of $23,400 for the three machines as of December 31, 2013). Conse- quently, the depreciation allowance for the account in 2014 is $25,920 ($135,000 x 19.2 percent). (iv) For Z’s 2014 return, gain or loss for each of the three machines at the Ohio plant is determined as follows. The depreciation allowed or allowable in 2014 for each machine is $1,440 [($15,000 x 19.2 percent) / 2]. Thus, the adjusted depreciable basis of each machine under section 1011 is $5,760 (the adjusted depreciable basis of $7,200 removed from the account less the depreciation allowed or allowable of $1,440 in 2014). As a result, the loss recognized in 2014 for each machine is $760 ($5,000 - $5,760), which is subject to section 1231. (iv)Transactions subject to section 168(i)(7)—(A)In general. If a taxpayer transfers one or more assets in a general asset account in a transaction described in section 168(i)(7)(B) (pertaining to treatment of transferees in certain non- recognition transactions), the taxpayer (the transferor) and the transferee must apply this paragraph (e)(3)(iv) to the as- set (instead of applying paragraph (e)(2), (e)(3)(ii), or (e)(3)(iii) of this section). The transferee is bound by the transferor’s election under paragraph (l) of this section for the portion of the transferee’s basis in the asset that does not exceed the trans- feror’s adjusted depreciable basis of the general asset account or the asset, as ap- plicable (as determined under paragraph (e)(3)(iv)(B)(2) or (e)(3)(iv)(C)(2)ofthis section, as applicable). (B)All assets remaining in general as- set account are transferred. If a taxpayer transfers all the assets, or the last asset, in a general asset account in a transaction de- scribed in section 168(i)(7)(B)— (1) The taxpayer (the transferor) must terminate the general asset account on the date of the transfer. The allowable depre- ciation deduction for the general asset ac- count for the transferor’s taxable year in which the section 168(i)(7)(B) transaction occurs is computed by using the depreci- ation method, recovery period, and con- vention applicable to the general asset ac- count. This allowable depreciation deduc- tion is allocated between the transferor and the transferee on a monthly basis. This allocation is made in accordance with the rules in §1.168(d)–1(b)(7)(ii) for allocat- ing the depreciation deduction between the transferor and the transferee; (2) The transferee must establish a new general asset account for all the assets, or the last asset, in the taxable year in which the section 168(i)(7)(B) transaction occurs for the portion of its basis in the as- sets that does not exceed the transferor’s adjusted depreciable basis of the general asset account in which all the assets, or the last asset, were included. The trans- feror’s adjusted depreciable basis of this general asset account is equal to the ad- justed depreciable basis of that account as of the beginning of the transferor’s taxable year in which the transaction occurs, de- creased by the amount of depreciation al- locable to the transferor for the year of the transfer (as determined under paragraph (e)(3)(iv)(B)(1) of this section). The trans- feree is treated as the transferor for pur- poses of computing the allowable depreci- ation deduction for the new general asset account under section 168. The new gen- eral asset account must be established in accordance with the rules in paragraph (c) of this section, except that the unadjusted depreciable bases of all the assets or the last asset, and the greater of the deprecia- tion allowed or allowable for all the assets or the last asset (including the amount of depreciation for the transferred assets that is allocable to the transferor for the year of the transfer), are included in the newly established general asset account. Conse- quently, this general asset account in the year of the transfer will have a beginning balance for both the unadjusted deprecia- ble basis and the depreciation reserve of the general asset account; and (3) For purposes of section 168 and this section, the transferee treats the portion of its basis in the assets that exceeds the trans- feror’s adjusted depreciable basis of the general asset account in which all the as- sets, or the last asset, were included (as de- termined under paragraph (e)(3)(iv)(B)(2) of this section) as a separate asset that the transferee placed in service on the date of the transfer. The transferee accounts for this asset under §1.168(i)–7T or may make an election under paragraph (l) of this sec- tion to include the asset in a general asset account. (C)Not all assets remaining in general asset account are transferred. If a taxpayer transfers an asset in a general asset ac- count in a transaction described in section 168(i)(7)(B) and if paragraph (e)(3)(iv)(B) of this section does not apply to this as- set— (1) The taxpayer (the transferor) must remove the transferred asset from the gen- eral asset account in which the asset is included, as of the first day of the taxable year in which the section 168(i)(7)(B) transaction occurs. In addition, the ad- justments to the general asset account described in paragraph (e)(3)(iii)(C)(2) through (4) of this section must be made. The allowable depreciation deduction for the asset for the transferor’s taxable year in which the section 168(i)(7)(B) trans- action occurs is computed by using the depreciation method, recovery period, and convention applicable to the general asset account in which the asset was included. This allowable depreciation deduction is allocated between the transferor and the transferee on a monthly basis. This alloca- tion is made in accordance with the rules in §1.168(d)–1(b)(7)(ii) for allocating the depreciation deduction between the trans- feror and the transferee; (2) The transferee must establish a new general asset account for the asset in the taxable year in which the section 168(i)(7)(B) transaction occurs for the portion of its basis in the asset that does not exceed the transferor’s adjusted depre- ciable basis of the asset. The transferor’s adjusted depreciable basis of this asset is equal to the adjusted depreciable basis of the asset as of the beginning of the trans- feror’s taxable year in which the trans- action occurs, decreased by the amount of depreciation allocable to the transferor for the year of the transfer (as determined under paragraph (e)(3)(iv)(C)(1)ofthis section). The transferee is treated as the transferor for purposes of computing the allowable depreciation deduction for the new general asset account under section 168. The new general asset account must be established in accordance with the rules in paragraph (c) of this section, except that the unadjusted depreciable basis of the asset, and the greater of the depreci- ation allowed or allowable for the asset (including the amount of depreciation for the transferred asset that is allocable to the transferor for the year of the transfer), are included in the newly established general asset account. Consequently, this general April 2, 20126492012–14 I.R.B. asset account in the year of the transfer will have a beginning balance for both the unadjusted depreciable basis and the depreciation reserve of the general asset account; and (3) For purposes of section 168 and this section, the transferee treats the portion of its basis in the asset that exceeds the transferor’s adjusted depreciable basis of the asset (as determined under paragraph (e)(3)(iv)(C)(2) of this section) as a sep- arate asset that the transferee placed in service on the date of the transfer. The transferee accounts for this asset under §1.168(i)–7T or may make an election un- der paragraph (l) of this section to include the asset in a general asset account. (v)Transactions subject to section 1031 or section 1033—(A)Like-kind ex- change or involuntary conversion of all assets remaining in a general asset ac- count. If all the assets, or the last asset, in a general asset account are transferred by a taxpayer in a like-kind exchange (as defined under §1.168–6(b)(11)) or in an involuntary conversion (as defined under §1.168–6(b)(12)), the taxpayer must ap- ply this paragraph (e)(3)(v)(A) (instead of applying paragraph (e)(2), (e)(3)(ii), or (e)(3)(iii) of this section). Under this paragraph (e)(3)(v)(A), the general as- set account terminates as of the first day of the year of disposition (as defined in §1.168(i)–6(b)(5)) and— (1) The amount of gain or loss for the general asset account is determined under section 1001(a) by taking into account the adjusted depreciable basis of the general asset account at thetime of disposition (as defined in §1.168(i)–6(b)(3)). The depreciation allowance for the general asset account in the year of disposition is determined in the same manner as the depreciation allowance for the relin- quished MACRS property (as defined in §1.168(i)–6(b)(2)) in the year of dispo- sition is determined under §1.168(i)–6. The recognition and character of gain or loss are determined in accordance with paragraph (e)(3)(ii)(A) of this section (notwithstanding thatparagraph (e)(3)(ii) of this section is an optional rule); and (2) The adjusted depreciable basis of the general asset account at the time of dis- position is treated asthe adjusted depre- ciable basis of the relinquished MACRS property. (B)Like-kind exchange or involuntary conversion of less than all assets remain- ing in a general asset account. If an asset in a general asset account is transferred by a taxpayer in a like-kind exchange or in an involuntary conversion and if para- graph (e)(3)(v)(A) of this section does not apply to this asset, the taxpayer must apply this paragraph (e)(3)(v)(B) (instead of applying paragraph (e)(2), (e)(3)(ii), or (e)(3)(iii) of this section). Under this para- graph (e)(3)(v)(B), general asset account treatment for the asset terminates as of the first day of the year of disposition (as defined in §1.168(i)–6(b)(5)), and— (1) The amount of gain or loss for the asset is determined by taking into account the asset’s adjusted depreciable basis at the time of disposition (as defined in §1.168(i)–6(b)(3)). The adjusted depre- ciable basis of the asset at the time of dis- position equals the unadjusted depreciable basis of the asset less the depreciation allowed or allowable for the asset, com- puted by using the depreciation method, recovery period, and convention applica- ble to the general asset account in which the asset was included and by including the portion of the additional first year depreciation deduction claimed for the general asset account that is attributable to the relinquished asset. The depreciation allowance for the asset in the year of dis- position is determined in the same manner as the depreciation allowance for the re- linquished MACRS property (as defined in §1.168(i)–6(b)(2)) in the year of dis- position is determined under §1.168(i)–6. The recognition and character of the gain or loss are determined in accordance with paragraph (e)(3)(iii)(A) of this section (notwithstanding thatparagraph (e)(3)(iii) of this section is an optional rule); and (2) As of the first day of the year of dis- position, the taxpayer must remove the re- linquished asset from the general asset ac- count and make the adjustments to the gen- eral asset account described in paragraph (e)(3)(iii)(C)(2) through (4) of this section. (vi)Technical termination of a part- nership. In the case of a technical ter- mination of a partnership under section 708(b)(1)(B), the terminated partner- ship must apply this paragraph (e)(3)(vi) (instead of applying paragraph (e)(2), (e)(3)(ii), or (e)(3)(iii) of this section). Under this paragraph (e)(3)(vi), all of the terminated partnership’s general asset accounts terminate as of the date of its termination under section 708(b)(1)(B). The terminated partnership computes the allowable depreciation deduction for each of its general asset accounts for the taxable year in which the technical termination occurs by using the depreciation method, recovery period, and convention applica- ble to the general asset account. The new partnership is not bound by the terminated partnership’s election under paragraph (l) of this section. (vii)Anti-abuse rule—(A)In general. If an asset in a general asset account is disposed of by a taxpayer in a transaction described in paragraph (e)(3)(vii)(B) of this section, general asset account treat- ment for the asset terminates as of the first day of the taxable year in which the disposition occurs. Consequently, the taxpayer must determine the amount of gain, loss, or other deduction attribut- able to the disposition in the manner de- scribed in paragraph (e)(3)(iii)(A) of this section (notwithstanding that paragraph (e)(3)(iii)(A) of this section is an optional rule) and must make the adjustments to the general asset account described in para- graph (e)(3)(iii)(C)(1) through (4)ofthis section. (B)Abusive transactions.Atrans- action is described in this paragraph (e)(3)(vii)(B) if the transaction is not de- scribed in paragraph (e)(3)(iv), (e)(3)(v), or (e)(3)(vi) of this section, and if the transaction is entered into, or made, with a principal purpose of achieving a tax benefitorresultthatwouldnotbeavail- able absent an election under this section. Examples of these types of transactions include— (1) A transaction entered into with a principal purpose of shifting income or de- ductions among taxpayers in a manner that would not be possible absent an election under this section in order to take advan- tage of differing effective tax rates among the taxpayers; or (2) An election made under this section with a principal purpose of disposing of an asset from a general asset account in order to utilize an expiring net operating loss or credit if the transaction is not abona fide disposition. The fact that a taxpayer with a net operating loss carryover or a credit car- ryover transfers an asset to a related per- son or transfers an asset pursuant to an ar- rangement where the asset continues to be 2012–14 I.R.B.650April 2, 2012 used (or is available for use) by the tax- payer pursuant to a lease (or otherwise) in- dicates, absent strong evidence to the con- trary, that the transaction is described in this paragraph (e)(3)(vii)(B). (f)Assets generating foreign source income—(1)In general. This paragraph (f) provides the rules for determining the source of any income, gain, or loss recog- nized, and the appropriate section 904(d) separate limitation category or categories for any foreign source income, gain, or loss recognized on a disposition (within the meaning of paragraph (e)(1) of this section) of an asset in a general asset ac- count that consists of assets generating both United States and foreign source income. These rules apply only to a dispo- sition to which paragraphs (e)(2) (general disposition rules), (e)(3)(ii) (disposition of all assets remaining in a general asset account), (e)(3)(iii) (disposition of an as- set in a qualifying disposition), (e)(3)(v) (transactions subject to section 1031 or 1033), or (e)(3)(vii) (anti-abuse rule) of this section applies. (2)Source of ordinary income, gain, or loss—(i)Source determined by alloca- tion and apportionment of depreciation al- lowed. The amount of any ordinary in- come, gain, or loss that is recognized on the disposition of an asset in a general as- set account must be apportioned between United States and foreign sources based on the allocation and apportionment of the— (A) Depreciation allowed for the gen- eral asset account as of the end of the tax- able year in which the disposition occurs if paragraph (e)(2) of this section applies to the disposition; (B) Depreciation allowed for the gen- eral asset account as of the time of dis- position if the taxpayer applies paragraph (e)(3)(ii) of this section to the disposition of all assets, or the last asset, in the general asset account, or if all the assets, or the last asset, in the general asset account are dis- posed of in a transaction described in para- graph (e)(3)(v)(A) of this section; or (C) Depreciation allowed for the asset disposed of for only the taxable year in which the disposition occurs if the tax- payer applies paragraph (e)(3)(iii) of this section to the disposition of the asset in a qualifying disposition, if the asset is dis- posed of in a transaction described in para- graph (e)(3)(v)(B) of this section (like- kind exchange or involuntary conversion), or if the asset is disposed of in a transac- tion described in paragraph (e)(3)(vii) of this section (anti-abuse rule). (ii)Formula for determining foreign source income, gain, or loss. The amount of ordinary income, gain, or loss rec- ognized on the disposition that shall be treated as foreign source income, gain, or loss must be determined under the formula in this paragraph (f)(2)(ii). For purposes of this formula, the allowed depreciation deductions are determined for the appli- cable time period provided in paragraph (f)(2)(i) of this section. The formula is: Foreign Source Income, Gain, or Loss from the Disposition of an Asset = Total Ordinary Income, Gain, or Loss from the Disposition of an Asset X Allowed Depreciation Deductions Allocated and Apportioned to Foreign Source Income/Total Allowed Depreciation Deductions for the General Asset Account or for the Asset Disposed of (as applicable) (3)Section 904(d) separate categories. If the assets in the general asset account generate foreign source income in more than one separate category under section 904(d)(1) or another section of the Inter- nal Revenue Code (for example, income treated as foreign source income under section 904(g)(10)), or under a United States income tax treaty that requires the foreign tax credit limitation to be deter- mined separately for specified types of income, the amount of “foreign source income, gain, or loss from the disposition of an asset” (as determined under the for- mula in paragraph (f)(2)(ii) of this section) must be allocated and apportioned to the applicable separate category or categories under the formula in this paragraph (f)(3). For purposes of this formula, the allowed depreciation deductions are determined for the applicable time period provided in paragraph (f)(2)(i) of this section. The formula is: Foreign Source Income, Gain, or Loss in a Separate Category = Foreign Source Income, Gain, or Loss from The Disposition of an Asset X Allowed Depreciation Deductions Allocated and Apportioned to a Separate Category Total/ Allowed Depreciation Deductions and Apportioned to Foreign Source Income (g)Assets subject to recapture.Ifthe basis of an asset in a general asset ac- count is increased as a result of the recap- ture of any allowable credit or deduction (for example, the basis adjustment for the recapture amount under section 30(d)(2), 50(c)(2), 168(l)(7), 168(n)(4), 179(d)(10), 179A(e)(4), or 1400N(d)(5)), general as- set account treatment for the asset termi- nates as of the first day of the taxable year in which the recapture event occurs. Con- sequently, the taxpayer must remove the asset from the general asset account as of that day and must make the adjustments to the general asset account described in paragraph (e)(3)(iii)(C)(2) through (4)of this section. (h)Changes in use—(1)Conversion to personal use. An asset in a general asset account becomes ineligible for general as- set account treatment if a taxpayer uses the asset in a personal activity during a tax- able year. Upon a conversion to personal April 2, 20126512012–14 I.R.B. use, the taxpayer must remove the asset from the general asset account as of the first day of the taxable year in which the change in use occurs (the year of change) and must make the adjustments to the gen- eral asset account described in paragraph (e)(3)(iii)(C)(2) through (4)ofthissection. (2)Business or income-producing use percentage changes. If, after the placed- in-service year, a taxpayer uses an asset in a general asset account both in a trade or business (or for the production of in- come) and in a personal activity, general asset account treatment for the asset ter- minates as of the first day of the taxable year in which the business (or income-pro- ducing) use percentage decreases. Conse- quently, the taxpayer must remove the as- set from the general asset account as of that day and must make the adjustments to the general asset account described in paragraph (e)(3)(iii)(C)(2) through (4)of this section. (3)Change in use results in a dif- ferent recovery period or depreciation method—(i)No effect on general asset account election. A change in the use described in §1.168(i)–4(d) (change in use results in a different recovery period or depreciation method) of an asset in a general asset account shall not cause or permit the revocation of the election made under this section. (ii)Asset is removed from the general asset account. Upon a change in the use described in §1.168(i)–4(d), the taxpayer must remove the asset from the general as- set account as of the first day of the year of change (as defined in §1.168(i)–4(a)) and must make the adjustments to the gen- eral asset account described in paragraphs (e)(3)(iii)(C)(2) through (4)ofthissec- tion. If, however, the result of the change in use is described in §1.168(i)–4(d)(3) (change in use results in a shorter recovery period or a more accelerated depreciation method) and the taxpayer elects to treat the asset as though the change in use had not occurred pursuant to §1.168(i)–4(d)(3)(ii), no adjustment is made to the general asset account upon the change in use. (iii)New general asset account is es- tablished—(A)Change in use results in a shorter recovery period or a more ac- celerated depreciation method.Ifthere- sult of the change in use is described in §1.168(i)–4(d)(3) (change in use results in a shorter recovery period or a more accelerated depreciation method) and ad- justments to the general asset account are made pursuant to paragraph (h)(3)(ii) of this section, the taxpayer must establish a new general asset account for the asset in the year of change in accordance with the rules in paragraph (c) of this section, ex- cept that the adjusted depreciable basis of the asset as of the first day of the year of change is included in the general asset ac- count. For purposes of paragraph (c)(2) of this section, the applicable depreciation method, recovery period, and convention are determined under §1.168(i)–4(d)(3)(i). (B)Change in use results in a longer recovery period or a slower depreciation method. If the result of the change in use is described in §1.168(i)–4(d)(4) (change in use results in a longer recovery period or a slower depreciation method), the taxpayer must establish a separate general asset ac- count for the asset in the year of change in accordance with the rules in paragraph (c) of this section, except that the unad- justed depreciable basis of the asset, and the greater of the depreciation of the asset allowed or allowable in accordance with section 1016(a)(2), as of the first day of the year of change are included in the newly established general asset account. Conse- quently, this general asset account as of the first day of the year of change will have a beginning balance for both the unadjusted depreciable basis and the depreciation re- serve of the general asset account. For pur- poses of paragraph (c)(2) of this section, the applicable depreciation method, recov- ery period, and convention are determined under §1.168(i)–4(d)(4)(ii). (i)Redetermination of basis.If,af- ter the placed-in-service year, the unad- justed depreciable basis of an asset in a general asset account is redetermined due to a transaction other than that described in paragraph (g) of this section (for exam- ple, due to contingent purchase price or discharge of indebtedness), the taxpayer’s election under paragraph(l)ofthissection for the asset also applies to the increase or decrease in basis resulting from the rede- termination. For the taxable year in which the increase or decrease in basis occurs, the taxpayer must establish a new general as- set account for the amount of the increase or decrease in basis in accordance with the rules in paragraph (c) of this section. For purposes of paragraph (c)(2) of this sec- tion, the applicable recovery period for the increase or decrease in basis is the recov- ery period of the asset remaining as of the beginning of the taxable year in which the increase or decrease in basis occurs, the ap- plicable depreciation method and applica- ble convention for the increase or decrease in basis are the same depreciation method and convention applicable to the asset that applies for the taxable year in which the increase or decrease in basis occurs, and the increase or decrease in basis is deemed to be placed in service in the same taxable year as the asset. (j)Identification of disposed of or con- verted asset—(1)In general.Therulesof this paragraph (j) apply when an asset in a general asset account is disposed of or con- verted in a transaction described in para- graphs (e)(3)(iii) (disposition of an asset in a qualifying disposition), (e)(3)(iv)(B) (transactions subject to section 168(i)(7)), (e)(3)(v)(B) (transactions subject to sec- tion 1031 or 1033), (e)(3)(vii) (anti-abuse rule), (g) (assets subject to recapture), (h)(1) (conversion to personal use), or (h)(2) (business or income-producing use percentage changes) of this section. (2)Identifying which asset is disposed of or converted. For purposes of identi- fying which asset in a general asset ac- count is disposed of or converted, a tax- payer must identify the disposed of or con- verted asset by using— (i) The specific identification method of accounting. Under this method of account- ing, the taxpayer can determine the partic- ular taxable year in which the disposed of or converted asset was placed in service by the taxpayer; (ii) A first-in, first-out method of ac- counting if the taxpayer can readily deter- mine from its records the total dispositions of assets with the same recovery period during the taxable year but the taxpayer cannot readily determine from its records the unadjusted depreciable basis of the dis- posed of or converted asset. Under this method of accounting, the taxpayer iden- tifies the general asset account with the earliest placed-in-service year that has the same recovery period as the disposed of or converted asset and that has assets at the beginning of the taxable year of the dis- position or conversion, and the taxpayer treats the disposed of or converted asset as being from that general asset account. To determine which general asset account has assets at the beginning of the taxable year 2012–14 I.R.B.652April 2, 2012 of the disposition or conversion, the tax- payer reduces the number of assets origi- nally included in the account by the num- ber of assets disposed of or converted in any prior taxable year in a transaction to which this paragraph (j) applies; (iii) A modified first-in, first-out method of accounting if the taxpayer can readily determine from its records the to- tal dispositions of assets with the same recovery period during the taxable year and the unadjusted depreciable basis of the disposed of or converted asset. Under this method of accounting, the taxpayer identifies the general asset account with the earliest placed-in-service year that has the same recovery period as the disposed of or converted asset and that has assets at the beginning of the taxable year of the disposition or conversion with the same unadjusted depreciable basis as the disposed of or converted asset, and the taxpayer treats the disposed of or con- verted asset as being from that general asset account. To determine which general asset account has assets at the beginning of the taxable year of the disposition or conversion, the taxpayer reduces the num- ber of assets originally included in the account by the number of assets disposed of or converted in any prior taxable year in a transaction to which this paragraph (j) applies; (iv) A mortality dispersion table if the asset is a mass asset accounted for in a sep- arate general asset account in accordance with paragraph (c)(2)(ii)(H) of this section and if the taxpayer can readily determine from its records the total dispositions of assets with the same recovery period dur- ing the taxable year. The mortality dis- persion table must be based upon an ac- ceptable sampling of the taxpayer’s actual disposition and conversion experience for mass assets or other acceptable statistical or engineering techniques. To use a mor- tality dispersion table, the taxpayer must adopt recordkeeping practices consistent with the taxpayer’s prior practices and con- sonant with good accounting and engineer- ing practices; or (v) Any other method as the Secretary may designate by publication in theFed- eral Registeror in the Internal Revenue Bulletin (see §601.601(d)(2) of this chap- ter) on or after December 23, 2014. For this purpose, a last-in, first-out method of accounting is not a designated method. Under the last-in, first-out method of ac- counting, the taxpayer identifies the gen- eral asset account with the most recent placed-in-service year that has the same re- covery period as the disposed of or con- verted asset and that has assets at the be- ginning of the taxable year of the disposi- tion or conversion, and the taxpayer treats the disposed of or converted asset as being from that general asset account. To deter- mine which general asset account has as- sets at the beginning of the taxable year of the disposition or conversion, the taxpayer reduces the number of assets originally in- cluded in the account by the number of as- sets disposed of or converted in any prior taxable year in a transaction to which this paragraph (j) applies. (3)Basis of disposed of or converted as- set. After identifying which asset in a gen- eral asset account is disposed of or con- verted, the taxpayer may use any reason- able method that is consistently applied to all its general asset accounts for purposes of determining the unadjusted depreciable basis of a disposed of or converted asset. (k)Effect of adjustments on prior dis- positions. The adjustments to a general asset account under paragraph (e)(3)(iii), (e)(3)(iv), (e)(3)(v), (e)(3)(vii), (g), or (h) of this section have no effect on the recog- nition and character of prior dispositions subject to paragraph (e)(2) of this section. (l)Election—(1)Irrevocable election. If a taxpayer makes an election under this paragraph (l), the taxpayer consents to, and agrees to apply, all of the provisions of this section to the assets included in a gen- eral asset account. Except as provided in paragraph (c)(1)(ii)(A), (e)(3), (g), or (h) of this section, an election made under this section is irrevocable and will be binding on the taxpayer for computing taxable in- come for the taxable year for which the election is made and for all subsequent tax- able years. An election under this para- graph (l) is made separately by each per- son owning an asset to which this section applies (for example, by each member of a consolidated group, at the partnership level (and not by the partner separately), or at the S corporation level (and not by the share- holder separately)). (2) [Reserved]. For further guidance, see §1.168(i)–1(l)(2). (3) [Reserved]. For further guidance, see §1.168(i)–1(l)(3). (m)Effective/applicability date—(1)In general. This section applies to taxable years beginning on or after January 1, 2012. For the applicability of §1.168(i)–1 in taxable years beginning before January 1, 2012, see §1.168(i)–1 in effect prior to January 1, 2012 (§1.168(i)–1 as contained in 26 CFR part 1 edition revised as of April 1, 2011). (2)Change in method of accounting. A change to comply with this section for depreciable assets placed in service in a taxable year ending on or after December 30, 2003, is a change in method of ac- counting to which the provisions of sec- tion 446(e) and the regulations under sec- tion 446(e) apply. A taxpayer also may treat a change to comply with this section for depreciable assets placed in service in a taxable year ending before December 30, 2003, as a change in method of accounting to which the provisions of section 446(e) and the regulations under section 446(e) apply. This paragraph (m)(2) does not ap- ply to change to comply with paragraph (e)(3)(ii), (e)(3)(iii) or (l) of this section. (3) The applicability of this section ex- pires on December 23, 2014. Par. 21. Section 1.168(i)–7T is added to read as follows: §1.168(i)–7T Accounting for MACRS property (temporary). (a)In general. A taxpayer may ac- count for MACRS property (as defined in §1.168(b)–1(a)(2)) by treating each indi- vidual asset as an account (a “single as- set account” or an “item account”) or by combining two or more assets in a single account (a “multiple asset account” or a “pool”). A taxpayer may establish as many accounts for MACRS property as the tax- payer wants. This section does not apply to assets included in general asset accounts. For rules applicable to general asset ac- counts, see §1.168(i)–1T. (b)Required use of single asset ac- counts. A taxpayer must account for an as- set in a single asset account if the taxpayer uses the asset both in a trade or business (or for the production of income) and in a personal activity, or if the taxpayer places in service and disposes of the asset during the same taxable year. Also, if general asset account treatment for an asset ter- minates under §1.168(i)–1T(c)(1)(ii)(A), (e)(3)(iii), (e)(3)(vii), (g), or (h)(2), the April 2, 20126532012–14 I.R.B. taxpayer must account for the asset in a single asset account beginning in the taxable year in which the general asset account treatment for the asset terminates. If a taxpayer accounts for an asset in a multiple asset account or pool treatment and the taxpayer disposes of the asset, the taxpayer must account for the asset in a single asset account beginning in the taxable year in which the disposition occurs.See§1.168(i)–8T(g)(2)(i). If a taxpayer disposes of a component of a larger asset and the unadjusted deprecia- ble basis of the disposed of component is included in the unadjusted depreciable basis of the larger asset, the taxpayer must account for the component in a single asset account beginning in the taxable year in which the disposition occurs.See §1.168(i)–8T(g)(3)(i). (c)Establishment of multiple asset ac- counts or pools—(1)Assets eligible for multiple asset accounts or pools. Except as provided in paragraph (b) of this section, assets that are subject to either the general depreciation system of section 168(a) or the alternative depreciation system of sec- tion 168(g) may be accounted for in one or more multiple asset accounts or pools. (2)Grouping assets in multiple asset accounts or pools—(i)General rules.As- setsthatareeligibletobegroupedintoa single multiple asset account or pool may be divided into more than one multiple as- set account or pool. Each multiple asset account or pool must include only assets that— (A) Have the same applicable deprecia- tion method; (B) Have the same applicable recovery period; (C) Have the same applicable conven- tion; and (D) Are placed in service by the tax- payer in the same taxable year. (ii)Special rules. In addition to the gen- eral rules in paragraph (c)(2)(i) of this sec- tion, the following rules apply when estab- lishing multiple asset accounts or pools— (A) Assets subject to the mid-quarter convention may only be grouped into a multiple asset account or pool with assets that are placed in service in the same quar- terofthetaxableyear; (B) Assets subject to the mid-month convention may only be grouped into a multiple asset account or pool with as- sets that are placed in service in the same month of the taxable year; (C) Passenger automobiles for which the depreciation allowance is limited un- der section 280F(a) must be grouped into a separate multiple asset account or pool; (D) Assets not eligible for any addi- tional first year depreciation deduction (including assets for which the taxpayer elected not to deduct the additional first year depreciation) provided by, for exam- ple, section 168(k) through (n), 1400L(b), or 1400N(d), must be grouped into a sep- arate multiple asset account or pool; (E) Assets eligible for the additional first year depreciation deduction may only be grouped into a multiple asset account or pool with assets for which the taxpayer claimed the same percentage of the addi- tional first year depreciation (for example, 30 percent, 50 percent, or 100 percent); (F) Except for passenger automobiles described in paragraph (c)(2)(ii)(C) of this section, listed property (as defined in sec- tion 280F(d)(4)) must be grouped into a separate multiple asset account or pool; (G) Assets for which the depreciation allowance for the placed-in-service year is not determined by using an optional depre- ciation table (for further guidance, see sec- tion 8 of Rev. Proc. 87–57, 1987–2 C.B. 687, 693 (see §601.601(d)(2) of this chap- ter)) must be grouped into a separate mul- tiple asset account or pool; and (H) Mass assets (as defined in §1.168(i)–8T(b)(2)) that are or will be subject to §1.168–8T(f)(2)(ii) (disposed of or converted mass asset is identified by a mortality dispersion table) must be grouped into a separate multiple asset ac- count or pool. (d)Cross references.See §1.167(a)–7T(c) for the records to be maintained by a taxpayer for each account. In addition, see §1.168(i)–1T for the records to be maintained by a taxpayer for each general asset account. (e)Effective/applicability date—(1) This section applies to taxable years be- ginning on or after January 1, 2012. (2)Change in method of accounting.A change to comply with this section for de- preciable assets placed in service in a tax- able year ending on or after December 30, 2003, is a change in method of accounting to which the provisions of section 446(e) and the regulations under section 446(e) apply. A taxpayer also may treat a change to comply with this section for deprecia- ble assets placed in service in a taxable year ending before December 30, 2003, as a change in method of accounting to which the provisions of section 446(e) and the regulations under section 446(e) apply. (3)Expiration date. The applicability of this section expires on December 23, 2014. Par. 22. Section 1.168(i)–8T is added to read as follows: §1.168(i)–8T Dispositions of MACRS property (temporary). (a)Scope. This section provides rules applicable to dispositions of MACRS property (as defined in §1.168(b)–1(a)(2)) or to depreciable property (as defined in §1.168(b)–1(a)(1)) that would be MACRS property but for an election made by the taxpayer either to expense all or some of the property’s cost under section 179, 179A, 179B, 179C, 179D, or 1400I(a)(1), or any similar provision, or to amortize all or some of the property’s cost under sec- tion 1400I(a)(2) or any similar provision. Except as provided in §1.168(i)–1T(e)(iii), this section does not apply to dispositions of assets included in a general asset ac- count. For rules applicable to dispositions of assets included in a general asset ac- count, see §1.168(i)–1T(e). (b)Definitions. For purposes of this section— (1)Dispositionoccurs when ownership of the asset is transferred or when the as- set is permanently withdrawn from use ei- ther in the taxpayer’s trade or business or in the production of income. A dispo- sition includes the sale, exchange, retire- ment, physical abandonment, or destruc- tion of an asset. A disposition also in- cludes the retirement of a structural com- ponent (as defined in §1.48–1(e)(2)) of a building (as defined in §1.48–1(e)(1)). A disposition also occurs when an asset is transferred to a supplies, scrap, or similar account. (2)Mass assetsis a mass or group of individual items of depreciable assets— (i) That are not necessarily homoge- nous; (ii) Each of which is minor in value relative to the total value of the mass or group; (iii) Numerous in quantity; 2012–14 I.R.B.654April 2, 2012 (iv) Usually accounted for only on a total dollar or quantity basis; (v) With respect to which separate iden- tification is impracticable; and (vi) Placed in service in the same tax- able year. (3)Unadjusted depreciable basis of the multiple asset account or poolis the sum of the unadjusted depreciable bases (as de- fined in §1.168(b)–1(a)(3)) of all assets included in the multiple asset account or pool. (c)Special rules—(1)Manner of dis- position. The manner of disposition (for example, normal retirement, abnormal re- tirement, ordinary retirement, or extraordi- nary retirement) is not taken into account in determining whether a disposition oc- curs or gain or loss is recognized. (2)Disposition by transfer to a supplies account. If a taxpayer made an election under §1.162–3T(d) to treat the cost of any material and supply as a capital expendi- ture subject to the allowance for deprecia- tion, the taxpayer can dispose of the mate- rial and supply by transferring it to a sup- plies account only if the taxpayer has ob- tained the consent of the Commissioner to revoke the §1.162–3T(d) election.See §1.162–3T(d)(3) for the procedures for re- voking a §1.162–3T(d) election. (3)Leasehold improvements. This sec- tion also applies to— (i) A lessor of leased property that made an improvement to that property for the lessee of the property, has a depreciable ba- sis in the improvement, and disposes of the improvement before or upon the termina- tion of the lease with the lessee.Seesec- tion 168(i)(8)(B); and (ii) A lessee of leased property that made an improvement to that property, has a depreciable basis in the improvement, and disposes of the improvement before or upon the termination of the lease. (4)Determination of asset disposed of—(i)In general. For purposes of ap- plying this section, the facts and circum- stances of each disposition are considered in determining what is the appropriate asset disposed of. Except as provided in paragraph (c)(4)(ii) of this section, the asset for disposition purposes cannot be larger than the unit of property as deter- mined under §1.263(a)–3T(e)(2), (e)(3), and (e)(5) or as otherwise determined in published guidance in theFederal Reg- isteror in the Internal Revenue Bulletin (see, for example, Rev. Proc. 2011–38, 2011–18 I.R.B. 743, for units of prop- erty for wireless network assets (see §601.601(d)(2)(ii)(b) of this chapter)). (ii)Exceptions. For purposes of apply- ing this section: (A) Each building (not including its structural components) is the asset except as provided in §1.1250–1(a)(2)(ii) or in paragraph (c)(4)(ii)(B) or (E) of this sec- tion. (B) If a building has two or more condo- minium or cooperative units, each condo- minium or cooperative unit (not including its structural components) is the asset ex- cept as provided in §1.1250–1(a)(2)(ii) or in paragraph (c)(4)(ii)(E) of this section. (C) Each structural component (includ- ing all components thereof) of a building, condominium unit, or cooperative unit is the asset. (D) If a taxpayer properly includes an item in one of the asset classes 00.11 through 00.4 of Rev. Proc. 87–56, 1987–2 C.B. 674, (see §601.601(d)(2)(ii)(b)of this chapter) or properly classifies an item in one of the categories under sec- tion 168(e)(3) (except for a category that includes buildings or structural compo- nents; for example, retail motor fuels outlet, qualified leasehold improvement property, qualified restaurant property, and qualified retail improvement prop- erty), each item is the asset provided it is not larger than the unit of property as determined under §1.263(a)–3T(e)(3) or (e)(5) or as otherwise determined in published guidance in theFederal Reg- isteror in the Internal Revenue Bulletin (see §601.601(d)(2)(ii)(b) of this chap- ter), or provided paragraph (c)(4)(ii)(E) of this section does not apply to the item. For example, each desk is the asset, each computer is the asset, and each qualified smart electric meter is the asset (assuming these assets are not larger than the unit of property as de- termined under §1.263(a)–3T(e)(3) or (e)(5) or as otherwise determined in pub- lished guidance in theFederal Register or in the Internal Revenue Bulletin (see §601.601(d)(2)(ii)(b) of this chapter)). (E) If the taxpayer places in service an improvement or addition to an as- set after the taxpayer placed the asset in service, the improvement or addi- tion is a separate asset provided it is not larger than the unit of property as de- termined under §1.263(a)–3T(e)(3) or (e)(5) or as otherwise determined in pub- lished guidance in theFederal Register or in the Internal Revenue Bulletin (see §601.601(d)(2)(ii)(b) of this chapter). (F) If an asset is not described in one of the asset classes 00.11 through 00.4 of Rev. Proc. 87–56, 1987–2 C.B. 674, (see §601.601(d)(2)(ii)(b) of this chapter) or in one of the categories under section 168(e)(3), a taxpayer also may use any rea- sonable, consistent method to treat each of the asset’s components as the asset. (d)Gain or loss on dispositions.Ex- cept as provided by section 280B and §1.280B–1, the following rules apply when assets within the scope of this sec- tion are disposed of during a taxable year: (1) If an asset is disposed of by sale, ex- change, or involuntary conversion, gain or loss must be recognized under the appli- cable provisions of the Internal Revenue Code. (2)Ifanassetisdisposedofbyphysi- cal abandonment, loss must be recognized in the amount of the adjusted deprecia- ble basis (as defined in §1.168(b)–1(a)(4)) of the asset at the time of the abandon- ment (taking into account the applicable convention). However, if the abandoned asset is subject to nonrecourse indebted- ness, paragraph (d)(1) of this section ap- plies to the asset (instead of this paragraph (d)(2)). For a loss from physical abandon- ment to qualify for recognition under this paragraph (d)(2), the taxpayer must intend to discard the asset irrevocably so that the taxpayer will neither use the asset again nor retrieve it for sale, exchange, or other disposition. (3) If an asset is disposed of other than by sale, exchange, involuntary conversion, physical abandonment, or conversion to personal use (as, for example, when the as- set is transferred to a supplies or scrap ac- count), gain is not recognized. Loss must be recognized in the amount of the ex- cess of the adjusted depreciable basis of the asset at the time of the disposition (tak- ing into account the applicable conven- tion) over the asset’s fair market value at the time of the disposition (taking into ac- count the applicable convention). (e)Basis of asset disposed of—(1)In general. The adjusted basis of an asset dis- posedofforcomputinggainorlossisits adjusted depreciable basis at the time of the asset’s disposition (as determined un- April 2, 20126552012–14 I.R.B. der the applicable convention for the as- set). (2)Assets disposed of are in multiple asset accounts or are components.Ifthe taxpayer accounts for the asset disposed of in a multiple asset account or pool, or the asset disposed of is a component of a larger asset and it is impracticable from the taxpayer’s records to determine the un- adjusted depreciable basis (as defined in §1.168(b)–1(a)(3)) of the asset disposed of, the taxpayer may use any reasonable method that is consistently applied to the taxpayer’s multiple asset accounts or pools or to the taxpayer’s larger assets for pur- poses of determining the unadjusted depre- ciable basis of assets disposed of. To de- termine the adjusted depreciable basis of an asset disposed of in a multiple asset ac- count, the depreciation allowed or allow- able for the asset disposed of is computed by using the depreciation method, recov- ery period, and convention applicable to the multiple asset account or pool in which the asset disposed of was included and by including the additional first year depreci- ation deduction claimed for the asset dis- posed of. To determine the adjusted de- preciable basis of an asset disposed of that is a component of a larger asset, the de- preciation allowed or allowable for the as- set disposed of is computed by using the depreciation method, recovery period, and convention applicable to the larger asset of which the asset disposed of is a compo- nent and by including the portion of the ad- ditional first year depreciation deduction claimed for the larger asset that is attrib- utable to the asset disposed of. (f)Identification of asset disposed of—(1)In general. Except as provided in paragraph (f)(2) of this section, a tax- payer must use the specific identification method of accounting to identify which asset is disposed of by the taxpayer. Under this method of accounting, the taxpayer can determine the particular taxable year in which the asset disposed of was placed in service by the taxpayer. (2)Asset disposed of is in a multiple asset account. If a taxpayer accounts for the asset disposed of in a multiple asset account or pool and the total dispositions of assets with the same recovery period during the taxable year are readily deter- mined from the taxpayer’s records but it is impracticable from the taxpayer’s records to determine the particular taxable year in which the asset disposed of was placed in service by the taxpayer, the taxpayer may identify the asset disposed of by using— (i) A first-in, first-out method of ac- counting if the unadjusted depreciable basis of the asset disposed of cannot be readily determined from the taxpayer’s records. Under this method of account- ing, the taxpayer identifies the multiple asset account or pool with the earliest placed-in-service year that has the same recovery period as the asset disposed of and that has assets at the beginning of the taxable year of the disposition, and the taxpayer treats the asset disposed of as being from that multiple asset account or pool; (ii) A modified first-in, first-out method of accounting if the unadjusted depreciable basis of the asset disposed of can be readily determined from the taxpayer’s records. Under this method of accounting, the tax- payer identifies the multiple asset account or pool with the earliest placed-in-service year that has the same recovery period as the asset disposed of and that has assets at the beginning of the taxable year of the dis- position with the same unadjusted depre- ciable basis as the asset disposed of, and the taxpayer treats the asset disposed of as being from that multiple asset account or pool; (iii) A mortality dispersion table if the asset disposed of is a mass asset. The mortality dispersion table must be based upon an acceptable sampling of the tax- payer’s actual disposition experience for mass assets or other acceptable statistical or engineering techniques. To use a mor- tality dispersion table, the taxpayer must adopt recordkeeping practices consistent with the taxpayer’s prior practices and con- sonant with good accounting and engineer- ing practices; or (iv) Any other method as the Secre- tary may designate by publication in the Federal Registeror in the Internal Rev- enue Bulletin (see §601.601(d)(2) of this chapter) on or after December 23, 2014. For this purpose, a last-in, first-out method of accounting is not a designated method. Under the last-in, first-out method of ac- counting, the taxpayer identifies the mul- tiple asset account or pool with the most recent placed-in-service year that has the same recovery period as the asset disposed of and that has assets at the beginning of the taxable year of the disposition, and the taxpayer treats the asset disposed of as being from that multiple asset account or pool. (g)Accounting for asset disposed of—(1)Depreciation ends. Depreciation endsforanassetatthetimeoftheas- set’s disposition (as determined under the applicable convention for the asset).See §1.167(a)–10(b). If the asset disposed of is in a single asset account, the single asset account terminates at the time of the asset’s disposition (as determined under the applicable convention for the asset). (2)Asset disposed of in a multiple asset account or pool. If the taxpayer accounts for the asset disposed of in a multiple asset account or pool, then— (i) As of the first day of the taxable year in which the disposition occurs, the asset disposed of is removed from the multiple asset account or pool and is placed into a single asset account.See§1.168(i)–7T(b); (ii) The unadjusted depreciable basis of the multiple asset account or pool must be reduced by the unadjusted depreciable ba- sis of the asset disposed of as of the first day of the taxable year in which the dispo- sition occurs. See paragraph (e)(2) of this section for determining the unadjusted de- preciable basis of the asset disposed of; (iii) The depreciation reserve of the multiple asset account or pool must be reduced by the depreciation allowed or allowable for the asset disposed of as of the end of the taxable year immediately preceding the year of disposition, com- puted by using the depreciation method, recovery period, and convention applica- ble to the multiple asset account or pool in which the asset disposed of was included and by including the additional first year depreciation deduction claimed for the asset disposed of; and (iv) In determining the adjusted depre- ciable basis of the asset disposed of at the time of disposition (taking into account the applicable convention), the deprecia- tion allowed or allowable for the asset dis- posed of is computed by using the depre- ciation method, recovery period, and con- vention applicable to the multiple asset ac- countorpoolinwhichtheassetdisposed of was included and by including the ad- ditional first year depreciation deduction claimed for the asset disposed of. (3)Disposed of component of a larger asset. This paragraph (g)(3) applies only to a taxpayer that uses a reasonable, con- 2012–14 I.R.B.656April 2, 2012 sistent method to treat each of the asset’s components as the asset in accordance with paragraph (c)(4)(ii)(F) of this section. If the taxpayer disposes of a component of a larger asset and the unadjusted de- preciable basis of the disposed component is included in the unadjusted depreciable basis of the larger asset, then— (i) As of the first day of the taxable year in which the disposition occurs, the disposed of component is removed from the larger asset and is placed into a single asset account.See§1.168(i)–7T(b); (ii) The unadjusted depreciable basis of the larger asset must be reduced by the un- adjusted depreciable basis of the disposed of component as of the first day of the tax- able year in which the disposition occurs. See paragraph (e)(2) of this section for de- termining the unadjusted depreciable basis of the disposed of component; (iii) The depreciation reserve of the larger asset must be reduced by the de- preciation allowed or allowable for the disposed of component as of the end of the taxable year immediately preceding the year of disposition, computed by using the depreciation method, recovery period, and convention applicable to the larger asset in which the disposed of component was included and by including the portion of the additional first year depreciation de- duction claimed for the larger asset that is attributable to the disposed of component; and (iv) In determining the adjusted depre- ciable basis of the disposed of component at the time of disposition (taking into ac- count the applicable convention), the de- preciation allowed or allowable for the as- set disposed of is computed by using the depreciation method, recovery period, and convention applicable to the larger asset in which the disposed of component was included and by including the portion of the additional first year depreciation de- duction claimed for the larger asset that is attributable to the disposed of component. (h)Examples. The application of this section is illustrated by the following ex- amples: Example 1. A owns an office building with four elevators. A decides to replace one of the elevators. The retirement of the replaced elevator, which is a structural component of the building, is a disposition. As a result, depreciation for the retired elevator ceases at the time of its retirement (taking into account the applicable convention). A recognizes a loss upon this retirement. Example 2. B, a calendar-year commercial air- line company, owns several aircrafts that are used in the commercial carrying of passengers. B replaces the existing engines on one of the aircrafts with new engines and treats each engine of an aircraft as a major component of the aircraft. Assume each aircraft is a unit of property as determined under §1.263(a)–3T(e)(3). However, for tax disposition purposes, B consistently treats each major compo- nent of an aircraft as the asset. Thus, the retirement of the replaced engines is a disposition. As a result, depreciation for the retired engines ceases at the time of their retirement (taking into account the applicable convention). B recognizes a loss upon this retire- ment. Example 3. The facts are the same as inExample 2, except B treats each aircraft as the asset for tax disposition purposes. Assume each aircraft is a unit of property as determined under §1.263(a)–3T(e)(3). Thus, the replacement of the engines on one of the aircrafts is not a disposition. As a result, depreciation continues for the cost of the aircraft (including the cost of the replaced engines) and B does not recognize a loss upon this replacement. Example 4. C, a corporation, owns several trucks that are used in its trade or business and described in asset class 00.241 of Rev. Proc. 87–56. C re- places the engine on one of the trucks with a new engine and treats each engine of a truck as a major component of the truck. Assume each truck is a unit of property as determined under §1.263(a)–3T(e)(3). Because the trucks are described in asset class 00.241 of Rev. Proc. 87–56, C must treat each truck as the asset for tax disposition purposes. Thus, the replace- ment of the engine on the truck is not a disposition. As a result, depreciation continues for the cost of the truck (including the costof the replaced engine) and C does not recognize a loss upon this replacement. Example 5. (i) On July 1, 2009, D, a calen- dar-year taxpayer, purchased and placed in service a multi-story office building that costs $20,000,000. The cost of each structural component of the build- ing was not separately stated. D accounts for the building in its records as a single asset with a cost of $20,000,000. D depreciates the building as nonresidential real property and uses the optional depreciation table that corresponds with the gen- eral depreciation system, the straight-line method, a 39-year recovery period, and the mid-month conven- tion. As of January 1, 2012, the depreciation reserve for the building is $1,261,000. (ii) On June 30, 2012, D replaces one of the build- ing’s elevators. Because D cannot identify the cost of the structural components of the office building from its records, D uses a reasonable method that is con- sistently applied to all of the structural components of the office building to determine the cost of the el- evator. Using this reasonable method, D allocates $150,000 of the $20,000,000 purchase price for the building to the retired elevator. Using the optional de- preciation table that corresponds with the general de- preciation system, the straight-line method, a 39-year recovery period, and the mid-month convention, the depreciation allowed or allowable for the retired ele- vator as of December 31, 2011, is $9,457.50. (iii) For D’s 2012 Federal income tax return, loss for the retired elevator is determined as follows. The depreciation allowed or allowable for 2012 for the re- tired elevator is $1,923 ((unadjusted depreciable ba- sis of $150,000 x depreciation rate of 2.564 percent for 2012) x 6/12). Thus, the adjusted depreciable ba- sis of the retired elevator is $138,619.50 (the adjusted depreciable basis of $140,542.50 removed from the building cost less the depreciation allowed or allow- able of $1,923 for 2012). As a result, D recognizes a loss of $138,619.50 for the retired elevator in 2012, which is subject to section 1231. (iv) For D’s 2012 Federal income tax return, the depreciation allowance for the building is computed as follows. As of January 1, 2012, the unad- justed depreciable basis of the building is reduced from $20,000,000 to $19,850,000 ($20,000,000 less the unadjusted depreciable basis of $150,000 for the retired elevator), and the depreciation re- serve of the building is reduced from $1,261,000 to $1,251,542.50 ($1,261,000 less the depreciation allowed or allowable of $9,457.50 for the retired el- evator as of December 31, 2011). Consequently, the depreciation allowance for the building for 2012 is $508,954 ($19,850,000 x depreciation rate of 2.564 percent for 2012). Example 6. (i) Since 2003, E, a calendar year taxpayer, has accounted for items of MACRS prop- erty that are mass assets in pools. Each pool includes only the mass assets that have the same depreciation method, recovery period, and convention, and are placed in service by E in the same taxable year. None of the pools are general asset accounts under section 168(i)(4) and the regulations under section 168(i)(4). E identifies any dispositions of these mass assets by specific identification. (ii) During 2012, E sells 10 items of mass assets with a 5-year recovery period each for $100. Under the specific identification method, E identifies these mass assets as being from the pool established by E in 2010 for mass assets with a 5-year recovery period. Assume E depreciates this pool using the optional de- preciation table that corresponds with the general de- preciation system, the 200-percent declining balance method, a 5-year recovery period, and the half-year convention. E elected not to deduct the additional first year depreciation provided by section 168(k) for 5-year property placed in service during 2010. As of January 1, 2012, this pool contains 100 similar items of mass assets with a total cost of $25,000 and a to- tal depreciation reserve of $13,000. Thus, E allocates a cost of $250 ($25,000 x (1/100)) to each disposed of mass asset and depreciation allowed or allowable of $130 ($13,000 x (1/100)) to each disposed of mass asset. The depreciation allowed or allowable in 2012 for each disposed of mass asset is $24 [($250 x 19.2 percent) / 2]. As a result, the adjusted depreciable ba- sis of each disposed of mass asset under section 1011 is $96 ($250 - $130 - $24). Thus, E recognizes a gain of $4 for each disposed of mass asset in 2012, which is subject to section 1245. (iii) Further, as of January 1, 2012, the unadjusted depreciable basis of the 2010 pool of mass assets with a 5-year recovery period is reduced from $25,000 to $22,500 ($25,000 less the unadjusted depreciable ba- sis of $2,500 for the 10 disposed of items), and the de- preciation reserve of this 2010 pool is reduced from $13,000 to $11,700 ($13,000 less the depreciation al- lowed or allowable of $1,300 for the 10 disposed of items as of December 31, 2011). Consequently, as of January 1, 2012, the 2010 pool of mass assets with a 5-year recovery period has 90 items with a total cost of $22,500 and a depreciation reserve of April 2, 20126572012–14 I.R.B. $11,700. Thus, the depreciation allowance for this pool for 2012 is $4,320 ($22,500 x 19.2 percent). Example 7. (i)SamefactsasinExample 6. Because of changes in E’s recordkeeping in 2013, it is impracticable for E to continue to identify dis- posed of mass assets using specific identification and to determine the unadjusted depreciable ba- sis of the disposed of mass assets. As a result, E files a Form 3115,Application for Change in Ac- counting Method, to change to a first-in, first-out method beginning with the taxable year beginning on January 1, 2013, on a modified cut-off basis. See§1.446–1(e)(2)(ii)(d)(2)(vii). Under the first-in, first-out method, the mass assets disposed of in a taxable year are deemed to be from the pool with the earliest placed-in-service year that has assets as of the beginning of the taxable year of the disposition with the same recovery period as the asset disposed of. The Commissioner of Internal Revenue consents to this change in method of accounting. (ii) During 2013, E sells 20 items of mass assets with a 5-year recovery period each for $50. As of January 1, 2013, the 2006 pool is the pool with the earliest placed-in-service year for mass assets with a 5-year recovery period, and this pool contains 25 items of mass assets with a total cost of $10,000 and a total depreciation reserve of $10,000. Thus, E al- locates a cost of $400 ($10,000 x (1/25)) to each dis- posed of mass asset and depreciation allowed or al- lowable of $400 to each disposed of mass asset. As a result, the adjusted depreciable basis of each dis- posed of mass asset is $0. Thus, E recognizes a gain of $50 for each disposed of mass asset in 2013, which is subject to section 1245. (iii) Further, as of January 1, 2013, the unadjusted depreciable basis of the 2006 pool of mass assets with a 5-year recovery period is reduced from $10,000 to $2,000 ($10,000 less the unadjusted depreciable ba- sis of $8,000 for the 20 disposed of items ($400 x 20)), and the depreciation reserve of this 2006 pool is reduced from $10,000 to $2,000 ($10,000 less the de- preciation allowed or allowable of $8,000 for the 20 disposed of items as of December 31, 2012). Conse- quently, as of January 1, 2013, the 2006 pool of mass assets with a 5-year recovery period has 5 items with a total cost of $2,000 and a depreciation reserve of $2,000. (i)Effective/applicability date.(1)This section applies to taxable years beginning on or after January 1, 2012. (2)Change in method of accounting.A change to comply with this section for de- preciable assets placed in service in a tax- able year ending on or after December 30, 2003, is a change in method of accounting to which the provisions of section 446(e) and the regulations under section 446(e) apply. A taxpayer also may treat a change to comply with this section for deprecia- ble assets placed in service in a taxable year ending before December 30, 2003, as a change in method of accounting to which the provisions of section 446(e) and the regulations under section 446(e) apply. (3)Expiration Date. The applicability of this section expires on December 23, 2014. Par. 23. Section 1.263(a)–0 is amended by: 1. Revising the section headings of the table of contents for §§1.263(a)–2 and 1.263(a)–3. 2. Adding entries to the table of con- tents for §§1.263(a)–1, 1.263(a)–2, and 1.263(a)–3. The revisions and additions read as fol- lows: §1.263(a)–0 Table of contents. ***** §1.263(a)–1 Capital expenditures; in general. (a) through (h) [Reserved]. For fur- ther guidance, see the table of contents for §1.263(a)–1T(a) through (h) under §1.263(a)–0T. §1.263(a)–2 Amounts paid to acquire or produce tangible property. (a) through (i) [Reserved]. For fur- ther guidance, see the table of contents for §1.263(a)–2T(a) through (i) under §1.263(a)–0T. §1.263(a)–3 Amounts paid to improve tangible property. (a) through (q) [Reserved]. For fur- ther guidance, see the table of contents for §1.263(a)–3T(a) though (q) under §1.263(a)–0T. ***** Par. 24. Section 1.263(a)–0T is added to read as follows: §1.263(a)–0T Table of contents (temporary). This section lists the table of con- tents for §§1.263(a)–1T, 1.263(a)–2T, and 1.263(a)–3T. §1.263(a)–1T Capital expenditures; in general (temporary). (a) General rule for capital expendi- tures. (b) Coordination with section 263A. (c) Examples of capital expenditures. (d) Amounts paid to sell property. (1) In general. (2) Treatment of capitalized amount. (3) Examples. (e) Amount paid. (f) Accounting method changes. (g) Effective/applicability date. (h) Expiration date. §1.263(a)–2T Amounts paid to acquire or produce tangible property (temporary). (a) Overview. (b) Definitions. (1) Amount paid. (2) Personal property. (3) Real property. (4) Produce. (c) Coordination with other provisions of the Internal Revenue Code. (1) In general. (2) Materials and supplies. (d) Acquired or produced tangible prop- erty. (1) Requirement to capitalize. (2) Examples. (e) Defense or perfection of title to property. (1) In general. (2) Examples. (f) Transaction costs. (1) In general. (2) Scope of facilitate. (i) In general. (ii) Inherently facilitative amounts. (iii) Special rule for acquisitions of real property. (A) In general. (B) Acquisitions of real and personal property in a single transaction. (iv) Employee compensation and over- head costs. (A) In general. (B) Election to capitalize. (3) Treatment of transaction costs. (i) In general. (ii) Treatment of inherently facilitative amounts. (4) Examples. (g)De minimisrule. (1) In general. (2) Exceptions tode minimisrule. (3) Additional rules. (4) Election to capitalize. (5) Materials and supplies. (6) Definition of applicable financial statement. (7) Application to consolidated group member. 2012–14 I.R.B.658April 2, 2012 (8) Examples. (h) Treatment of capital expenditures. (i) Recovery of capitalized amounts. (1) In general. (2) Examples. (j) Accounting method changes. (k) Effective/applicability date. (l) Expiration date. §1.263(a)–3T Amounts paid to improve tangible property (temporary). (a) Overview. (b) Definitions. (1) Amount paid. (2) Personal property. (3) Real property. (4) Owner. (c) Coordination with other provisions of the Internal Revenue Code. (1) In general. (2) Materials and supplies. (3) Exception for amounts subject tode minimisrule. (4) Example. (d) Requirement to capitalize amounts paid for improvements. (e) Determining the unit of property. (1) In general. (2) Building. (i) In general. (ii) Application of improvement rules to a building. (A) Building structure. (B) Building system. (iii) Condominium. (A) In general. (B) Application of improvement rules to a condominium. (iv) Cooperative. (A) In general. (B) Application of improvement rules to a cooperative. (v) Leased building. (A) In general. (B) Application of improvement rules to a leased building. (1) Entire building. (2) Portion of building. (3) Property other than a building. (i) In general. (ii) Plant property. (A) Definition. (B) Unit of property for plant property. (iii) Network assets. (A) Definition. (B) Unit of property for network assets. (iv) Leased property other than build- ings. (4) Improvements to property. (5) Additional rules. (i) Year placed in service. (ii) Change in subsequent taxable year. (6) Examples. (f) Special rules for determining im- provement costs. (1) Improvements to leased property. (i) In general. (ii) Lessee improvements. (A) Requirement to capitalize. (B) Unit of property for lessee improve- ments. (iii) Lessor improvements. (A) Requirement to capitalize. (B) Unit of property for lessor improve- ments. (iv) Examples. (2) Compliance with regulatory re- quirements. (3) Certain costs incurred during an im- provement. (i) In general. (ii) Exception for individuals’ resi- dences. (4) Aggregate of related amounts. (g) Safe harbor for routine maintenance on property other than buildings. (1) In general. (2) Rotable and temporary spare parts. (3) Exceptions. (4) Class life. (5) Examples. (h) Capitalization of betterments. (1) In general. (2) Betterments to buildings. (3) Application of general rule. (i) Facts and circumstances. (ii) Unavailability of replacement parts. (iii) Appropriate comparison. (A) In general. (B) Normal wear and tear. (C) Particular event. (4) Examples. (i) Capitalization of restorations. (1) In general. (2) Restorations of buildings. (3) Rebuild to like-new condition. (4) Replacement of a major component or substantial structural part. (5) Examples. (j) Capitalization of amounts to adapt property to a new or different use. (1) In general. (2) Adapting buildings to new or differ- ent use. (3) Examples. (k) Optional regulatory accounting method. (1) In general. (2) Eligibility for regulatory accounting method. (3) Description of regulatory account- ing method. (4) Examples. (l) Methods of accounting authorized in published guidance. (m) Treatment of capital expenditures. (n) Recovery of capitalized amounts. (o) Accounting method changes. (p) Effective/applicability date. (q) Expiration date. Par. 25. Section 1.263(a)–1 is revised to read as follows: §1.263(a)–1 Capital expenditures; in general. (a) through (c) [Reserved]. For further guidance, see §1.263(a)–1T(a) through (c). (d) through (h) [Reserved]. For further guidance, see §1.263(a)–1T(d) through (h). Par. 26. Section 1.263(a)–1T is added to read as follows: §1.263(a)–1T Capital expenditures; in general (temporary). (a)General rule for capital expendi- tures. Except as provided in chapter 1 of the Internal Revenue Code, no deduction is allowed for— (1) Any amount paid for new buildings or for permanent improvements or better- mentsmadetoincreasethevalueofany property or estate; or (2) Any amount paid in restoring prop- erty or in making good the exhaustion thereof for which an allowance is or has been made. (b)Coordination with section 263A. Section 263(a) generally requires taxpay- ers to capitalize an amount paid to acquire, produce, or improve real or personal tan- gible property. Section 263A generally prescribes the direct and indirect costs that must be capitalized to property produced by the taxpayer and property acquired for resale. (c)Examples of capital expenditures. The following amounts paid are examples of capital expenditures: April 2, 20126592012–14 I.R.B. (1) An amount paid to acquire or pro- duce a unit of real or personal tangible property.See§1.263(a)–2T. (2)Anamountpaidtoimproveaunit of real or personal tangible property.See §1.263(a)–3T. (3) An amount paid to acquire or create intangibles.See§1.263(a)–4. (4) An amount paid or incurred to facil- itate an acquisition of a trade or business, a change in capital structure of a business entity, and certain other transactions.See §1.263(a)–5. (5) An amount paid to acquire or create interests in land, such as easements, life es- tates, mineral interests, timber rights, zon- ing variances, or other interests in land. (6) An amount assessed and paid un- der an agreement between bondholders or shareholders of a corporation to be used in a reorganization of thecorporation or vol- untary contributions by shareholders to the capital of the corporation for any corporate purpose.Seesection 118 and §1.118–1. (7) An amount paid by a holding com- pany to carry out a guaranty of dividends at a specified rate on the stock of a sub- sidiary corporation for the purpose of se- curing new capital for the subsidiary and increasing the value of its stockholdings in the subsidiary. This amount must be added to the cost of the stock in the subsidiary. (d)Amounts paid to sell property—(1) In general. Commissions and other trans- action costs paid to facilitate the sale of property generally must be capitalized. However, in the case of dealers in property, amounts paid to facilitate the sale of prop- erty are treated as ordinary and necessary business expenses. See §1.263(a)–5(g) for the treatment of amounts paid to facilitate the disposition of assets that constitute a trade or business. (2)Treatment of capitalized amount. Amounts capitalized under paragraph (d)(1) of this section are treated as a reduc- tion in the amount realized and generally are taken into account either in the taxable year in which the sale occurs or in the taxable year in which the sale is aban- doned if a loss deduction is permissible. The capitalized amount is not added to the basis of the property and is not treated as an intangible under §1.263(a)–4. (3)Examples. The following examples, which assume the sale is not an installment sale under section 453, illustrate the rules of this paragraph (d): Example 1.Sales costs of real property. X owns a parcel of real estate. X sells the real estate and pays legal fees, recording fees, and sales commissions to facilitate the sale. X must capitalize the fees and com- missions and, in the taxable year of the sale, offset the fees and commissions against the amount realized from the sale of the real estate. Example 2.Sales costs of dealers.Assume the samefactsasinExample 1, except that X is a dealer in real estate. The commissions and fees paid to facil- itate the sale of the real estate are treated as ordinary and necessary business expenses under section 162. Example 3.Sales costs of personal property used in a trade or business. Xowns a truck for use in X’s trade or business. X decides to sell the truck on November 15, Year 1. X pays for an appraisal to de- termine a reasonable asking price. On February 15, Year 2, X sells the truck to Y. X is required to capitalize in Year 1 the amount paid to appraise the truck and, in Year 2, is required to offset the amount paid against the amount realized from the sale of the truck. Example 4.Costs of abandoned sale of personal property used in a trade or business.Assume the same facts as inExample 3, except that, instead of selling the truck on February 15, Year 2, X decides on that date not to sell the truck and takes the truck off the market. X is required to capitalize in Year 1 the amount paid to appraise the truck. However, X may treat the amount paid to appraise the truck as a loss under section 165 in Year 2 when the sale is abandoned. Example 5.Sales costs of personal property not used in a trade or business.Assume the same facts as inExample 3, except that X does not use the truck in X’s trade or business, but instead uses it for personal purposes. X decides to sell the truck and on Novem- ber 15, Year 1, X pays for an appraisal to determine a reasonable asking price. On February 15, Year 2, X sells the truck toY. X is required to capitalize in Year 1 the amount paid to appraise the truck and, in Year 2, is required to offset the amount paid against the amount realized from the sale of the truck. Example 6.Costs of abandoned sale of personal property not used in a trade or business.Assume the same facts as inExample 5, except that, instead of selling the truck on February 15, Year 2, X decides on that date not to sell the truck and takes the truck off the market. X is required to capitalize in Year 1 the amount paid to appraise the truck. Although the sale is abandoned in Year 2, X may not treat the amount paid to appraise the truck as a loss under section 165 because the truck was not used in X’s trade or busi- ness or in a transaction entered into for profit. (e)Amount paid. In the case of a tax- payer using an accrual method of account- ing, the termsamount paidandpayment mean a liability incurred (within the mean- ing of §1.446–1(c)(1)(ii)). A liability may not be taken into account under this section prior to the taxable year during which the liability is incurred. (f)Accounting method changes.Ex- cept as otherwise provided in this section, a change to comply with this section is a change in method ofaccounting to which the provisions of sections 446 and 481, and the regulations thereunder apply. A tax- payer seeking to change to a method of ac- counting permitted in this section must se- cure the consent of the Commissioner in accordance with §1.446–1(e) and follow the administrative procedures issued under §1.446–1(e)(3)(ii) for obtaining the Com- missioner’s consent to change its account- ing method. (g)Effective/applicability date.This section applies to taxable years begin- ning on or after January 1, 2012. For the applicability of regulations to tax- able years beginning before January 1, 2012, see §1.263(a)–1 in effect prior to January 1, 2012 (§1.263(a)–1 as contained in 26 CFR part 1 edition revised as of April 1, 2011). (h)Expiration date. The applicability of this section expires on December 23, 2014. Par. 27. Section 1.263(a)–2 is revised to read as follows: §1.263(a)–2 Amounts paid to acquire or produce tangible property. (a) through (h) [Reserved]. For further guidance, see §§1.263(a)–2T(a) through (h). (i) through (l) [Reserved]. For further guidance, see §§1.263(a)–2T(i) through (l). Par. 28. Section 1.263(a)–2T is added to read as follows: §1.263(a)–2T Amounts paid to acquire or produce tangible property (temporary). (a)Overview. This section provides rules for applying section 263(a) to amounts paid to acquire or produce a unit of real or personal property. Paragraph (b) of this section contains definitions. Para- graph (c) of this section contains the rules for coordinating this section with other provisions of the Internal Revenue Code. Paragraph (d) of this section provides the general requirement to capitalize amounts paid to acquire or produce a unit of real or personal property. Paragraph (e) of this section provides the requirement to cap- italize amounts paid to defend or perfect title to real or personal property. Paragraph (f)ofthissectionprovidestherulesfor determining the extent to which taxpayers must capitalize transaction costs related to the acquisition of property. Paragraph (g) 2012–14 I.R.B.660April 2, 2012 of this section provides ade minimisrule for certain amounts paid for the acquisi- tion or production of property. Paragraphs (h) and (i) of this section address the treat- ment and recovery of capital expenditures. Paragraph (j) of this section provides for changes in methods of accounting to com- ply with this section, and paragraphs (k) and (l) of this section provide the effective, applicability, and expiration dates for the rules under this section. (b)Definitions.For purposes of this section, the following definitions apply: (1)Amount paid. In the case of a tax- payer using an accrual method of account- ing, the termsamount paidandpayment mean a liability incurred (within the mean- ing of §1.446–1(c)(1)(ii)). A liability may not be taken into account under this section prior to the taxable year during which the liability is incurred. (2)Personal propertymeans tangible personal property as defined in §1.48–1(c). (3)Real propertymeans land and im- provements thereto, such as buildings or other inherently permanent structures (in- cluding items that are structural compo- nents of the buildings or structures) that are not personal property as defined in para- graph (b)(2) of this section. Any property that constitutes other tangible property un- der §1.48–1(d) is treated as real property for purposes of this section. Local law is not controlling in determining whether property is real property for purposes of this section. (4)Producemeans construct, build, in- stall, manufacture, develop, create, raise, or grow. This definition is intended to have the same meaning as the definition used for purposes of section 263A(g)(1) and §1.263A–2(a)(1)(i), exceptthatimprove- ments are excluded from the definition in this paragraph (b)(4) and are separately de- fined and addressed in §1.263(a)–3T. (c)Coordination with other provisions of the Internal Revenue Code—(1)In gen- eral. Except as provided under thede min- imisrule in paragraph (g) of this section, nothing in this section changes the treat- ment of any amount that is specifically provided for under any provision of the In- ternal Revenue Code or regulations there- under other than section 162(a) or section 212 and the regulations under those sec- tions. For example, see section 263A re- quiring taxpayers to capitalize the direct and indirect costs of producing property or acquiring property for resale. See also sec- tion 195 requiring taxpayers to capitalize certain costs as start-up expenditures. (2)Materials and supplies. Except as provided under thede minimisrule in para- graph (g) of this section, nothing in this section changes the treatment of amounts paid to acquire or produce property that is properly treated as materials and supplies under §1.162–3T. (d)Acquired or produced tangible property—(1)Requirement to capitalize. Except as provided in paragraph (g) of this section (providing thede minimisrule) and in §1.162–3T (relating to materials and supplies), a taxpayer must capital- ize amounts paid to acquire or produce a unit of real or personal property (as deter- mined under §1.263(a)–3T(e)), including leasehold improvement property, land and land improvements, buildings, machinery and equipment, and furniture and fixtures. Amounts paid to acquire or produce a unit of real or personal property include the invoice price, transaction costs as deter- mined under paragraph (f) of this section, and costs for work performed prior to the date that the unit of property is placed in service by the taxpayer (without regard to any applicable convention under section 168(d)). A taxpayer also must capitalize amounts paid to acquire real or personal property for resale and to produce real or personal property. See section 263A for the costs required to be capitalized to property produced by the taxpayer or to property acquired for resale. (2)Examples.The rules of this section areillustratedbythefollowingexamples, in which it is assumed that the taxpayer does not apply thede minimisrule under paragraph (g) of this section: Example 1.Acquisition of personal property.X purchases new cash registers for use in its retail store located in leased space in a shopping mall. Assume each cash register is a unit of property as determined under §1.263(a)–3T(e) and is not a material or supply under §1.162–3T. X must capitalize under this para- graph (d)(1) the amount paid to acquire each cash reg- ister. Example 2.Acquisition of personal property that is a material or supply; coordination with §1.162–3T. X operates a fleet of aircraft. In Year 1, X acquires a stock of component parts, which it intends to use to maintain and repair its aircraft. X does not make elec- tions under §1.162–3T(d) to treat the materials and supplies as capital expenditures. In Year 2, X uses the component parts in the repair and maintenance of its aircraft. Because the parts are materials and sup- plies under §1.162–3T, X is not required to capitalize the amounts paid for the parts under this paragraph (d)(1). Rather, X must apply the rules in §1.162–3T, governing the treatment of materials and supplies, to determine the treatment of these amounts. Example 3.Acquisition of unit of personal prop- erty; coordination with §1.162–3T. X operates a rental business that rents out a variety of small indi- vidual items to customers (rental items). X maintains a supply of rental items on hand to replace worn or damaged items. X purchases a large quantity of rental items to be used in its business. Assume that each of these rental items is a unit of property under §1.263(a)–3T(e). Also assume that a portion of the rental items are materials and supplies under §1.162–3T(c)(1). Under paragraph (d)(1) of this section, X must capitalize the amounts paid for the rental items that are not materials and supplies un- der §1.162–3T(c)(1). However, X must apply the rules in §1.162–3T to determine the treatment of the rental items that are materials and supplies under §1.162–3T(c)(1). Example 4.Acquisition or production cost.X purchases and produces jigs, dies, molds, and patterns for use in the manufacture of X’s products. Assume that each of these items is a unit of property as de- termined under §1.263(a)–3T(e) and is not a material and supply under §1.162–3T(c)(1). X is required to capitalize under paragraph (d)(1) of this section the amounts paid to acquire and produce the jigs, dies, molds, and patterns. See section 263A for the costs required to be capitalized to the property acquired or produced by X. Example 5.Acquisition of land.X purchases a parcel of undeveloped real estate. X must capitalize under paragraph (d)(1) of this section the amount paid to acquire the real estate. See paragraph (f) of this section for the treatment of amounts paid to facilitate the acquisition of real property. Example 6.Acquisition of building. Xpurchases a building. X must capitalize under paragraph (d)(1) of this section the amount paid to acquire the building. See paragraph (f) of this section for the treatment of amounts paid to facilitate the acquisition of real prop- erty. Example 7.Acquisition of property for resale and production of property for sale. X purchases goods for resale and produces other goods for sale. X must capitalize under paragraph (d)(1) of this section the amounts paid to acquire and produce the goods. See section 263A for the costs required to be capitalized to the property produced or property acquired for re- sale. Example 8.Production of building. X constructs a building. X must capitalize under paragraph (d)(1) of this section the amount paid to construct the build- ing. See section 263A for the costs required to be capitalized to the real property produced by X. Example 9.Acquisition of assets constituting a trade or business.Y owns tangible and intangible assets that constitute a trade or business. X purchases all the assets of Y in a taxable transaction. X must capitalize under paragraph (d)(1) of this section the amount paid for the tangible assets of Y. See §1.263(a)–4 for the treatment of amounts paid to acquire intangibles and §1.263(a)–5 for the treatment of amounts paid to facilitate the acquisition of assets that constitute a trade or business. See section 1060 for special allocation rules for certain asset acquisi- tions. April 2, 20126612012–14 I.R.B. Example 10.Work performed prior to placing the property in service. In Year 1, X purchases a build- ing for use as a business office. Prior to placing the building in service, X incurs costs to repair cement steps, refinish wood floors, patch holes in walls, and paint the interiors and exteriors of the building. In Year 2, X places the building in service and begins using the building as its business office. Assume that the work that X performs does not constitute an im- provement to the building or its structural compo- nents under §1.263(a)–3T. Under §1.263–3T(e)(2)(i), the building and its structural components is a single unit of property. Under paragraph (d)(1) of this sec- tion, the amounts paid must be capitalized as costs of acquiring the building because they were for work performed prior to X’s placing the building in service. Example 11.Work performed prior to placing the property in service. In January Year 1, X purchases a new machine for use in an existing production line of its manufacturing business. Assume that the ma- chine is a unit of property under §1.263(a)–3T(e) and is not a material or supply under §1.162–3T. After the machine is installed, X performs a critical test on the machine to ensure that it will operate in accor- dance with quality standards. On November 1, Year 1, the critical test is complete, and X places the ma- chine in service on the production line. X performs periodic quality control testing after the machine is placed in service. Under paragraph (d)(1) of this sec- tion, the amounts paid for the installation and the crit- ical test performed before the machine is placed in service must be capitalized as costs of acquiring the machine. However, amounts paid for periodic quality control testing after X placed the machine in service are not required to be capitalized as a cost of acquir- ing the machine. (e)Defense or perfection of title to property—(1)In general.Amounts paid to defend or perfect title to real or personal property are amounts paid to acquire or produce property within the meaning of this section and must be capitalized. See section 263A for the costs required to be capitalized to property produced by the taxpayer or to property acquired for resale. (2)Examples. The following examples illustrate the rule of paragraph (e): Example 1.Amounts paid to contest condemna- tion. X owns real property located in County. County files an eminent domain complaint condemning a por- tion of X’s property to use as a roadway. X hires an attorney to contest the condemnation. The amounts that X paid to the attorney must be capitalized be- cause they were to defend X’s title to the property. Example 2.Amounts paid to invalidate or- dinance. X is in the business of quarrying and supplying for sale sand and stone in a certain munic- ipality. Several years after X establishes its business, the municipality in which it is located passes an or- dinance that prohibits the operation of X’s business. X incurs attorney’s fees in a successful prosecution of a suit to invalidate the municipal ordinance. X prosecutes the suit to preserve its business activities and not to defend X’s title in the property. Therefore, the attorney’s fees that X paid are not required to be capitalized under paragraph (e)(1) of this section. See section 263A for the rules requiring direct and allocable indirect costs (including otherwise de- ductible costs) to be capitalized to property produced or property acquired for resale. Example 3. Amounts paid to challenge building line. The board of public works of a municipality es- tablishes a building line across X’s business property, adversely affecting the value of the property. X in- curs legal fees in unsuccessfully litigating the estab- lishment of the building line. The amounts X paid to the attorney must be capitalized because they were to defend X’s title to the property. (f)Transaction costs—(1)In general. A taxpayer must capitalize amounts paid to facilitate the acquisition or production of real or personal property. See section 263A for the costs required to be capital- ized to property produced by the taxpayer or to property acquired for resale. See §1.263(a)–5 for the treatment of amounts paid to facilitate the acquisition of assets that constitute a trade or business. See §1.167(a)–5 for allocations of facilitative costs between depreciable and non-depre- ciable property. (2)Scope of facilitate—(i)In general. Except as otherwise provided in this sec- tion, an amount is paid to facilitate the ac- quisition of real or personal property if the amount is paid in the process of investigat- ing or otherwise pursuing the acquisition. Whether an amount is paid in the process of investigating or otherwise pursuing the acquisition is determined based on all of the facts and circumstances. In determin- ing whether an amount is paid to facili- tate an acquisition, the fact that the amount would (or would not) have been paid but for the acquisition is relevant but is not de- terminative. Amounts paid to facilitate an acquisition include, but are not limited to, inherently facilitative amounts specified in paragraph (f)(2)(ii) of this section. (ii)Inherently facilitative amounts.An amount is paid in the process of investigat- ing or otherwise pursuing the acquisition of real or personal property if the amount is inherently facilitative. An amount is in- herently facilitative if the amount is paid for— (A) Transporting the property (for ex- ample, shipping fees and moving costs); (B) Securing an appraisal or determin- ing the value or price of property; (C) Negotiating the terms or structure of the acquisition and obtaining tax advice on the acquisition; (D) Application fees, bidding costs, or similar expenses; (E) Preparing and reviewing the docu- ments that effectuate the acquisition of the property (for example, preparing the bid, offer, sales contract, or purchase agree- ment); (F) Examining and evaluating the title of property; (G) Obtaining regulatory approval of the acquisition or securing permits related to the acquisition, including application fees; (H) Conveying property between the parties, including sales and transfer taxes, and title registration costs; (I) Finders’ fees or brokers’ commis- sions, including amounts paid that are con- tingent on the successful closing of the ac- quisition; (J) Architectural, geological, engineer- ing, environmental, or inspection services pertaining to particular properties; or (K) Services provided by a qualified in- termediary or other facilitator of an ex- change under section 1031. (iii)Special rule for acquisitions of real property—(A)In general. Except as provided in paragraph (f)(2)(ii) of this section (relating to inherently facilitative amounts), an amount paid by the tax- payer in the process of investigating or otherwise pursuing the acquisition of real property does not facilitate the acquisition if it relates to activities performed in the process of determining whether to acquire real property and which real property to acquire. (B)Acquisitions of real and personal property in a single transaction.An amount paid by the taxpayer in the process of investigating or otherwise pursuing the acquisition of personal property fa- cilitates the acquisition of such personal property even if such property is acquired in a single transaction that also includes the acquisition of real property subject to the special rule set out in paragraph (f)(2)(iii)(A) of this section. A taxpayer may use a reasonable allocation to deter- mine which costs facilitate the acquisition of personal property and which costs re- late to the acquisition of real property and are subject to the special rule of paragraph (f)(2)(iii)(A) of this section. (iv)Employee compensation and over- head costs—(A)In general. For purposes of paragraph (f) of this section, amounts paid for employee compensation (within the meaning of §1.263(a)–4(e)(4)(ii)) and 2012–14 I.R.B.662April 2, 2012 overhead are treated as amounts that do not facilitate the acquisition of real or personal property. See section 263A, however, for the treatment of employee compensation and overhead costs required to be capital- ized to property produced by the taxpayer or to property acquired for resale. (B)Election to capitalize.Atax- payer may elect to treat amounts paid for employee compensation or overhead as amounts that facilitate the acquisition of property. The election is made sepa- rately for each acquisition and applies to employee compensation or overhead, or both. For example, a taxpayer may elect to treat overhead, but not employee com- pensation, as amounts that facilitate the acquisition of property. A taxpayer makes the election by treating the amounts to which the election applies as amounts that facilitate the acquisition in the taxpayer’s timely filed original Federal income tax return (including extensions) for the tax- able year during which the amounts are paid. In the case of an S corporation or a partnership, the election is made by the S corporation or by the partnership, and not by the shareholders or partners. A tax- payer may revoke an election made under this paragraph (f)(2)(iv)(B) with respect to each acquisition only by filing a request for a private letter ruling and obtaining the Commissioner’s consent to revoke the election. The Commissioner may grant a request to revoke this election if the tax- payer can demonstrate good cause for the revocation. An election may not be made or revoked through the filing of an appli- cation for change in accounting method or, before obtaining the Commissioner’s consent to make the late election or to revoke the election, by filing an amended Federal income tax return. (3)Treatment of transaction costs—(i) In general. All amounts paid to facili- tate the acquisition or production of real or personal property are capital expenditures. Facilitative amounts allocable to real or personal property must be included in the basis of the property acquired or produced. (ii)Treatment of inherently facilitative amounts. Inherently facilitative amounts allocable to real or personal property are capital expenditures related to such prop- erty even if the property is not eventually acquired or produced. Inherently facilita- tive amounts allocable to real or personal property not acquired may be allocated to those properties and recovered as appro- priate in accordance with the applicable provisions of the Internal Revenue Code and the regulations thereunder (for exam- ple, sections 165, 167, or 168). See para- graph (i) of this section for the recovery of capitalized amounts. (4)Examples. The following examples illustrate the rules of paragraph (f) of this section: Example 1.Broker’s fees to facilitate an acqui- sition. X decides to purchase a building in which to relocate its offices and hires a real estate broker to find a suitable building. X pays fees to the bro- ker to find property for X to acquire. Under para- graph (f)(2)(ii)(I) of this section, X must capitalize the amounts paid to the broker because these costs are inherently facilitative of the acquisition of real prop- erty. Example 2.Inspection and survey costs to facil- itate an acquisition. X decides to purchase build- ingAandpaysamountstothird-party contractors for a termite inspection and an environmental survey of building A. Under paragraph (f)(2)(ii)(J) of this sec- tion, X must capitalize the amounts paid for the in- spection and the survey of the building because these costs are inherently facilitative of the acquisition of real property. Example 3.Moving costs to facilitate an acqui- sition. X purchases all the assets of Y and, in con- nection with the purchase, hires a transportation com- pany to move storage tanks from Y’s plant to X’s plant. Under paragraph (f)(2)(ii)(A) of this section, X must capitalize the amount paid to move the stor- age tanks from Y’s plant to X’s plant because this cost is inherently facilitative to the acquisition of personal property. Example 4.Geological and geophysical costs; coordination with other provisions. X is in the busi- ness of exploring, purchasing, and developing prop- erties in the United States for the production of oil and gas. X considers acquiring a particular property but first incurs costs for theservices of an engineering firm to perform geological and geophysical studies to determine if the property is suitable for oil or gas pro- duction. Assume that the amounts that X paid to the engineering firm constitute geological and geophysi- cal expenditures under section 167(h). Although the amounts that X paid for the geological and geophys- ical services are inherently facilitative to the acqui- sition of real property under paragraph (f)(2)(ii)(J) of this section, X is not required to include those amounts in the basis of the real property acquired. Rather, under paragraph (c) of this section, X must capitalize these costs separately and amortize such costs as required under section 167(h) (addressing the amortization of geologicaland geophysical expendi- tures). Example 5.Scope of facilitate. X is in the busi- ness of providing legal services to clients. X is inter- ested in acquiring a new conference table for its of- fice. X hires and incurs fees for an interior designer to shop for, evaluate, and make recommendations to X regarding which new table to acquire. Under para- graphs (f)(1) and (2) of this section, X must capitalize the amounts paid to the interior designer to provide these services because they are paid in the process of investigating or otherwise pursuing the acquisition of personal property. Example 6.Transaction costs allocable to multi- ple properties. X, a retailer, wants to acquire land for the purpose of building a new distribution facility for its products. X considers various properties on high- way A in state B. X incurs fees for the services of an architect to advise and evaluate the suitability of the sites for the type of facility that X intends to construct on the selected site. X must capitalize the architect fees as amounts paid to acquire land because these amounts are inherently facilitative to the acquisition of land under paragraph (f)(2)(ii)(J) of this section. Example 7.Transaction costs allocable to mul- tiple properties. X, a retailer, wants to acquire land for the purpose of building a new distribution facil- ity for its products. X considers various properties on highway A in state B. X incurs fees for the services of an architect to prepare preliminary floor plans for a building that X could construct at any of the sites. Under these facts, the architect’s fees are not inher- ently facilitative to the acquisition of land under para- graph (f)(2)(iii)(J) of this section but are allocable as construction costs of the building under section 263A. Therefore, X does not capitalize the architect fees as amounts paid to acquire land but instead must capi- talize these costs as indirect costs allocable to the pro- duction of property under section 263A. Example 8.Special rule for acquisitions of real property. X owns several retail stores. X decides to examine the feasibility of opening a new store in city A. In October, Year 1, X hires and incurs costs for a development consulting firm to study city A and per- form market surveys, evaluate zoning and environ- mental requirements, and make preliminary reports and recommendations as to areas that X should con- sider for purposes of locating a new store. In Decem- ber, Year 1, X continues to consider whether to pur- chase real property in cityA and which property to acquire. X hires, and incursfees for, an appraiser to perform appraisals on two different sites to determine a fair offering price for each site. In March, Year 2, X decides to acquire one of these two sites for the location of its new store. At the same time, X deter- mines not to acquire the other site. Under paragraph (f)(2)(iii) of this section, X is not required to capi- talize amounts paid to the development consultant in Year 1 because the amounts relate to activities per- formed in the process of determining whether to ac- quire real property and which real property to acquire and the amounts are not inherently facilitative costs under paragraph (f)(2)(ii) of this section. However, X must capitalize amounts paid to the appraiser in Year 1 because the appraisal costs are inherently facilita- tive costs under paragraph (f)(2)(ii)(B) of this section. In Year 2, X must include the appraisal costs alloca- ble to property acquired in the basis of the property acquired and may recover the appraisal costs alloca- ble to the property not acquired in accordance with paragraphs (f)(3)(ii) and (i) of this section. Example 9.Employee compensation and over- head. X, a freight carrier, maintains an acquisition department whose sole function is to arrange for the purchase of vehicles and aircraft from manufacturers or other parties to be used in its freight carrying busi- ness. As provided in paragraph (f)(2)(iv)(A) of this section, X is not required to capitalize any portion of the compensation paid to employees in its acquisition department or any portion of its overhead allocable April 2, 20126632012–14 I.R.B. to its acquisition department. However, under para- graph (f)(2)(iv)(B) of this section, X may elect to cap- italize the compensation and overhead costs allocable to the acquisition of a vehicle or aircraft by treating these amounts as costs that facilitate the acquisition of that property in its timely filed original federal in- come tax return for the year the amounts are paid. (g)De minimis rule—(1)In general. Except as otherwise provided in this para- graph (g), a taxpayer is not required to capitalize under paragraph (d)(1) of this section nor treat as a material or supply under §1.162–3T(a) amounts paid for the acquisition or production (including any amounts paid to facilitate the acquisition or production) of a unit of property (as de- termined under §1.263(a)–3T(e)) or for the acquisition or production of any material or supply (as defined in §1.162–3T(c)(1)) if— (i) The taxpayer has an applicable fi- nancial statement (as defined in paragraph (g)(6) of this section); (ii) The taxpayer has at the beginning of the taxable year written accounting pro- cedures treating as an expense for non-tax purposes the amounts paid for property costing less than a certain dollar amount; (iii) The taxpayer treats the amounts paid during the taxable year as an expense on its applicable financial statement in ac- cordance with its written accounting pro- cedures; and (iv) The total aggregate of amounts paid and not capitalized underparagraph (g)(1) of this section and §1.162–3T(f) (materials and supplies) for the taxable year are less than or equal to the greater of— (A) 0.1 percent of the taxpayer’s gross receipts for the taxable year as determined for Federal income tax purposes; or (B) 2 percent of the taxpayer’s total depreciation and amortization expense for the taxable year as determined in its appli- cable financial statement. (2)Exceptions to de minimis rule.The de minimisrule in paragraph (g)(1) of this section does not apply to the following: (i) Amounts paid for property that is or is intended to be included in inventory property; and (ii) Amounts paid for land. (3)Additional rules. Property to which a taxpayer applies thede minimisrule con- tained in paragraph (g) of this section is not treated upon sale or other disposition as a capital asset under section 1221 or as prop- erty used in the trade or business under sec- tion 1231. The cost of property to which a taxpayer properly applies thede minimis rule contained in paragraph (g) of this sec- tion is not required to be capitalized under section 263A to a separate unit of property but may be required to be capitalized as a cost of other property if incurred by rea- son of the production of the other property. See, for example, §1.263A–1(e)(3)(ii)(R) requiring taxpayers to capitalize the cost of tools and equipment allocable to property produced or property acquired for resale. (4)Election to capitalize. A taxpayer may elect not to apply thede minimisrule contained in paragraph (g)(1) of this sec- tion. An election made under this para- graph (g)(4) may apply to any unit of prop- erty during the taxable year to which para- graph (g)(1) of this section would apply (but for the election under this paragraph (g)(4)). A taxpayer makes the election by capitalizing the amounts paid to acquire or produce the unit of property in the taxable year the amounts arepaid and by begin- ning to recover the costs when the unit of property is placed in service by the tax- payer for the purposes of determining de- preciation under the applicable provisions of the Internal Revenue Code and the regu- lations thereunder. A taxpayer must make this election on its timely filed original Federal income tax return (including ex- tensions) for the taxable year the unit of property is placed in service by the tax- payer for the purposes of determining de- preciation. In the case of an S corpora- tion or a partnership, the election is made by the S corporation or by the partnership, and not by the shareholders or partners. A taxpayer may revoke an election made under this paragraph (g)(4) with respect toaunitofpropertyonlybyfilingare- quest for a private letter ruling and obtain- ing the Commissioner’s consent to revoke the election. The Commissioner may grant a request to revoke this election if the tax- payer can demonstrate good cause for the revocation. An election may not be made or revoked through the filing of an appli- cation for change in accounting method or by filing an amended Federal income tax return. (5)Materials and supplies. A taxpayer must treat amounts paid to acquire or pro- duce a unit of property that is a material or supply as defined under §1.162–3T(c)(1) under §1.162–3T unless the taxpayer elects under §1.162–3T(f) to apply the de minimisrule to that property under this paragraph (g). Property to which a taxpayer applies thede minimisrule con- tained in paragraph (g) of this section is not treated as a material or supply under §1.162–3T. (6)Definition of applicable financial statement. For purposes of this section (g), the taxpayer’s applicable financial state- ment is the taxpayer’s financial statement listed in paragraphs (g)(6)(i) through (iii) of this section that has the highest prior- ity (including within paragraph (g)(6)(ii) of this section). The financial statements are, in descending priority— (i) A financial statement required to be filed with the Securities and Exchange Commission (SEC) (the 10-K or the An- nual Statement to Shareholders); (ii) A certified audited financial state- ment that is accompanied by the report of an independent CPA (or in the case of a foreign entity, by the report of a similarly qualified independent professional), that is used for— (A) Credit purposes; (B) Reporting to shareholders, partners, or similar persons; or (C) Any other substantial non-tax pur- pose; or (iii) A financial statement (other than a tax return) required to be provided to the federal or a state government or any federal or state agencies (other than the SEC or the Internal Revenue Service). (7)Application to consolidated group member. If the taxpayer is a member of a consolidated group for federal income tax purposes and the member’s financial results are reported on the applicable fi- nancial statement (as defined in paragraph (g)(6) of this section) for the consolidated group then, for purposes of paragraphs (g)(1)(ii) and (g)(1)(iii) of this section, the written accounting procedures provided for the group and utilized for the group’s applicable financial statement may be treated as the written accounting proce- dures of the member. (8)Examples. The following examples illustrate the rule of this paragraph (g): Example 1.De minimis rule.X purchases 10 printers at $200 each for a total cost of $2,000. As- sume that each printer is a unit of property under §1.263(a)–3T(e) and is not a material or supply un- der §1.162–3T. X has an applicable financial state- ment and a written policy at the beginning of the tax- able year to expense amounts paid for property cost- ing less than $500. X treats the amounts paid for the printers as an expense on its applicable financial 2012–14 I.R.B.664April 2, 2012 statement. Assume that the total aggregate amounts treated asde minimisand not capitalized by X under paragraphs (g)(1)(i), (ii), and (iii) of this section, in- cluding the amounts paid for the printers, are less than or equal to the greater of 0.1 percent of total gross re- ceipts or 2 percent of X’s total financial statement de- preciation under paragraph (g)(1)(iv) of this section. X is not required to capitalize the amounts paid for the 10 printers under paragraph (g)(1) of this section. Example 2.De minimis rule not met.X is a mem- ber of a consolidated group for federal income tax purposes. X’s financial results are reported on the consolidated applicable financial statements for the affiliated group. X’s affiliated group has a written policy at the beginning of Year 1, which is followed by X, to expense amounts paid for property costing less than $500. In Year 1, X pays $160,000 to pur- chase 400 computers at $400 each. Assume that each computer is a unit of property under §1.263(a)–3T(e), is not a material or supply under §1.162–3T, and that X intends to treat the cost of only the computers as de minimisunder paragraph (g)(1) of this section. X treats the amounts paid for the computers as an ex- pense on the applicable financial statements for the affiliated group. For its Year 1 taxable year, X has gross receipts of $125,000,000 for Federal tax pur- poses and reports $7,000,000 of it’s own depreciation and amortization expense on the affiliated group’s ap- plicable financial statement. Thus, in order to meet the criteria of paragraph (g)(1)(iv) of this section for Year 1, the total aggregate amounts paid and not cap- italized by X under paragraphs (g)(1)(i), (ii), and (iii) of this section must be less than or equal to the greater of $125,000 (0.1 percent of X’s total gross receipts of $125,000,000) or $140,000 (2 percent of X’s total de- preciation and amortization of $7,000,000). Because X pays $160,000 for the computers and this amount exceeds $140,000, the greater of the two limitations provided in paragraph (g)(1)(iv) of this section, X may not apply thede minimisrule under paragraph (g)(1) of this section to the total amounts paid for the 400 computers. Example 3.De minimis rule; election to capital- ize.Assume the same facts as inExample 2, except that X makes an election under paragraph (g)(4) of this section to capitalize $20,000, the amounts paid to acquire 50 of the 400 computers purchased in Year 1. Under these facts, the $140,000 paid by X in Year 1 for the remaining 350 computers qualifies for the de minimisrule under paragraph (g)(1) of this sec- tion because this amount is equal to 2 percent of X’s total depreciation ($140,000), the greater of the two amounts calculated under paragraph (g)(1)(iv) of this section. Accordingly, X is not required to capitalize the amounts paid to acquire the 350 computers in Year 1. Example 4. Election to apply de minimis rule to certain materials and supplies. (i) X is a corporation that provides consulting services to its customers. X has an applicable financial statement and a written policy at the beginning of the taxable year to expense amounts paid for property costing $500 or less. In Year 1, X purchases 200 computers at $500 each for a total cost of $100,000. Assume that each computer is a unit of property under §1.263(a)–3T(e) and is not a material or supply under §1.162–3T. In addition, X purchases 200 office chairs at $100 each for a total cost of $20,000 and 250 customized briefcases at $80 each for a total cost of $20,000. Assume that each office chair and each briefcase is a material or supply under §1.162–3T(c)(1). In Year 1, X also acquires 10 books at $100 each, whichare also materials and supplies under §1.162–3T(c)(1). X makes the elec- tion under §1.162–3T(f) to apply thede minimisrule to the office chairs and briefcases, but does not make that election for the booksand treats the books as ma- terials and supplies in accordance with the provisions of §1.162–3T. X treats the amounts paid for the com- puters, office chairs, and briefcases as expenses on its applicable financial statement. Assume also that for Year 1, the amounts that X paid for the computers, of- fice chairs, and briefcases are the only amounts that X intends to treat asde minimiscosts not capitalized under paragraph (g)(1) of this section. For its Year 1 taxable year, X has gross receipts of $125,000,000 and reports $7,000,000 of depreciation and amortiza- tion on its applicable financial statement. (ii) In order to meet the requirements of para- graph (g)(1)(iv) of this section for Year 1, X’s total aggregate amounts paid and not capitalized under paragraphs (g)(1)(i), (ii), and (iii) of this section must be less than or equal to the greater of $125,000 (0.1 percent of X’s total grossreceipts of$125,000,000) or $140,000 (2 percent of X’s total depreciation and amortization of $7,000,000). X pays a total of $140,000 ($100,000 + $20,000 + $20,000) for the computers, office chairs, and briefcases. X is not required to include the amounts paid for the books in this computation because X has not elected under §1.162–3T(f) to apply thede minimisrule to the books. Thus, the total aggregate amounts paid and not capitalized under paragraph (g)(1) of this section is equal to $140,000 (2 percent of X’s total financial depreciation), the greater of the two limitations set out under paragraph (g)(1)(iv) of this section. Ac- cordingly, under paragraph (g)(1) of this section, in Year 1, X may treat asde minimisand is not required to capitalize the $140,000 paid to acquire the com- puters, office chairs, and briefcases. (h)Treatment of capital expenditures. Amounts required to be capitalized un- der this section are capital expenditures and must be taken into account through a charge to capital account or basis, or in the case of property that is inventory in the hands of a taxpayer, through inclusion in inventory costs. See section 263A for the treatment of direct and certain indirect costs of producing property or acquiring property for resale. (i)Recovery of capitalized amounts—(1)In general. Amounts that are capitalized under this section are recovered through depreciation, cost of goods sold, or by an adjustment to basis at the time the property is placed in service, sold, used, or otherwise disposed of by the taxpayer. Cost recovery is determined by the applicable provisions of the Internal Revenue Code and regulations relating to the use, sale, or disposition of property. (2)Examples. The following examples illustrate the rule of paragraph (i)(1) of this section. Assume that X does not apply the de minimisrule under paragraph (g) of this section. Example 1.Recovery when property placed in service. X owns a 10-unit apartment building. The refrigerator in one of the apartments stops function- ing, and X purchases a new refrigerator to replace the old one. X pays for the acquisition, delivery, and in- stallation of the new refrigerator. Assume that the re- frigerator is the unit of property, as determined un- der §1.263(a)–3T(e), and is not a material or supply under §1.162–3T. Under paragraph (d)(1) of this sec- tion, X is required to capitalize the amounts paid for the acquisition, delivery, and installation of the refrig- erator. Under paragraph (i) of this section, the capi- talized amounts are recovered through depreciation, which begins when the refrigerator is placed in ser- vice by X. Example 2.Recoverywhenpropertyusedinthe production of property. X operates a plant where it manufactures widgets. X purchases a tractor loader to move raw materials into and around the plant for use in the manufacturing process. Assume that the tractor loader is a unit of property, as determined under §1.263(a)–3T(e), and is not a material or sup- ply under §1.162–3T. Under paragraph (d)(1) of this section, X is required to capitalize the amounts paid to acquire the tractor loader. Under paragraph (i) of this section, the capitalized amounts are recovered through depreciation,which begins when X places the tractor loader in service. However, because the tractor/loader is used in the production of property, under section 263A the cost recovery (that is, the depreciation) on the capitalized amounts must be capitalized to X’s property produced, and, conse- quently, recovered through cost of goods sold.See §1.263A–1(e)(3)(ii)(I). (j)Accounting method changes.Ex- cept as otherwise provided in this section, a change to comply with this section is a change in method of accounting to which the provisions of sections 446 and 481, and the regulations thereunder apply. A tax- payer seeking to change to a method of ac- counting permitted in this section must se- cure the consent of the Commissioner in accordance with §1.446–1(e) and follow the administrative procedures issued under §1.446–1(e)(3)(ii) for obtaining the Com- missioner’s consent to change its account- ing method. (k)Effective/applicability date. Except for paragraphs (f)(2)(iii), (f)(2)(iv),(f)(3)(ii)and (g) of this section, this section generally applies to taxable years beginning on or after January 1, 2012. Paragraphs (f)(2)(iii), (f)(2)(iv), (f)(3)(ii), and (g) of this section apply to amounts paid or incurred (to acquire or produce property) in taxable years be- ginning on or after January 1, 2012. For the applicability of regulations to taxable years beginning before January 1, 2012, April 2, 20126652012–14 I.R.B. see §1.263(a)–2 in effect prior to January 1, 2012 (§1.263(a)–2 as contained in 26 CFR part 1 edition revised as of April 1, 2011). (l)Expiration Date. The applicability of this section expires on December 23, 2014. Par. 29. Section 1.263(a)–3 is revised to read as follows: §1.263(a)–3 Amounts paid to improve tangible property. (a) and (b) [Reserved]. For further guidance, see §1.263(a)–3T(a) and (b). (c)through(q)[Reserved].Forfurther guidance, see §§1.263(a)–3T(c) through (q). Par. 30. Section 1.263(a)–3T is added to read as follows: §1.263(a)–3T Amounts paid to improve tangible property (temporary). (a)Overview. This section provides rules for applying section 263(a) to amounts paid to improve tangible prop- erty. Paragraph (b) of this section provides definitions. Paragraph (c) of this sec- tion provides rules for coordinating this section with other provisions of the In- ternal Revenue Code. Paragraph (d) of this section provides the requirement to capitalize amounts paid to improve tan- gible property and provides the general rules for determining whether a unit of property is improved. Paragraph (e) of this section provides the rules for deter- mining the appropriate unit of property. Paragraph (f) of this section provides spe- cial rules for determining improvement costs in particular contexts. Paragraph (g) provides a safe harbor for routine mainte- nance costs. Paragraph (h) of this section provides rules for determining whether amounts paid result in betterments to the unit of property. Paragraph (i) of this section provides rules for determining whether amounts paid restore the unit of property. Paragraph(j) of this section provides rules for amounts paid to adapt the unit of property to a new or different use. Paragraph (k) of this section provides an optional regulatory accounting method. Paragraph (l) of this section provides for a repair allowance or other methods of ac- counting identified in published guidance. Paragraphs (m) through (o) of this section provide additional rules related to these provisions. Paragraphs (p) and (q) of this section provides the effective/applicability and expiration dates for the rules in this section. (b)Definitions.For purposes of this section, the following definitions apply: (1)Amount paid. In the case of a tax- payer using an accrual method of account- ing, the termsamounts paidandpayment mean a liability incurred (within the mean- ing of §1.446–1(c)(1)(ii)). A liability may not be taken into account under this section prior to the taxable year during which the liability is incurred. (2)Personal propertymeans tangible personal property as defined in §1.48–1(c). (3)Real propertymeans land and im- provements thereto, such as buildings or other inherently permanent structures (in- cluding items that are structural compo- nents of the buildings or structures) that are not personal property as defined in para- graph (b)(2) of this section. Any property that constitutes other tangible property un- der §1.48–1(d) is also treated as real prop- erty for purposes of this section. Local law is not controlling in determining whether property is real property for purposes of this section. (4)Ownermeans the taxpayer that has the benefits and burdens of ownership of the unit of property for Federal income tax purposes. (c)Coordination with other provisions of the Internal Revenue Code—(1)In gen- eral. Nothing in this section changes the treatment of any amount that is specifi- cally provided for under any provision of the Internal Revenue Code or the regula- tions other than section 162(a) or section 212 and the regulations under those sec- tions. For example, see section 263A re- quiring taxpayers to capitalize the direct and indirect costs of producing property or acquiring property for resale. (2)Materials and supplies.Amaterial or supply as defined in §1.162–3T(c)(1) that is acquired and used to improve a unit of tangible property is subject to this sec- tion and is not treated as a material or sup- ply under §1.162–3T. (3)Exception for amounts subject to de minimis rule. A taxpayer is not required to capitalize amounts paid to acquire or pro- duce units of property used in improve- ments under paragraph (d) of this section (including materials and supplies used in improvements) if these amounts are prop- erly deducted under thede minimisrule of section §1.263(a)–2(g). (3)Example.The following example illustrates the rules of this paragraph (c): Example.Railroad rolling stock.X is a railroad that properly treats amounts paid for the rehabilitation of railroad rolling stock as deductible expenses un- der section 263(d). X is not required to capitalize the amounts paid because nothing in this section changes the treatment of amounts specifically provided for un- der section 263(d). (d)Requirement to capitalize amounts paid for improvements. Except as pro- vided in the optional regulatory account- ing method in paragraph (k) of this section or under any other accounting method pub- lished in accordance with paragraph (l) of this section, a taxpayer generally must cap- italize the aggregate of related amounts (as defined in paragraph (f)(4) of this section) paid to improve a unit of property owned by the taxpayer. However, see paragraph (f)(1) of this section for the treatment of amounts paid to improve leased property. See section 263A for the costs required to be capitalized to property produced by the taxpayer or to property acquired for re- sale; section 1016 for adding capitalized amounts to the basis of the unit of prop- erty; and section 168 for the treatment of additions or improvements for deprecia- tion purposes. For purposes of this sec- tion, a unit of property is improved if the amounts paid for activities performed after the property is placed in service by the tax- payer— (1) Result in a betterment to the unit of property (see paragraph (h) of this sec- tion); (2) Restore the unit of property (see paragraph (i) of this section); or (3) Adapt the unit of property to a new or different use (see paragraph (j) of this section). (e)Determining the unit of prop- erty—(1)In general. The unit of prop- erty rules in this paragraph (e) apply only for purposes of section 263(a) and §§1.263(a)–1T, 1.263(a)–2T, 1.263(a)–3T, and 1.162–3T. Unless otherwise specified, the unit of property determination is based upon the functional interdependence stan- dard provided in paragraph (e)(3)(i) of this section. However, special rules are pro- vided for buildings (see paragraph (e)(2) of this section), plant property (see paragraph (e)(3)(ii) of this section), network assets (see paragraph (e)(3)(iii) of this section), 2012–14 I.R.B.666April 2, 2012 leased property (see paragraph (e)(2)(v) of this section for leased buildings and paragraph (e)(3)(iv) of this section for leased property other than buildings), and improvements to property (see paragraph (e)(4) of this section). Additional rules are provided if a taxpayer has assigned different MACRS classes or depreciation methods to components of property or subsequently changes the class or depreci- ation method of a component or other item of property (see paragraph (e)(5) of this section). Property that is aggregated or subject to a general asset account election or accounted for in a multiple asset ac- count (that is, pooled) may not be treated asasingleunitofproperty. (2)Building—(i)In general.Ex- cept as otherwise provided in paragraphs (e)(4), (e)(5)(ii), and (f)(1)(ii)(B) of this section, in the case of a building (as de- fined in §1.48–1(e)(1)), each building and its structural components (as defined in §1.48–1(e)(2)) is a single unit of property (“building”). (ii)Application of improvement rules to a building. An amount is paid for an improvement to a building under para- graphs (d) and (f)(1)(iii) of this section if the amount paid results in an improvement under paragraph (h), (i), or (j) of this sec- tion to any of the following: (A)Building structure.A building structure consists of the building (as de- fined in §1.48–1(e)(1)), and its structural components (as defined in §1.48–1(e)(2)), other than the structural components des- ignated as buildings systems in paragraph (e)(2)(ii)(B) of this section. (B)Building system.Each of the fol- lowing structural components (as defined in §1.48–1(e)(2)), including the com- ponents thereof, constitutes a building system that is separate from the building structure, and to which the improvement rules must be applied— (1) Heating, ventilation, and air con- ditioning (“HVAC”) systems (including motors, compressors, boilers, furnace, chillers, pipes, ducts, radiators); (2) Plumbing systems (including pipes, drains, valves, sinks, bathtubs, toilets, wa- ter and sanitary sewer collection equip- ment, and site utility equipment used to distribute water and waste to and from the property line and between buildings and other permanent structures); (3) Electrical systems (including wiring, outlets, junction boxes, lighting fixtures and associated connectors, and site utility equipment used to distrib- ute electricity from property line to and between buildings and other permanent structures); (4) All escalators; (5) All elevators; (6) Fire-protection and alarm systems (including sensing devices, computer con- trols, sprinkler heads, sprinkler mains, as- sociated piping or plumbing, pumps, vi- sual and audible alarms, alarm control pan- els, heat and smoke detection devices, fire escapes, fire doors, emergency exit light- ing and signage, and fire fighting equip- ment, such as extinguishers, hoses); (7) Security systems for the protection of the building and its occupants (includ- ing window and door locks, security cam- eras, recorders, monitors, motion detec- tors, security lighting, alarm systems, en- try and access systems, related junction boxes, associated wiring and conduit); (8) Gas distribution system (including associated pipes and equipment used to distribute gas to and from property line and between buildings or permanent struc- tures); and (9) Other structural components iden- tified in published guidance in theFed- eral Registeror in the Internal Revenue Bulletin (see §601.601(d)(2)(ii)(b)ofthis chapter) that are excepted from the build- ing structure under paragraph (e)(2)(ii)(A) of this section and are specifically desig- nated as building systems under this sec- tion. (iii)Condominium—(A)In general.In the case of a taxpayer that is the owner of an individual unit in a building with multiple units (such as a condominium), the unit of property is the individual unit owned by the taxpayer and the structural components (as defined in §1.48–1(e)(2)) that are part of the unit (condominium). (B)Application of improvement rules to a condominium.Anamountispaid for an improvement to a condominium un- derparagraph(d)ofthissectionifthe amount paid results in an improvement un- der paragraph (h), (i), or (j) of this sec- tion to the building structure (as defined in paragraph (e)(2)(ii)(A) of this section) that is part of the condominium or to the portion of any building system (as defined in paragraph (e)(2)(ii)(B) of this section) that is part of the condominium. In the case of the condominium management as- sociation, the association must apply the improvement rules to the building struc- ture or to any building system as deter- mined under paragraphs (e)(2)(ii)(A) and (e)(2)(ii)(B) of this section. (iv)Cooperative—(A)In general.In the case of a taxpayer that has an owner- ship interest in a cooperative housing cor- poration, the unit of property is the portion of the building in which the taxpayer has possessory rights and the structural com- ponents (as defined in §1.48–1(e)(2)) that are part of the portion of the building sub- ject to the taxpayer’s possessory rights (co- operative). (B)Application of improvement rules to a cooperative. Anamountispaidfor an improvement to a cooperative under paragraph (d) of this section if the amount paid results in an improvement under para- graph (h), (i), or (j) of this section to the portion of the building structure (as de- fined in paragraph (e)(2)(ii)(A) of this sec- tion) in which the taxpayer has possessory rights or to the portion of any building sys- tem (as defined in paragraph (e)(2)(ii)(B) of this section) that is part of the por- tion of the building structure subject to the taxpayer’s possessory rights. In the case of a cooperative housing corporation, the corporation must apply the improve- ment rules to the building structure or to any building system as determined under paragraphs (e)(2)(ii)(A) and (e)(2)(ii)(B) of this section. (v)Leased building—(A)In general.In the case of a taxpayer that is a lessee of all or a portion of a building (such as an office, floor, or certain square footage), the unit of property is each building and its structural components or the portion of each building subject to the lease and the structural com- ponents associated with the leased portion. (B)Application of improvement rules to aleasedbuilding. An amount is paid for an improvement to a leased building or a leased portion of a building under para- graphs (d) and (f)(1)(ii) of this section if the amount paid results in an improvement under paragraph (h), (i), or (j) of this sec- tion to any of the following: (1)Entire building.In the case of a tax- payer that is a lessee of an entire build- ing, the building structure (as defined un- der paragraph (e)(2)(ii)(A) of this section) or any building system (as defined under April 2, 20126672012–14 I.R.B. paragraph (e)(2)(ii)(B) of this section) to which the expenditure relates. (2)Portion of a building. In the case of a taxpayer that is a lessee of a portion of a building (such as an office, floor, or certain square footage), the portion of the build- ing structure (as defined under paragraph (e)(2)(ii)(A) of this section) subject to the lease or the portion of any building system (as defined under paragraph (e)(2)(ii)(B) of this section) associated with that portion of the leased building structure. (3)Property other than building—(i) In general. Except as otherwise provided in paragraphs (e)(3), (e)(4), (e)(5), and (f)(1) of this section, in the case of real or personal property other than property described in paragraph (e)(2) of this sec- tion, all the components that are function- ally interdependent comprise a single unit of property. Components of property are functionally interdependent if the placing in service of one component by the tax- payer is dependent on the placing in ser- vice of the other component by the tax- payer. (ii)Plant property—(A)Definition. For purposes of this paragraph (e) of this section, the termplant propertymeans functionally interdependent machinery or equipment, other than network assets, used to perform an industrial process, such as manufacturing, generation, warehousing, distribution, automated materials handling in service industries, or other similar ac- tivities. (B)Unit of property for plant property. In the case of plant property, the unit of property determined under the general rule of paragraph (e)(3)(i) of this section is fur- ther divided into smaller units comprised of each component (or group of compo- nents) that performs a discrete and major function or operation within the function- ally interdependent machinery or equip- ment. (iii)Network assets—(A)Definition. For purposes of this paragraph (e), the termnetwork assetsmeans railroad track, oil and gas pipelines, water and sewage pipelines, power transmission and distri- bution lines, and telephone and cable lines that are owned or leased by taxpayers in each of those respective industries. The term includes, for example, trunk and feeder lines, pole lines, and buried conduit. It does not include property that would be included as building structure or building systems under paragraphs (e)(2)(ii)(A) and (e)(2)(ii)(B) of this section, nor does it include separate property that is adjacent to, but not part of a network asset, such as bridges, culverts, or tunnels. (B)Unit of property for network as- sets.In the case of network assets, the unit of property is determined by the taxpayer’s particular facts and circum- stances except as otherwise provided in published guidance in theFederal Reg- isteror in the Internal Revenue Bulletin (see §601.601(d)(2)(ii)(b)ofthischapter). For these purposes, the functional interde- pendence standard provided in paragraph (e)(3)(i) of this section is not determina- tive. (iv)Leased property other than build- ings. In the case of a taxpayer that is a lessee of real or personal property other than property described in paragraph (e)(2) of this section, the unit of property for the leased property is determined under para- graphs (e)(3)(i),(ii), (iii), and (e)(5) of this section except that, after applying the ap- plicable rules under those paragraphs, the unit of property may not be larger than the unit of leased property. (4)Improvements to property.Anim- provement to a unit of property, other than a lessee improvement as determined un- der paragraph (f)(1)(ii) of this section, is not a unit of property separate from the unit of property improved. For the unit of property for lessee improvements, see paragraph (f)(1)(ii)(B) of this section. (5)Additional rules—(i)Year placed in service. Notwithstanding the unit of prop- erty determination under paragraph (e)(3) of this section, a component (or a group of components) of a unit property must be treated as a separate unit of property if, at the time the unit of property is ini- tially placed in service by the taxpayer, the taxpayer has properly treated the com- ponent as being within a different class of property under section 168(e) (MACRS classes) than the class of the unit of prop- erty of which the component is a part, or the taxpayer has properly depreciated the component using a different depreciation method than the depreciation method of the unit of property of which the compo- nent is a part. (ii)Change in subsequent taxable year. Notwithstanding the unit of property deter- mination under paragraphs (e)(2), (3), (4), or (5)(i) of this section, in any taxable year after the unit of property is initially placed in service by the taxpayer, if the taxpayer or the Internal Revenue Service changes the treatment of that property (or any por- tion thereof) to a proper MACRS class or a proper depreciation method (for example, as a result of a cost segregation study or a change in the use of the property), then the taxpayer must change the unit of property determination for that property (or the por- tion thereof) under this section to be con- sistent with the change in treatment for de- preciation purposes. Thus, for example, if a portion of a unit of property is prop- erly reclassified to a MACRS class differ- ent from the MACRS class of the unit of property of which it was previously treated as a part, then the reclassified portion of the property shouldbe treated as a sepa- rate unit of property for purposes of this section. (6)Examples.The rules of this para- graph (e) are illustrated by the following examples, in which it is assumed that the taxpayer has not made a general asset account election with regard to property or accounted for property in a multiple asset account. In addition, unless the facts specifically indicate otherwise, assume that the additional rules in paragraph (e)(5) of this section do not apply: Example 1.Building systems. X owns an office building that contains a HVAC system. The HVAC system incorporates ten roof-mounted units that ser- vice different parts of the building. The roof-mounted units are not connected and have separate controls and duct work that distribute the heated or cooled air to different spaces in the building’s interior. X pays an amount for labor and materials for work performed on the roof-mounted units. Under paragraph (e)(2)(i) of this section, X must treat the building and its struc- tural components as a single unit of property. As pro- vided under paragraph (e)(2)(ii) of this section, an amount is paid for an improvement to a building if it results in an improvement to the building structure or any designated building system. Under paragraph (e)(2)(ii)(B)(1) of this section, the entire HVAC sys- tem, including all of the roof-mounted units and their components, comprise a building system. Therefore, under paragraph (e)(2)(ii) of this section, if an amount paid by X for work on the roof-mounted units results in an improvement (for example, a betterment) to the HVAC system, X must treat this amount as an im- provement to the building. Example 2.Building systems. X owns a building that it uses in its retail business. The building con- tains two elevator banks in different locations in its building. Each elevator bank contains three eleva- tors. X pays an amount for labor and materials for work performed on the elevators. Under paragraph (e)(2)(i) of this section, X must treat the building and its structural components as a single unit of property. As provided under paragraph (e)(2)(ii) of this section, 2012–14 I.R.B.668April 2, 2012 an amount is paid for an improvement to a building if it results in an improvement to the building structure or any designated building system. Under paragraph (e)(2)(ii)(B)(5) of this section, all of the elevators, including all their components, comprise a building system. Therefore, under paragraph (e)(2)(ii) of this section, if an amount paid by X for work on the ele- vators results in an improvement (for example, a bet- terment) to the entire elevator system, X must treat these amounts as an improvement to the building. Example 3.Building structure and systems; con- dominium. X owns a condominium unit in a condo- minium office building. X uses the condominium unit in its business of providing medical services. The condominium unit contains two restrooms, each of which contains a sink, a toilet, water and drainage pipes and bathroom fixtures. X pays an amount for labor and materials to perform work on the pipes, sinks, toilets, and plumbing fixtures that are part of the condominium unit. Under paragraph (e)(2)(iii) of this section, X must treat the individual unit that it owns, including the structural components that are part of that unit, as a single unit of property. As pro- vided under paragraph (e)(2)(iii)(B) of this section, an amount is paid for an improvement to the condo- minium if it results in an improvement to the build- ing structure that is part of the unit or to a portion of any designated building system that is part of the unit. Under paragraph (e)(2)(ii)(B)(2)ofthissection, the pipes, sinks, toilets, and plumbing fixtures that are part of X’s unit comprise the plumbing system for the condominium unit. Therefore, under paragraph (e)(2)(iii) of this section, if an amount paid by X for work on pipes, sinks, toilets, and plumbing fixtures results in an improvement (for example, a betterment) to the portion of the plumbing system that is part of X’s condominium unit, X must treat this amount as an improvement to the condominium. Example 4.Building structure and systems; prop- erty other than buildings. X, a manufacturer, owns a building adjacent to its manufacturing facility that contains office space and related facilities for X’s em- ployees that manage and administer X’s manufactur- ing operations. The office building contains equip- ment, such as desks, chairs, computers, telephones, and bookshelves that are not building structure or building systems. X pays an amount to add an exten- sion to the office building. Under paragraph (e)(2)(i) of this section, X must treat the building and its struc- tural components as a single unit of property. As pro- vided under paragraph (e)(2)(ii) of this section, an amount is paid for an improvement to a building if it results in an improvement to the building structure or any designated building system. Therefore, un- der paragraph (e)(2)(ii) of this section, if an amount paid by X for the addition of an extension to the of- fice building results in an improvement (for exam- ple, a betterment) to the building structure, X must treat this amount as an improvement to the building. In addition, because the equipment contained within the office building constitutes property other than the building, the units of property for the office equip- ment are initially determined under the general rule in paragraph (e)(3)(i) of this section and are comprised of the groups of components that are functionally in- terdependent. Example 5. Plant property; discrete and major function. X is an electric utility company that oper- ates a power plant to generate electricity. The power plant includes a structure that is not a building un- der §1.48–1(e)(1), four pulverizers that grind coal, one boiler that produces steam, one turbine that con- verts the steam into mechanical energy, and one gen- erator that converts mechanical energy into electrical energy. In addition, the turbine contains a series of blades that cause the turbine to rotate when affected by the steam. Because the plant is composed of real and personal tangible property other than a building, the unit of property for the generating equipment is initially determined under the general rule in para- graph (e)(3)(i) of this section and is comprised of all the components that are functionally interdependent. Under this rule, the initial unit of property is the entire plant because the components of the plant are func- tionally interdependent. However, because the power plant is plant property under paragraph (e)(3)(ii) of this section, the initial unit of property is further di- vided into smaller units of property by determining the components (or groups of components) that per- form discrete and major functions within the plant. Under this paragraph, X must treat the structure, the boiler, the turbine, and the generator each as a sepa- rate unit of property, and each of the four pulverizers as a separate unit of property because each of these components performs a discrete and major function within the power plant. X is not required to treat com- ponents, such as the turbine blades, as separate units of property because each of these components does not perform a discrete and major function within the plant. Example 6.Plant property; discrete and major function. X is engaged in a uniform and linen rental business. X owns and operates a plant that utilizes many different machines and equipment in an assem- bly line-like process to treat, launder, and prepare rental items for its customers. X utilizes two laun- dering lines in its plant, each of which can operate independently. One line is used for uniforms and another line is used for linens. Both lines incorpo- rate several sorters, boilers, washers, dryers, ironers, folders, and waste water treatment systems. Because the laundering equipment contained within the plant is property other than a building, the unit of prop- erty for the laundering equipment is initially deter- mined under the general rule in paragraph (e)(3)(i) of this section and is comprised of all the compo- nents that are functionally interdependent. Under this rule, the initial units of property are each laundering line because each line is functionally independent and is comprised of components that are functionally in- terdependent. However, because each line is com- prised of plant property under paragraph (e)(3)(ii) of this section, X must further divide these initial units of property into smaller units of property by deter- mining the components (or groups of components) that perform discrete and major functions within the line. Under paragraph (e)(3)(ii) of this section, X must treat each sorter, boiler, washer, dryer, ironer, folder, and waste water treatment system in each line as a separate unit of property because each of these components performs a discrete and major function within the line. Example 7.Plant property; industrial process.X operates a restaurant that prepares and serves food to retail customers. Within its restaurant, X has a large piece of equipment that uses an assembly line-like process to prepare and cook tortillas that X serves to its customers. Because the tortilla-making equipment is property other than a building, the unit of prop- erty for the equipment is initially determined under the general rule in paragraph (e)(3)(i) of this section and is comprised of all the components that are func- tionally interdependent. Under this rule, the initial unit of property is the entire tortilla-making equip- ment because the various components of the equip- ment are functionally interdependent. The equipment is not plant property under paragraph (e)(3)(ii) of this section because the equipment is not used in an in- dustrial process, as it performs a small-scale function in X’s retail restaurant operations. Thus, X is not re- quired to further divide the equipment into separate units of property based on the components that per- form discrete and major functions. Example 8.Personal property.X owns locomo- tives that it uses in its railroad business. Each loco- motive consists of various components, such as an engine, generators, batteries and trucks. X acquired a locomotive with all its components and treated all the components of the locomotive as being within the same class of property under section 168(e) and depreciated all the components using the same de- preciation method. Because X’s locomotive is prop- erty other than a building, the initial unit of prop- erty is determined under the general rule in paragraph (e)(3)(i) of this section and is comprised of the com- ponents that are functionally interdependent. Under paragraph (e)(3)(i) of this section, the locomotive is a single unit of property because it consists entirely of components that are functionally interdependent. Example 9.Personal property. X provides legal services to its clients. X purchased a laptop com- puter and a printer for its employees to use in pro- viding legal services. When X placed the computer and printer into service, X treated the computer and printer and all their components as being within the same class of property under section 168(e) and de- preciated all the components using the same depre- ciation method. Because the computer and printer are property other than a building, the initial units of property are determined under the general rule in paragraph (e)(3)(i) of this section and are comprised of the components that are functionally interdepen- dent. Under paragraph (e)(3)(i) of this section, the computer and the printer are separate units of prop- erty because the computer and the printer are not components that are functionally interdependent (that is, the placing in service of the computer is not depen- dent on the placing in service of the printer). Example 10.Building structure and systems; leased building. X is a retailer of consumer products. X conducts its retail sales in a building that it leases from Y. The leased building consists of the building structure (including the floor, walls, and a roof) and various building systems, including a plumbing sys- tem, an electrical system, a HVAC system, a security system, and a fire protection and prevention system. X pays an amount for labor and materials to perform work on the HVAC system of the leased building. Under paragraph (e)(2)(v)(A) of this section, be- cause X leases the entire building, X must treat the leased building and its structural components as a single unit of property. As provided under paragraph (e)(2)(v)(B) of this section, an amount is paid for an improvement to a leased building if it results in an im- provement (for example, a betterment) to the leased building structure or to any building system within the leased building. Therefore, under paragraphs April 2, 20126692012–14 I.R.B. (e)(2)(v)(B)(1) and (e)(2)(ii)(B)(1) of this section, if anamountpaidbyXforworkontheHVACsystem results in an improvement to the heating and air conditioning system in the leased building, X must treat this amount as an improvement to the entire leased building. Example 11.Production of real property related to leased property. Assume the same facts as in Example 10, except that X receives a construction allowance from Y and X uses the construction al- lowance to build a driveway adjacent to the leased building. Assume that under the terms of the lease, X, the lessee, is treated as the owner of any property that it constructs on or nearby the leased building. Also assume that section 110 does not apply to the construction allowance. Finally, assume that the driveway is not plant property or a network asset. Because the construction of the driveway consists of the production of real property other than a building, all the components of the driveway that are function- ally interdependent are a single unit of property under paragraphs (e)(3)(i) and (e)(3)(iv) of this section. Example 12.Leasehold improvements; construc- tion allowance used for lessor-owned improvements. AssumethesamefactsasExample 11, except that under the terms of the lease Y, the lessor, is treated as the owner of any property constructed on the leased premises. Because Y, the lessor, is the owner of the driveway and the driveway isreal property other than a building, all the components of the driveway that are functionally interdependent are a single unit of property under paragraph (e)(3)(i) of this section. Example 13.Buildings and structural compo- nents; leased office space. X provides consulting services to its clients. X conducts its consulting ser- vices business in two office spaces in the same build- ing, each of which it leases from Y under separate lease agreements. Each office space contains a sepa- rate HVAC unit, which is part of the leased property. Both lease agreements provide that X is responsible for maintaining, repairing, and replacing the HVAC conditioning system that is part of the leased prop- erty. X pays amounts to perform work on the HVAC units in each office space. Because X leases two sep- arate office spaces subject to two leases, X must treat the portion of the building structure and the structural components subject to each lease as a separate unit of property under paragraph (e)(2)(v)(A) of this section. As provided under paragraph (e)(2)(v)(B) of this sec- tion, an amount is paid for an improvement to a leased unit of property, if it results in an improvement to the leased portion of the building structure or the associ- ated portion of any designated building system sub- ject to each lease. Under paragraphs (e)(2)(v)(B)(1) and (e)(2)(ii)(B)(1) of this section, X must treat the HVAC unit associated with one leased office space as a building system of that leased space and the HVAC unit associated with the second leased office space as a building system of that second leased space. Thus, under paragraph (e)(2)(v)(B) of this section, if the amount paid by X for work on the HVAC unit in one leased space results in an improvement (for example, a betterment) to the HVAC system that is part of that one leased space, then X must treat the amount as an improvement to that one unit of leased property. Example 14.Leased property; personal property. X is engaged in the business of transporting passen- gers on private jet aircraft. To conduct its business, X leases several aircraft from Y. Assume that each air- craft is not plant property or a network asset. Under paragraph (e)(3)(iv) of this section (referencing para- graph (e)(3)(i) of this section), X must treat all of the components of each leased aircraft that are function- ally interdependent as a single unit of property. Thus, X must treat each leased aircraft as a single unit of property. Example 15.Improvement property.(i)Xisare- tailer of consumer products. In Year 1, X purchases a building from Y, which X intends to use as a re- tail sales facility. Under paragraph (e)(2)(i) of this section, X must treat the building and its structural components as a single unit of property. As provided under paragraph (e)(2)(ii) of this section, an amount is paid for an improvement to a building if it results in an improvement to the building structure or any des- ignated building system. (ii) In Year 2, X pays an amount to construct an extension to the building to be used for additional warehouse space. Assume that the extension involves the addition of walls, floors, roof, and doors, but does not include the addition or extension of any building systems described in paragraph (e)(2)(ii)(B) of this section. Also assume that the amount paid to build the extension results in a betterment to the building structure under paragraph (h) of this section, and is therefore treated as an amount paid for an improve- ment to the entire building under paragraph (e)(2)(ii) of this section. Accordingly, X capitalizes the amount paid as an improvement to the building under para- graph (d) of this section. Under paragraph (e)(4) of this section, the extension is not a unit of property separate from the building, the unit of property im- proved. Thus, to determine whether any future ex- penditure constitutes an improvement to the building under paragraph (e)(2)(ii), X must determine whether the expenditure constitutes an improvement to the building structure, including the building extension, or any of the designated building systems. Example 16.Personal property; additional rules. X is engaged in the business of transporting freight throughout the United States. To conduct its business, X owns a fleet of truck tractors and trailers. Each trac- tor and trailer is comprised of various components, including tires. X purchased a truck tractor with all of its components, including tires. The tractor tires have an average useful life to X of more than one year. At the time X placed the tractor in service, it treated the tractor tires as a separate asset for depreci- ation purposes under section 168. X properly treated the tractor (excluding the cost of the tires) as 3-year property and the tractor tires as 5-year property under section 168(e). Because X’s tractor is property other than a building, the initial units of property for the tractor are determined under the general rule in para- graph (e)(3)(i) of this section, and are comprised of all the components that are functionally interdependent. Under this rule, X must treat the tractor, including its tires, as a single unit of property because the tractor and the tires are functionally interdependent (that is, the placing in service of the tires is dependent upon the placing in service of the tractor). However, under paragraph (e)(5)(i) of this section, X must treat the tractor and tires as separate units of property because X properly treated the tires as being within a different class of property under section 168(e). Example 17. Additional rules; change in subse- quent year. X is engaged in the business of leasing nonresidential real property to retailers. In Year 1, X acquired and placed in service a building for use in its retail leasing operation. In Year 5, in order to accommodate the needs of a new lessee, X incurred costs to improve the building structure. X capital- ized the costs of the improvement under paragraph (d) of this section and depreciated the improvement in accordance with section 168(i)(6) as nonresiden- tial real property under section 168(e). In Year 7, X determined that the structural improvement made in Year 5 qualified under section 168(e)(8) as qualified retail improvement property and, therefore, is 15-year property under section 168(e). In Year 7, X changed its method of accounting to use a 15-year recovery pe- riod for the improvement. Under the additional rule of paragraph (e)(5)(ii) of this section, in Year 7, X must treat the improvement as a unit of property sep- arate from the building. Example 18.Additional rules; change in sub- sequent year. In Year 1, X acquired and placed in service a building and parking lot for use in its re- tail operations. Under §1.263(a)–2T of the regula- tions, X capitalized the cost of the building and the parking lot and began depreciating the building and the parking lot as nonresidential real property under section 168(e). In Year 3, X completed a cost seg- regation study under which it properly determined that the parking lot qualifies as 15-year property un- der section 168(e). In Year 3, X changed its method of accounting to use a 15-year recovery period and the 150-percent declining balance method of depre- ciation for the parking lot. Under the additional rule of paragraph (e)(5)(ii) of this section, in Year 3, X must treat the parking lot as a unit of property sepa- rate from the building. Example 19.Additional rules; change in sub- sequent year. In Year 1, X acquired and placed in service a building for use in its manufacturing busi- ness. X capitalized the costs allocable to the build- ing’s wiring separately from the building and depre- ciated the wiring as 7-year property under section 168(e). X capitalized the cost of the building and all other structural components of the building and began depreciating them as nonresidential real prop- erty under section 168(e). In Year 3, X completed a cost segregation study under which it properly de- termined that the wiring is a structural component of the building and, therefore, should have been depre- ciated as nonresidential real property. In Year 3, X changed its method of accounting to treat the wiring as nonresidential real property. Under the additional rule of paragraph (e)(5)(ii) of this section, in Year 3, X must change the unit of property for the wiring in a manner that is consistent with the change in treat- ment for depreciation purposes. Therefore, X must change the unit of property for the wiring to treat it as a structural component of the building, and as part of the building unit of property, in accordance with paragraph (e)(2)(i) of this section. (f)Special rules for determining im- provement costs—(1)Improvements to leased property—(i)In general.This paragraph (f)(1) provides the exclusive rules for determining whether amounts paid by a taxpayer are for the improve- ment to a unit of leased property and must be capitalized. In the case of a leased building or a leased portion of a building, 2012–14 I.R.B.670April 2, 2012 an amount results in an improvement to a unit of leased property if it results in an improvement to any of the properties des- ignated under paragraph (e)(2)(ii) of this section (for lessor improvements) or under paragraph (e)(2)(v)(B) of this section (for lessee improvements except as provided in paragraph (f)(ii)(B) of this section). Sec- tion 1.263(a)–4 of the regulations does not apply to amounts paid for improvements to units of leased property or to amounts paid for the acquisition or production of leasehold improvement property. (ii)Lessee improvements—(A)Re- quirement to capitalize. A taxpayer lessee must capitalize the aggregate of related amounts that it pays to improve (as de- fined under paragraph (d) of this section) a unit of leased property except to the extent that section 110 applies to a construction allowance received by the lessee for the purpose of such improvement or where the improvement constitutes a substitute for rent. See §1.61–8(c) for the treatment of lessee expenditures that constitute a substitute for rent. A taxpayer lessee must also capitalize the aggregate of related amounts that a lessor pays to improve (as defined under paragraph (d) of this sec- tion) a unit of leased property if the lessee is the owner of the improvement except to the extent that section 110 applies to a con- struction allowance received by the lessee for the purpose of such improvement. An amount paid for a lessee improvement un- der this paragraph (f)(1)(ii)(A) is treated as an amount paid to acquire or produce a unit of real or personal property under §1.263(a)–2T(d)(1) of the regulations. See paragraph (e)(2)(v) of this section for the unit of property for a leased building and paragraph (e)(3)(iv) of this section for the unit of property for leased real or personal property other than a building. (B)Unit of property for lessee im- provements. An amount capitalized as a lessee improvement under paragraph (f)(1)(ii)(A) of this section comprises a unit of property separate from the leased property being improved. However, an amount that a lessee pays to improve (as defined under paragraph (d) of this section) a lessee improvement under para- graph (f)(1)(ii)(A) is not a unit of property separate from such lessee improvement. (iii)Lessor improvements—(A)Re- quirement to capitalize. A taxpayer lessor must capitalize the aggregate of related amounts that it pays directly, or indirectly through a construction allowance to the lessee, to improve (as defined in paragraph (d) of this section) a unit of leased prop- erty where the lessor is the owner of the improvement or to the extent that section 110 applies to the construction allowance. A lessor must also capitalize the aggregate of related amounts that the lessee pays to improve a unit of property (as defined in paragraph (e) of this section) where the lessee’s improvement constitutes a substi- tute for rent. See §1.61–8(c) for treatment of expenditures by lessees that constitute a substitute for rent. Amounts capital- ized by the lessor under this paragraph (f)(1)(iii)(A) may notbe capitalized by the lessee. See paragraphs (e)(2) of this sec- tion for the unit of property for a building and paragraph (e)(3) of this section for the unit of property for real or personal property other than a building. (B)Unit of property for lessor im- provements. An amount capitalized as a lessor improvement under paragraph (f)(1)(iii)(A) of this section is not a unit of property separate from the unit of property improved. See paragraph (e)(4) of this section. (iv)Examples. The application of this paragraph (f)(1) is illustrated by the fol- lowing examples, in which it is assumed that section 110 does not apply to the lessee. Example 1.Lessee improvements; additions to building. (i) T is a retailer of consumer products. In Year 1, T leases a building from L, which T in- tends to use as a retail sales facility. The leased build- ing consists of the building structure under paragraph (e)(2)(ii)(A) of this section and various building sys- tems under paragraph (e)(2)(ii)(B) of this section, in- cluding a plumbing system, an electrical system, and an HVAC system. Under the terms of the lease, T is permitted to improve the building at its own ex- pense. Under paragraph (e)(2)(v)(A) of this section, because T leases the entire building, T must treat the leased building and its structural components as a sin- gle unit of property. As provided under paragraph (e)(2)(v)(B)(1) of this section, an amount is paid for an improvement to the entire leased building if it re- sults in an improvement to the leased building struc- ture or to any building system within the leased build- ing. Therefore, under paragraphs (e)(2)(v)(B)(1) and (e)(2)(ii) of this section, if T pays an amount that im- proves the building structure, the plumbing system, the electrical system, or the HVAC system, then T must treat this amount as an improvement to the en- tire leased building. (ii) In Year 2, T pays an amount to construct an extension to the building to be used for additional warehouse space. Assume that this amount results in a betterment (as defined under paragraph (h) of this section) to T’s leased building structure and does not affect any building systems. Accordingly, the amount that T pays for the building extension results in an improvement to the leased building structure, and thus, under paragraph (e)(2)(v)(B)(1) of this section, is treated as an improvement to the entire leased building under paragraph (d) of this section. Because T, the lessee, paid an amount to improve a unit of leased property, T is required to capitalize the amount paid for the building exten- sion under paragraph (f)(1)(ii)(A) of this section. In addition, paragraph (f)(1)(ii)(A) of this section requires T to treat the amount paid for the improve- ment as the acquisition or production of a unit of property (leasehold improvement property) under §1.263(a)–2T(d)(1). Moreover, under paragraph (f)(1)(ii)(B) of this section, the building extension is a unit of property separate from the unit of leased property (the building and its structural components). (iii) In Year 5, T pays an amount to add a larger door to the building extension that it constructed in Year 2 in order to accommodate the loading of larger products into the warehouse space. Assume that the amount paid to add the larger door results in a better- ment under paragraph (h) of this section to the build- ing structure extension, the unit of property under paragraph (f)(1)(ii)(B) of this section. As a result, T must capitalize the amounts paid to add the larger door as an improvement to T’s unit of property (the building extension) under paragraph (d) of this sec- tion. In addition, because the amount that T paid to add the larger door is for an improvement to the build- ing extension (a lessee improvement under paragraph (f)(1)(ii)(A)), the larger door is not a unit of prop- erty separate from the unit of property improved. See paragraphs (e)(4) and (f)(1)(ii)(B) of this section. Example 2.Lessee improvements; additions to certain structural components of buildings.(i)As- sume the same facts asExample 1except that in Year 2, T also pays an amount to construct an extension of the HVAC system into the building extension. As- sume that the extension is a betterment under para- graph (h) of this section to the leased HVAC system (a building system under paragraph (e)(2)(ii)(B)(1)of this section). Accordingly, the amount that T pays for the extension of the HVAC system results in an improvement to a leased building system, the HVAC system, and thus, under paragraph (e)(2)(v)(B)(1)of this section, is treated as an improvement to the entire leased building under paragraph (d) of this section. Because T, the lessee, incurs costs to improve a unit of leased property, T is required to capitalize the costs of the improvement under paragraph (f)(1)(ii)(A) of this section. Under paragraph (f)(1)(ii)(B), the exten- sion to the leased HVAC is a unit of property sepa- rate from the unit of leased property (the leased build- ing and its structural components). In addition, under paragraph (f)(1)(ii)(A) of this section, T must treat the amount paid for the HVAC extension as the ac- quisition and production of a unit of property under §1.263(a)–2T(d)(1). (ii) In Year 5, T pays an amount to add an addi- tional chiller to the portion of the HVAC system that it constructed in Year 2 in order to accommodate the cli- mate control requirements for new product offerings. Assume that the amount paid for the chiller results in a betterment under paragraph (h) of this section to the HVAC system extension, the unit of property under paragraph (f)(1)(ii)(B) of this section. Accord- April 2, 20126712012–14 I.R.B. ingly, T must capitalize the amount paid to add the chiller as an improvement to T’s unit of property (the HVAC system extension) under paragraph (d) of this section. In addition, because the amount that T paid to add the chiller is for an improvement to the HVAC system extension (a lessee improvement under para- graph (f)(1)(ii)(A) of this section), the chiller is not a unit of property separate from the unit of property improved. See paragraphs (f)(1)(ii)(B) and (e)(4) of this section. Example 3.Lessor Improvements; additions to building. (i) T is a retailer of consumer products. In Year 1, T leases a building from L, which T intends to use as a retail sales facility. Pursuant to the lease, L provides a construction allowance to T, which T intends to use to construct an extension to the retail sales facility for additional warehouse space. As- sume that the amount paid for any improvement to the building does not exceed the construction allowance and that L is treated as the owner of any improvement to the building. Under paragraph (e)(2)(i) of this sec- tion, L must treat the leased building and its structural components as a single unit of property. As provided under paragraph (e)(2)(ii) of this section, an amount paid is for an improvement to the building if it results in an improvement to the building structure or to any building system. (ii) In Year 2, T uses L’s construction allowance to construct an extension to the leased building to pro- vide additional warehouse space in the building. As- sume that the extension is a betterment (as defined un- der paragraph (h) of this section) to the building struc- ture, and therefore, the amount paid for the extension results in an improvement to the building structure under paragraph (d) of this section. Under paragraph (f)(1)(iii)(A) of this section, L, the lessor and owner of the improvement, must capitalize the amounts paid to T to construct the extension to the retail sales fa- cility. T is not permitted to capitalize the amounts paid for the lessor-owned improvement. Finally, un- der paragraph (f)(1)(iii)(B) of this section, the exten- sion to L’s building is not a unit of property separate from the building and its structural components. Example 4.Lessee property; personal property added to leased building. T is a retailer of consumer products. T leases a building from L, which T intends to use as a retail sales facility. Pursuant to the lease, L provides a construction allowance to T, which T uses to acquire and construct partitions for fitting rooms, counters, and shelving. Assume that each partition, counter, and shelving unit is a unit of property un- der paragraph (e)(3) of this section. Assume that for federal income tax purposes T is treated as the owner of any personal property that it acquires or constructs with the construction allowance and that the amounts paid for acquisition or construction of any personal property used in the leased property do not consti- tute a substitute for rent. T’s expenditures for the partitions, counters, and shelving are not improve- ments to the leased property under paragraph (d) of this section, but rather constitute amounts paid to ac- quire or produce separate units of personal property under §1.263(a)–2T. Example 5. Lessor property; buildings on leased property. L is the owner of a parcel of unimproved real property that L leases to T. Pursuant to the lease, L provides a construction allowance to T of $500,000, which T agrees to use to construct a building costing not more than $500,000 on the leased real property and to lease the building from L after it is constructed. Assume that for Federal income tax purposes, L is treated as the owner of the building that T will con- struct. T uses the $500,000 to construct the building as required under the lease. The building consists of the building structure and the following building sys- tems: (1) a plumbing system; (2) an electrical sys- tem; and (3) an HVAC system. Because L provides a construction allowance to T to construct a building, the total cost of the building equals $500,000, and L is treated as the owner of the building, under para- graph (f)(1)(iii)(A) of this section L must capitalize the amounts that it pays indirectly to acquire and pro- duce the building under §1.263(a)–2T(d)(1). Under paragraph (e)(2)(i) of this section, L must treat the building and its structural components as a single unit of property. Under paragraph (f)(1)(iii)(A) of this section, T, the lessee, may not capitalize the amounts paid (with the construction allowance received from L) for construction of the building. Example 6.Lessee contribution to construction costs. Assume the same facts as inExample 5, except T spends $600,000 to construct the building. T uses the $500,000 construction allowance provided by L plus $100,000 of its own funds to construct the building that L will own pursuant to the lease. Also assume that the additional $100,000 that T incurs is not a substitute for rent. For the reasons discussed in Example 5, L must capitalize the $500,000 it paid T to construct the building under §1.263(a)–2T(d)(1). In addition, because T spends its own funds to complete the building, T has a depreciable interest of $100,000 in the building and must capitalize the $100,000 it paid to construct the building as a leasehold improve- ment under §1.263(a)–2T(d)(1) of the regulations. Under paragraph (e)(2)(i) of this section, L must treat the building as a single unit of property to the extent of its depreciable interest of $500,000 In addition, under paragraph (e)(2)(v)(A) of this section, T must also treat the building as a single unit of property to the extent of its depreciable interest of $100,000. (2)Compliance with regulatory re- quirements. For purposes of this section, a Federal, state, or local regulator’s re- quirement that a taxpayer perform certain repairs or maintenance on a unit of prop- erty to continue operating the property is not relevant in determining whether the amount paid improves the unit of property. (3)Certain costs incurred during an improvement—(i)In general. A taxpayer must capitalize all the direct costs of an improvement and all the indirect costs (in- cluding, for example, otherwise deductible repair or component removal costs) that directly benefit or are incurred by reason of an improvement inaccordance with the rules under section 263A. Therefore, indi- rect costs that do not directly benefit and are not incurred by reason of an improve- ment are not required to be capitalized un- der section 263(a), regardless of whether they are made at the same time as an im- provement. (ii)Exception for individuals’ resi- dences. A taxpayer who is an individual may capitalize amounts paid for repairs and maintenance that are made at the same time as capital improvements to units of property not used in the taxpayer’s trade or business or for the production of in- come if the amounts are paid as part of a remodeling of the taxpayer’s residence. (4)Aggregate of related amounts.For purposes of paragraph (d) of this section, the aggregate of related amounts paid to improve a unit of property may be incurred over a period of more than one taxable year. Whether amounts are related to the same improvement depends on the facts and circumstances of the activities being performed and whether the costs are in- curred by reason of a single improvement or directly benefit a single improvement. (g)Safe harbor for routine maintenance on property other than buildings—(1)In general. An amount paid for routine main- tenance performed on a unit of property other than a building or a structural compo- nent of a building is deemed not to improve that unit of property. Routine maintenance is the recurring activities that a taxpayer expects to perform as a result of the tax- payer’s use of the unit of property to keep the unit of property in its ordinarily effi- cient operating condition. Routine main- tenance activities include, for example, the inspection, cleaning,and testing of the unit of property, and the replacement of parts of the unit of property with comparable and commercially available and reasonable re- placement parts. The activities are routine only if, at the time the unit of property is placed in service by the taxpayer, the tax- payer reasonably expects to perform the activities more than once during the class life (as defined in paragraph (g)(4) of this section) of the unit of property. Among the factors to be considered in determining whether a taxpayer is performing routine maintenance are the recurring nature of the activity, industry practice, manufacturers’ recommendations, the taxpayer’s experi- ence, and the taxpayer’s treatment of the activity on its applicable financial state- ment (as defined in paragraph (b)(4) of this section). With respect to a taxpayer that is a lessor of a unit of property, the tax- payer’s use of the unit of property includes the lessee’s use of the unit of property. (2)Rotable and temporary spare parts. Except as provided in paragraph (g)(3) 2012–14 I.R.B.672April 2, 2012 of this section, for purposes of paragraph (g)(1) of this section, amounts paid for routine maintenanceinclude routine main- tenance performed on (and with regard to) rotable and temporary spare parts. But see §1.162–3T(a)(3), which provides gener- ally that rotable and temporary spare parts are used or consumed by the taxpayer in the taxable year in which the taxpayer disposes of the parts. (3)Exceptions. Routine maintenance does not include the following: (i) Amounts paid for the replacement of a component of a unit of property and the taxpayer has properly deducted a loss for that component (other than a casualty loss under §1.165–7). (ii) Amounts paid for the replacement of a component of a unit of property and the taxpayer has properly taken into ac- count the adjusted basis of the component in realizing gain or loss resulting from the sale or exchange of the component. (iii) Amounts paid for the repair of dam- age to a unit of property for which the tax- payer has taken a basis adjustment as a re- sult of a casualty loss under section 165, or relating to a casualty event described in section 165. (iv) Amounts paid to return a unit of property to its ordinarily efficient operat- ing condition, if the property has deterio- ratedtoastateofdisrepairandisnolonger functional for its intended use. (v) Amounts paid for repairs, mainte- nance, or improvement of rotable and tem- porary spare parts to which the taxpayer applies the optional method of accounting for rotable and temporary spare parts un- der §1.162–3T(e). (4)Class life. The class life of a unit of property is the recovery period pre- scribed for the property under sections 168(g)(2) and (3) for purposes of the alter- native depreciation system, regardless of whether the property is depreciated under section 168(g). For purposes of determin- ing class life under this section, section 168(g)(3)(A) (relating to tax-exempt use property subject to lease) does not apply. If the unit of property is comprised of more than one component with different class lives, then the class life of the unit of property is deemed to be the same as the component with the longest class life. (5)Examples. The following exam- ples illustrate the rules of this paragraph (g). Unless otherwise stated, assume that X has not applied the optional method of accounting for rotable and temporary spare parts under §1.162–3T(e): Example 1.Routine maintenance on component. (i) X is a commercial airline engaged in the business of transporting passengers and freight throughout the United States and abroad. To conduct its business, X owns or leases various types of aircraft. As a con- dition of maintaining its airworthiness certification for these aircraft, X is required by the Federal Avi- ation Administration (FAA) to establish and adhere to a continuous maintenance program for each air- craft within its fleet. These programs, which are de- signed by X and the aircraft’s manufacturer and ap- provedbytheFAA,areincorporatedintoeachair- craft’s maintenance manual. The maintenance manu- als require a variety of periodic maintenance visits at various intervals. One type of maintenance visit is an engine shop visit (ESV), which X expects to perform on its aircraft engines approximately every 4 years in order to keep its aircraft in its ordinarily efficient operating condition. In Year 1, X purchased a new aircraft, which included four new engines attached to the airframe. The four aircraft engines acquired with the aircraft are not materials or supplies under §1.162–3T(c)(1)(i) becausethey are acquired as part of a single unit of property, the aircraft. In Year 5, X performs its first ESV on the aircraft engines. The ESV includes disassembly, cleaning, inspection, re- pair, replacement, reassembly, and testing of the en- gine and its component parts. During the ESV, the engine is removed from the aircraft and shipped to an outside vendor who performs the ESV. If inspec- tion or testing discloses a discrepancy in a part’s con- formity to the specifications in X’s maintenance pro- gram, the part is repaired, or if necessary, replaced with a comparable and commercially available and reasonable replacement part. After the ESVs, the en- gines are returned to X to be reinstalled on another aircraft or stored for later installation. Assume that the unit of property for X’s aircraft is the entire air- craft, including the aircraft engines, and that the class life for X’s aircraft is 12 years. Assume that none of the exceptions set out in paragraph (g)(3) of this sec- tion applies to the costs of performing the ESVs. (ii) Because the ESVs involve the recurring ac- tivities that X expects to perform as a result of its use of the aircraft to keep the aircraft in ordinarily efficient operating condition, and consist of mainte- nance activities that X expects to perform more than once during the 12 year class life of the aircraft, X’s ESVs are within the routine maintenance safe harbor under paragraph (g) of this section. Accordingly, the amounts paid for the ESVs are deemed not to improve the aircraft and are not required to be capitalized un- derparagraph(d)ofthissection. Example 2.Routine maintenance after class life. Assume the same facts as inExample 1,exceptthatin year 15, X pays amounts to perform an ESV on one of the original aircraft engines, after the end of the class life of the aircraft. Because this ESV involves the same routine maintenance activities that were per- formed on aircraft engines inExample 1,thisESV also is within the routine maintenance safe harbor un- der paragraph (g) of this section. Accordingly, the amounts paid for this ESV, even though performed after the class life of the aircraft, are deemed not to improve the aircraft and are not required to be capi- talized under paragraph (d) of this section. Example 3.Routine maintenance on rotable spare parts. (i) Assume the same facts as inExample 1, except that in addition to the four engines pur- chased as part of the aircraft, X separately purchases four additional new engines that X intends to use in its aircraft fleet to avoid operational downtime when ESVsarerequiredtobeperformedontheengines previously installed on an aircraft. Later in Year 1, X installs these four engines on an aircraft in its fleet. In Year 5, X performs the first ESVs on these four engines. Assume that these ESVs involve the same routine maintenance activities that were per- formed on the engines inExample 1, and that none of the exceptions set out in paragraph (g)(3) of this section apply to these ESVs. After the ESVs were performed, these engines were reinstalled on other aircraft or stored for later installation. (ii) The additional aircraft engines are rotable spare parts because they were acquired separately from the aircraft, they are removable from the air- craft, and are repaired and reinstalled on other aircraft or stored for later installation.See§1.162–3T(c)(2) (definition of rotable and temporary spare parts). The class life of an engine is the same as the airframe, 12 years. Because the ESVs involve the recurring activities that X expects to perform as a result of its use of the engines to keep the engines in ordinarily efficient operating condition, and consist of mainte- nance activities that X expects to perform more than once during the 12 year class life of the engine, the ESVs fall within the routine maintenance safe harbor underparagraph(g)ofthissection. Accordingly, the amounts paid for the ESVs for the four additional engines are deemed not to improve these engines and are not required to be capitalized under paragraph (d) of this section. For the treatment of amounts paid to acquire the engines, see §1.162–3T(a). Example 4.Routine maintenance resulting from prior owner’s use . (i) In January, Year 1, X purchases a used machine for use in its manufacturing opera- tions. Assume that the machine is the unit of property and has a class life of 10 years. X places the machine in service in January, Year 1, and at that time, X ex- pects to perform manufacturer recommended sched- uled maintenance on the machine approximately ev- ery three years. The scheduled maintenance includes the cleaning and oiling of the machine, the inspec- tion of parts for defects, and the replacement of mi- nor items such as springs, bearings, and seals with comparable and commercially available and reason- able replacement parts. At the time X purchased the machine, the machine was approaching the end of a three-year scheduled maintenance period. As a result, in February, Year 1, X pays amounts to perform the manufacturer recommended scheduled maintenance. Assume that none of the exceptions set out in para- graph (g)(3) of this section apply to the amounts paid for the scheduled maintenance. (ii) The majority of X’s costs do not qualify under the routine maintenance safe harbor in paragraph (g) of this section because the costs were incurred primarily as a result of the prior owner’s use of the property and not X’s use. X acquired the machine just before it had received its three-year scheduled maintenance. Accordingly, the amounts paid for the scheduled maintenance resulted from the prior owner’s, and not the taxpayer’s, use of the property and must be capitalized if those amounts result in a betterment under paragraph (h) of this section, April 2, 20126732012–14 I.R.B. including the amelioration of a material condition or defect, or otherwise result in an improvement under paragraph (d) of this section. See also section 263A and the regulations thereunder for the require- ment to capitalize indirect costs (including otherwise deductible repair costs) that directly benefit or are incurred by reason of production activities. Example 5.Routine maintenance resulting from new owner’s use. Assume the same facts as inEx- ample 4, except that after X pays amounts for the maintenance in Year 1, X continues to operate the ma- chine in its manufacturing business. In Year 4, X pays amounts to perform the next scheduled manufacturer recommended maintenance on the machine. Assume that the scheduled maintenance activities performed are the same as those performed inExample 4and that none of the exceptions set out in paragraph (g)(3) of this section apply to the amounts paid for the sched- uled maintenance. Because the scheduled mainte- nance performed in Year 4 involves the recurring ac- tivities that X performs as a result of its use of the machine, keeps the machine in an ordinarily efficient operating condition, and consists of maintenance ac- tivities that X expects to perform more than once dur- ing the 10 year class life of the machine, X’s sched- uled maintenance costs are within the routine main- tenance safe harbor under paragraph (g) of this sec- tion. Accordingly, the amounts paid for the scheduled maintenance in Year 4 are deemed not to improve the machine and are not required to be capitalized under paragraph (d) of this section. But see section 263A and the regulations thereunder for the require- ment to capitalize indirect costs (including otherwise deductible repair costs) that directly benefit or are in- curred by reason of production activities. Example 6.Routine maintenance; replacement of substantial structural part. X is in the business of producing commercial products for sale. As part of the production process, X places raw materials into lined containers in which a chemical reaction is used to convert raw materials into the finished product. The lining is a substantial structural part of the con- tainer, and comprises 60 percent of the total physi- cal structure of the container. Assume that each con- tainer, including its lining, is the unit of property and that a container has a class life of 12 years. At the time that X placed the container into service, X was aware that approximately every three years, X would be re- quiredtoreplacethelininginthecontainerwithcom- parable and commercially available and reasonable replacement materials. At the end of that period, the container will continue to function, but will become less efficient and the replacement of the lining will be necessary to keep the container in an ordinarily effi- cient operating condition. In Year 1, X acquired 10 new containers and placed them into service. In Year 4, Year 7, Year 9, and Year 12, X pays amounts to replace the containers’ linings with comparable and commercially available and reasonable replacement parts. Assume that none of the exceptions set out in paragraph (g)(3) of this section apply to the amounts paid for the replacement linings. Because the replace- ment of the linings involves recurring activities that X expects to perform as a result of its use of the con- tainers to keep the containers in their ordinarily ef- ficient operating condition, and consists of mainte- nance activities that X expects to perform more than once during the 12 year class lives of the containers, X’s lining replacement costs are within the routine maintenance safe harbor under paragraph (g) of this section. Accordingly, the amounts that X paid for the replacement of the container linings are deemed not to improve the containers and are not required to be capitalized under paragraph (d) of this section. But see section 263A and the regulations thereunder for the requirement to capitalize indirect costs (including otherwise deductible repair costs) that directly bene- fit or are incurred by reason of production activities. Example 7.Routine maintenance once during class life. X is a Class I railroad that owns a fleet of freight cars. Assume that a freight car, including all its components, is a unit of property and has a class life of 14 years. At the time that X places a freight car into service, X expects to perform cyclical recon- ditioning to the car every 8 to 10 years in order to keep the freight car in ordinarily efficient operating condi- tion. During this reconditioning, X pays amounts to disassemble, inspect, and recondition or replace com- ponents of the freight car with comparable and com- mercially available and reasonable replacement parts. Ten years after X places the freight car in service, X pays amounts to perform a cyclical reconditioning on the car. Because X expects to perform the recondi- tioning only once during the 14 year class life of the freight car, the amounts X pays for the reconditioning do not qualify for the routine maintenance safe har- bor under paragraph (g) of this section. Accordingly, X must capitalize the amounts paid for the recondi- tioning of the freight car if these amounts result in an improvement under paragraph (d) of this section. Example 8.Routine maintenance on non-rotable part. X is a towboat operator that owns and leases a fleet of towboats. Each towboat is equipped with two diesel-powered engines. Assume that each towboat, including its engines, is the unit of property and that a towboat has a class life of 18 years. At the time that X places its towboats into service, X is aware that approximately every three to four years, X will need to perform scheduled maintenance on the two towboat engines to keep the engines in their ordinar- ily efficient operating condition. This maintenance is completed while the engines are attached to the towboat and involves the cleaning and inspecting of the engines to determine which parts are within acceptable operating tolerances and can continue to be used, which parts must be reconditioned to be brought back to acceptable tolerances, and which parts must be replaced. Engine parts replaced during these procedures are replaced with comparable and commercially available and reasonable replacement parts. Assume the towboat engines are not rotable spare parts under §1.162–3T(c)(2). In Year 1, X acquired a new towboat, including its two engines, and placed the towboat into service. In Year 5, X pays amounts to perform scheduled maintenance on both engines in the towboat. Assume that none of the exceptions set out in paragraph (g)(3) of this section apply to the scheduled maintenance costs. Because the scheduled maintenance involves recur- ring activities that X expects to perform more than once during the 18 year class life of the towboat, the maintenance results from X’s use of the towboat and the maintenance is performed to keep the towboat in an ordinarily efficient operating condition, the scheduled maintenance on X’s towboat is within the routine maintenance safeharbor under paragraph (g) of this section. Accordingly, the amounts paid for the scheduled maintenance to its towboat engines in Year 5 are deemed not to improve the towboat and are not required to be capitalized under paragraph (d) of this section. Example 9.Routine maintenance with better- ments. AssumethesamefactsasExample 8, except that in Year 9, X’s towboat engines are due for another scheduled maintenance visit. At this time, X decides to upgrade the engines to increase their horsepower and propulsion, which would permit the towboats to tow heavier loads. Accordingly, in Year 9, X pays amounts to perform many of the same activities that it would perform during the typical scheduled maintenance activities such as cleaning, inspecting, reconditioning, and replacing minor parts, but at the same time, X incurs costs to upgrade certain engine parts to increase the towing capacity of the boats in excess of the capacity of the boats when X placed them in service. Both the sched- uled maintenance procedures and the replacement of parts with new and upgraded parts are necessary to increase the horsepower of the engines and the towing capacity of the boat. Thus, the work done on the engines encompasses more than the recurring activities that X expected to perform as a result of its use of the towboats and did more than keep the tow- boat in its ordinarily efficient operating condition. In addition, under paragraph (f)(3)(i) of this section, the scheduled maintenance procedures directly benefit the upgrades. Therefore, the amounts that X paid in Year 9 for the maintenance and upgrade of the engines do not qualify for the routine maintenance safe harbor described underparagraph(g)ofthis section. These amounts must be capitalized if they result in a betterment under paragraph (h) of this sec- tion, including a material increase in the capacity of the towboat, or otherwise result in an improvement underparagraph(d)ofthissection. Example 10.Exceptions to routine maintenance. X owns and operates a farming and cattle ranch with an irrigation system that provides water for crops. Assume that each canal in the irrigation system is a single unit of property and has a class life of 20 years. At the time X placed the canals into service, X ex- pected to have to perform major maintenance on the canals every 3 years to keep the canals in their or- dinarily efficient operating condition. This mainte- nance includes draining the canals, and then clean- ing, inspecting, repairing, reconditioning or replacing parts of the canal with comparable and commercially available and reasonable replacement parts. X placed the canals into service in Year 1 and did not perform any maintenance on the canals until Year 6. At that time, the canals had fallen into a state of disrepair and no longer functioned for irrigation. In Year 6, X pays amounts to drain the canals, and do extensive clean- ing, repairing, reconditioning, and replacing parts of the canals with comparable and commercially avail- able and reasonable replacement parts. Although the work performed on X’s canals was similar to the ac- tivities that X expected to perform, but did not per- form, every three years, the costs of these activities do not fall within the routine maintenance safe har- bor. Specifically, under paragraph (g)(3)(iv) of this section, routine maintenance does not include activi- ties that return a unit of property to its former ordinary efficient operating condition if the property has dete- riorated to a state of disrepair and is no longer func- tional for its intended use. Accordingly, amounts that X pays for work performed on the canals in Year 6 2012–14 I.R.B.674April 2, 2012 must be capitalized if they result in improvements un- der paragraph (d) of this section (for example, restora- tions under paragraph (i) of this section). (h)Capitalization of betterments—(1) In general.A taxpayer must capitalize amounts paid that result in the betterment of a unit of property. An amount paid re- sults in the betterment of a unit of property only if it— (i) Ameliorates a material condition or defect that either existed prior to the tax- payer’s acquisition of the unit of property or arose during the production of the unit of property, whether or not the taxpayer was aware of the condition or defect at the time of acquisition or production; (ii) Results in a material addition (in- cluding a physical enlargement, expan- sion, or extension) to the unit of property; or (iii) Results in a material increase in capacity (including additional cubic or square space), productivity, efficiency, strength, or quality of the unit of property or the output of the unit of property. (2)Betterments to buildings. In the case of a building, an amount results in a bet- terment to the unit of property if it re- sults in a betterment to any of the prop- erties designated in paragraphs (e)(2)(ii), (e)(2)(iii)(B), (e)(2)(iv)(B), or (e)(2)(v)(B) of this section. (3)Application of general rule—(i) Facts and circumstances. To determine whether an amount paid results in a better- ment described in paragraph (h)(1) of this section, it is appropriate to consider all the facts and circumstances including, but not limited to, the purpose of the expenditure, the physical nature of the work performed, the effect of the expenditure on the unit of property, and the taxpayer’s treatment of the expenditure on its applicable finan- cial statement (as described in paragraph (b)(4) of this section). (ii)Unavailability of replacement parts. If a taxpayer needs to replace part of a unit of property that cannot practicably be re- placed with the same type of part (for ex- ample, because of technological advance- ments or product enhancements), the re- placement of the part with an improved, but comparable, part does not, by itself, re- sult in a betterment to the unit of property. (iii)Appropriate comparison—(A)In general. In cases in which a particular event necessitates an expenditure, the de- termination of whether an expenditure re- sults in a betterment of the unit of property is made by comparing the condition of the property immediately after the expenditure with the condition of the property immedi- ately prior to the circumstances necessitat- ing the expenditure. (B)Normal wear and tear.Iftheex- penditure is made to correct the effects of normal wear and tear to the unit of property (including the amelioration of a condition or defect that existed prior to the taxpayer’s acquisition of the unit of property result- ing from normal wear and tear), the con- dition of the property immediately prior to the circumstances necessitating the expen- diture is the condition of the property af- ter the last time the taxpayer corrected the effects of normal wear and tear (whether the amounts paid were for maintenance or improvements) or, if the taxpayer has not previously corrected the effects of normal wear and tear, the condition of the property when placed in service by the taxpayer. (C)Particular event. If the expenditure is made as a result of a particular event, the condition of the property immediately prior to the circumstances necessitating the expenditure is the condition of the property immediately prior tothe particular event. (4)Examples. The following examples illustrate the application of this paragraph (h) only and do not address whether capi- talization is required under another provi- sion of this section or another provision of the Internal Revenue Code (for example, section 263A): Example 1.Amelioration of pre-existing material condition or defect. In Year 1, X purchases a store lo- cated on a parcel of land that contained underground gasoline storage tanks left by prior occupants. As- sume that the parcel of land is the unit of property. The tanks had leaked, causing soil contamination. X is not aware of the contamination at the time of pur- chase. In Year 2, X discovers the contamination and incurs costs to remediate the soil. The remediation costs result in a betterment to the land under para- graph (h)(1)(i) of this section because X incurred the costs to ameliorate a material condition or defect that existed prior to X’s acquisition of the land. Example 2.Not amelioration of pre-existing con- dition or defect. X owns a building that was con- structed with insulation that contained asbestos. The health dangers of asbestos were not widely known when the building was constructed. X determines that certain areas of asbestos-containing insulation had begun to deteriorate and could eventually pose a health risk to employees. Therefore, X pays an amount to remove the asbestos-containing insulation from the building structure and replace it with new in- sulation that is safer to employees, but no more effi- cient or effective than the asbestos insulation. Under paragraph (e)(2)(ii) of this section, if the amount paid results in a betterment to the building structure or any building system, X must treat the amount as an im- provement to the building. Although the asbestos is determined to be unsafe under certain circumstances, the asbestos is not a preexisting or material defect of the building structure under paragraph (h)(1)(i) of this section. In addition, the removal and replacement of the asbestos does not result in a material addition to the building structure under paragraph (h)(1)(ii) of this section or result in a material increase in capac- ity, productivity, efficiency, strength, or quality of the building structure or the output of the building struc- ture under paragraph (h)(1)(iii) of this section. There- fore, the amount paid to remove and replace the as- bestos insulation does not result in a betterment to the building structure under paragraph (h) of this section. Example 3.Not amelioration of pre-existing ma- terial condition or defect. (i) In January, Year 1, X purchased a used machine for use in its manu- facturing operations. Assume that the machine is a unit of property and has a class life of 10 years. X placed the machine in service in January, Year 1 and at that time expected to perform manufacturer recom- mended scheduled maintenance on the machine every three years. The scheduled maintenance includes the cleaning and oiling of the machine, the inspection of parts for defects, and the replacement of minor items such as springs, bearings, and seals with comparable and commercially available and reasonable replace- ment parts. The scheduled maintenance does not re- sult in any material additions or material increases in capacity, productivity, efficiency, strength or quality of the machine or the output of the machine. At the time X purchased the machine, it was approaching the end of a three-year scheduled maintenance period. As a result, in February, Year 1, X pays an amount to perform the manufacturer recommended scheduled maintenance to keep the machine in its ordinarily ef- ficient operating condition. (ii) The amount that X pays does not qualify under the routine maintenance safe harbor in paragraph (g) of this section because the cost primarily results from the prior owner’s use of the property and not the tax- payer’s use. X acquired the machine just before it had received its three-year scheduled maintenance. Ac- cordingly, the amount thatX pays for the scheduled maintenance results from the prior owner’s use of the property and ameliorates conditions or defects that existed prior to X’s ownership of the machine. Nev- ertheless, considering thefacts and circumstances un- der paragraph (h)(2)(i) of this section, including the purpose and minor nature of the work performed, this amount does not ameliorate a material condition or defect in the machine under paragraph (h)(1)(i) of this section, result in a material addition to the machine under paragraph (h)(1)(ii) of this section, or result in a material increase in the capacity, productivity, effi- ciency, strength, or quality of the machine or the out- put of the machine under paragraph (h)(1)(iii) of this section. Therefore, X is not required to capitalize the amount paid for the scheduled maintenance as a bet- terment to the machine under this paragraph (h). Example 4.Not amelioration of pre-existing ma- terial condition or defect. X purchases a used ice resurfacing machine for use in the operation of its ice skating rink. To comply with local regulations, X is required to monitor routinely the air quality in the ice skating rink. One week after X places the ma- chine into service, during a routine air quality check, April 2, 20126752012–14 I.R.B. X discovers that the operation of the machine is ad- versely affecting the air quality in the skating rink. As a result, X pays an amount to inspect and retune the machine, which includes replacing minor compo- nents of the engine, which had worn out prior to X’s acquisition of the machine. Assume the resurfacing machine, including the engine, is the unit of prop- erty. The routine maintenance safe harbor in para- graph (g) of this section does not apply to the amounts paid because the activities performed do more than return the machine to the condition that existed at the time X placed it in service. The amount that X pays to inspect, retune, and replace minor components of the ice resurfacing machine ameliorates a condition or defect that existed prior to X’s acquisition of the equipment. Nevertheless, considering the facts and circumstances under paragraph (h)(3)(i) of this sec- tion, including the purpose and minor nature of the work performed, this amount does not ameliorate a material condition or defect in the machine under paragraph (h)(1)(i) of this section, result in a material addition to the machine under paragraph (h)(1)(ii) of this section, or result in a material increase in the ca- pacity, productivity, efficiency, strength, or quality of the machine or the output of the machine under para- graph(h)(1)(iii) of this section. Therefore, X is not required to capitalize the amount paid to inspect, re- tune, and replace minor components of the machine as a betterment under this paragraph (h). Example 5.Amelioration of material condition or defect. (i) X acquires a building for use in its busi- ness of providing assisted living services. Before and after the purchase, the building functions as an as- sisted living facility. However, at the time of the pur- chase, X is aware that the building is in a condition that is below the standards that X requires for facili- ties used in its business. Immediately after the acqui- sition and during the following two years, while X continues to use the building as an assisted living fa- cility, X pays amounts for repairs, maintenance, and the acquisition of new property to bring the facility into the high-quality condition for which X’s facilities are known. The work on X’s building includes repair- ing damaged drywall, repainting, re-wallpapering, re- placing windows, repairing and replacing doors; re- placing and regrouting tile; repairing millwork; and repairing and replacing roofing materials. The work also involves the replacement of section 1245 prop- erty including window treatments, furniture, and cab- inets. On its applicable financial statements, X cap- italizes the costs of the repairs and maintenance to the building. The work that X performs affects only the building structure under paragraph (e)(2)(ii)(A) of this section and does not affect any of the building systems described in paragraph (e)(2)(ii)(B) of this section. Assume that each section 1245 property is a separate unit of property. (ii) Under paragraph (e)(2)(ii) of this section, if an amount paid results in a betterment to the building structure or any building system, X must treat the amount as an improvement to the building. Considering the facts and circumstances, as required under paragraph (h)(3)(i) of this section, including the purpose of the expenditures, the effect of the expenditures on the building structure, and the treat- ment of the expenditures in X’s applicable financial statements, the amounts that X paid for repairs and maintenance to the building structure comprises a betterment to the building structure under paragraph (h)(1)(i) of this section because the amounts amelio- rate material conditions or defects that existed prior to X’s acquisition of the building. Therefore, in ac- cordance with paragraph (e)(2)(ii) of this section, X must treat the amounts paid for the betterment to the building structure as an improvement to the building and must capitalize the amounts under paragraph (d)(1) of this section. Moreover, X is required to capitalize the amounts paid to acquire and install each section 1245 property, including each window treatment, each item of furniture, and each cabinet, in accordance with §1.263(a)–2T(d)(1). Example 6.Not a betterment; building refresh. (i) X owns a nationwide chain of retail stores that sell a wide variety of items. To remain competitive in the industry and increase customer traffic and sales vol- ume, X periodically refreshes the appearance and lay- out of its stores. The work that X performs to refresh a store consists of cosmetic and layout changes to the store’s interiors and general repairs and maintenance to the store building to make the stores more attractive and the merchandise more accessible to customers. The work to each store building consists of replac- ing and reconfiguring a small number of display ta- bles and racks to provide better exposure of the mer- chandise, making corresponding lighting relocations and flooring repairs, moving one wall to accommo- date the reconfiguration of tables and racks, patching holes in walls, repainting the interior structure with a new color scheme to coordinate with new signage, replacing damaged ceiling tiles, cleaning and repair- ing vinyl flooring throughout the store building, and power washing building exteriors. The display tables and the racks all constitute section 1245 property. X pays amounts to refresh 50 stores during the taxable year. In its applicable financial statement, X capi- talizes all the costs to refresh the store buildings and amortizes them over a 5-year period. Assume that each section 1245 property within each store is a sep- arate unit of property. Finally, assume that the work does not ameliorate any material conditions or defects that existed when X acquired the store buildings or re- sult in any material additions to the store buildings. (ii) Under paragraph (e)(2)(ii) of this section, if an amount paid results in a betterment to the build- ing structure or any building system, X must treat the amount as an improvement to the building. Con- sidering the facts and circumstances, as required un- der paragraph (h)(3)(i) of this section, including the purpose of the expenditure, the physical nature of the work performed, the effect of the expenditure on buildings’ structure and systems, and the treatment of the work on X’s applicable financial statements, the amounts paid for the refresh of each building do not result in material increases in capacity, produc- tivity, efficiency, strength, or quality of the buildings’ structures or any building systems as compared to the condition of the buildings’ structures and systems af- ter the previous refresh. Rather, the work performed keeps X’s store buildings’ structures and buildings’ systems in the ordinary efficient operating condition that is necessary for X to continue to attract customers to its stores. Therefore, X is not required to treat the amounts paid for the refresh of its store buildings’ structures and buildings’ systems as betterments un- der paragraph (h)(1)(iii) of this section. However, X is required to capitalize the amounts paid to acquire and install each section 1245 property in accordance with §1.263(a)–2T(d)(1). Example 7. Building refresh; limited improve- ment.AssumethesamefactsasExample 6except, in the course of X’s refresh of its stores, X pays amounts to remove and replace the bathroom fixtures (that is, the toilets, sinks, and plumbing fixtures) with up- graded bathroom fixtures in all of the restrooms in X’s retail buildings in order to update the restroom facil- ities. As part of the update of the restrooms, X also pays amounts to replace the floor and wall tiles that were removed or damaged in the installation of the new plumbing fixtures. Under paragraph (e)(2)(ii) of this section, if any of the amounts paid result in betterments to the building structure or any building system, X must treat the amounts as an improvement to the building. Under paragraph (e)(2)(ii)(B)(2)of this section, the plumbing system in each of X’s store buildings, including the plumbing fixtures, is a build- ing system. X must treat the amounts paid to re- place the bathroom fixtures with upgraded fixtures as a betterment because they result in a material in- crease in the quality of each plumbing system under paragraph (h)(1)(iii) of this section. Under paragraph (f)(3) of this section, X is required to capitalize all the indirect costs that directly benefit or are incurred by reason of the betterment, or improvement, to each plumbing system. Because the costs to remove the old plumbing fixtures and to remove and replace the bathroom tiles directly benefit and are incurred by reason of the improvement to the plumbing system, these costs must also be capitalized under paragraph (f)(3) of this section. Therefore, in accordance with paragraph (e)(2)(ii) of this section, X must treat the amounts paid for a betterment to each plumbing sys- tem as an improvement to X’s retail building to which the costs relate, and must capitalize the amounts un- der paragraph (d)(1) of this section. However, X is not required under paragraph (f)(3) of this section to capitalize the costs described inExample 6to refresh the appearance and layout ofits stores because those costs do not directly benefit and are not incurred by reason of the improvements to the stores’ plumbing systems. Thus, X is not required to capitalize un- derparagraphs(f)(3)ofthissectionanycostsspec- ified inExample 6for the reconfiguration, cosmetic changes, repairs, and maintenance to the other parts of X’s store buildings. Example 8.Betterment; building remodel.(i)As- sume the same facts asExample 6, but assume that the work performed to refresh the stores directly ben- efits or was incurred by reason of a substantial re- model to X’s store buildings. In addition to the re- configuration, cosmetic changes, repairs, and main- tenance activities performed inExample 6,Xper- forms significant additional work to alter the appear- ance and layout of its stores in order to increase cus- tomer traffic and sales volume. First, X pays amounts to upgrade the buildings’ structures as defined under (e)(2)(ii)(A). This work includes removing and re- building walls to move built-in changing rooms and specialty departments to different areas of the stores, replacing ceilings with acoustical tiles to reduce noise and create a more pleasant shopping environment, re- building the interior andexterior facades around the main doors to create a more appealing entrance, re- placing conventional doors with automatic doors, and replacing carpet with ceramic flooring of different textures and styles to delineate departments and di- rect customer traffic. Second, X pays amounts for work on the electrical systems, which are building 2012–14 I.R.B.676April 2, 2012 systems under paragraph (e)(2)(ii)(B)(3) of this sec- tion. Specifically, X upgrades the wiring in the build- ings so that X can add video monitors and an ex- panded electronics department. X also removes and replaces the recessed lighting throughout the build- ings with more efficient and brighter lighting. The work performed on the buildings’ structures and the electrical systems includes the removal and replace- ment of both section 1250 and section 1245 property. In its applicable financial statement, X capitalizes all the costs incurred over a 10-year period. Upon com- pletion of this period, X anticipates that it will have to remodel the store buildings again. (ii) Under paragraph (e)(2)(ii) of this section, if any of the amounts paid result in a betterment to the building structure or any building system, X must treat those amounts as an improvement to the build- ing. Considering the facts and circumstances, as re- quired under paragraph (h)(3)(i) of this section, in- cluding the purpose of the expenditure, the physi- cal nature of the work performed, the effect of the work on the buildings’ structures and buildings’ sys- tems, and the treatment of the work on X’s applica- ble financial statements, the amounts that X pays for the remodeling of its stores result in betterments to the buildings’ structures and electrical systems under paragraph (h) of this section. Specifically, amounts paid to upgrade the wiring and to remove and replace the recess lighting throughout the stores materially in- crease the productivity, efficiency, and quality of X’s stores’ electrical systems under paragraph (h)(1)(iii) of this section. Also, the amounts paid to remove and rebuild walls, to replace ceilings, to rebuild facades, to replace doors, and replace flooring materially in- crease the productivity, efficiency, and quality of X’s store buildings’ structures under paragraph (h)(1)(iii) of this section. In addition, the amounts paid for the refresh of the store buildings described inExample 6 must be capitalized under paragraph (f)(3)(i) of this section because these expenditures directly benefit- ted or were incurred by reason of the improvements to X’s store buildings’ structures and electrical systems. Therefore, in accordance with paragraph (e)(2)(ii) of this section, X must treat the costs of improving the buildings’ structures and systems, including the costs to refresh, as improvements to X’s retail buildings and must capitalize the amounts paid for these im- provements under paragraph (d)(1) of this section. Moreover, X is required to capitalize the amounts paid to acquire and install each section 1245 property in accordance with §1.263(a)–2T(d)(1). Example 9.Not betterment; relocation and re- installation of personal property.In Year 1, X pur- chases new cash registers for use in its retail store located in leased space in a shopping mall. Assume that each cash register is a unit of property as deter- mined under paragraph (e)(3) of this section. In Year 1, X capitalizes the costs of acquiring and installing the new cash registers under §1.263(a)–2T(d)(1). In Year 3, X’s lease expires and X decides to relocate its retail store to a different building. In addition to various other costs, X pays $5,000 to move the cash registers and $1,000 to reinstall them in the new store. The cash registers are used for the same purposes and in the same manner that they were used in the former location. The amounts that X pays to move and rein- stall the cash registers into its new store do not result in a betterment to the cash registers under paragraph (h) of this section. Example 10.Betterment; relocation and rein- stallation of manufacturing equipment. X operates a manufacturing facility in Building A, which con- tains various machines that X uses in its manufactur- ing business. X decides to expand part of its opera- tions by relocating a machine to Building B to recon- figure the machine with additional components. As- sume that the machine is a single unit of property un- der paragraph (e)(3) of this section. X pays amounts to disassemble the machine, to move the machine to the new location, and to reinstall the machine in a new configuration with additional components. Assume that the reinstallation, including the reconfiguration and the addition of components, results in an increase in capacity of the machine, and therefore results in a betterment to the machine under paragraph (h)(3)(iii) of this section. Accordingly, X must capitalize the costs of reinstalling the machine as an improvement to the machine under paragraph (d)(1) of this section. X is also required to capitalize the costs of disassem- bling and moving the machine to Building B because these costs directly benefit and are incurred by reason of the improvement to the machine under paragraph (f)(3)(i) of this section. Example 11.Betterment; regulatory require- ment.X owns a hotel that includes five feet high unreinforced terra cotta and concrete parapets with overhanging cornices around the entire roof perime- ter. The parapets and cornices are in good condition. In Year 1, City passes an ordinance setting higher safety standards for parapets and cornices because of the hazardous conditions caused by earthquakes. To comply with the ordinance, X pays an amount to remove the old parapets and cornices and replace them with new ones made of glass fiber reinforced concrete, which makes them lighter and stronger than the original components. They are attached to the hotel using welded connections instead of wire sup- ports, making them more resistant to damage from lateral movement. Under paragraph (e)(2)(ii) of this section, if the amount paid results in a betterment to the building structure or any building system, X must treat the amount as an improvement to the building. The parapets and cornices are part of the building structure as defined in paragraph (e)(2)(ii)(A) of this section. The event necessitating the expenditure was the City ordinance. Prior to the ordinance, the old parapets and cornices were in good condition, but were determined by City to create a potential hazard. After the expenditure, the new parapets and cornices materially increased the structural soundness (that is, the strength) of the hotel structure. X must treat the amount paid to remove and replace the parapets and cornices as an improvement because it results in a betterment to the building structure under paragraph (h)(1)(iii) of this section. Therefore, in accordance with paragraph (e)(2)(ii) of this section, X must treat the amount paid for the betterment to the building structure as an improvement to the hotel building and must capitalize the amount paid under paragraph (d)(1) of this section. City’s requirement that X correct the potential hazard to continue operating the hotel is not relevant in determining whether the amount paid improved the hotel. See paragraph (f)(2) of this section. Example 12.Not a betterment; regulatory re- quirement.X owns a meat processing plant. X dis- covers that oil is seeping through the concrete walls of the plant, creating a fire hazard. Federal meat inspec- tors advise X that it must correct the seepage problem or shut down its plant. To correct the problem, X pays an amount to add a concrete lining to the walls from the floor to a height of about four feet and also to add concrete to the floor of the plant. Under paragraph (e)(2)(ii) of this section, if the amount paid results in a betterment to the building structure or any building system, X must treat the amount as an improvement to the building. The event necessitating the expen- diture was the seepage of the oil. Prior to the seep- age, the plant did not leak and was functioning for its intended use. X is not required to treat the amount paid as a betterment under paragraph (h) of this sec- tion because it does not result in a material addition or material increase in capacity, productivity, efficiency, strength or quality of the building structure or its out- put compared to the condition of the structure prior to the seepage of the oil. The federal meat inspec- tors’ requirement that X correct the seepage to con- tinue operating the plant is not relevant in determin- ing whether the amount paid improves the plant. See paragraph (f)(2) of this section. Example 13.Not a betterment; replacement with same part. X owns a small retail shop. A storm damages the roof of X’s shop by displacing numer- ous wooden shingles. X pays a contractor to replace all the wooden shingles on the roof with new wooden shingles. Under paragraph (e)(2)(ii) of this section, if the amount paid results in a betterment to the build- ing structure or any building system, X must treat the amount as an improvement to the building. The roof is part of the building structure under paragraph (e)(2)(ii)(A) of this section. The event necessitating the expenditure was the storm. Prior to the storm, the building structure was functioning for its intended use. X is not required to treat the amount paid to re- place the shingles as a betterment under paragraph (h) of this section because it does not result in a material addition, or material increase in the capacity, produc- tivity, efficiency, strength, or quality of the building structure or the output of the building structure com- pared to the condition of the building structure prior to the storm. Example 14.Not a betterment; replacement with comparable part. Assume the same facts as inExam- ple 13, except that wooden shingles are not available on the market. X pays a contractor to replace all the wooden shingles with comparable asphalt shingles. The amount that X pays to reshingle the roof with as- phalt shingles does not result in a betterment to the shop building structure, even though the asphalt shin- gles may be stronger than the wooden shingles. Be- cause the wooden shinglescould not practicably be replaced with new wooden shingles, the replacement of the old shingles with comparable asphalt shingles does not, by itself, result in a betterment, and there- fore, an improvement, to the shop building structure under this paragraph (h). Example 15.Betterment; replacement with im- proved parts. Assume the same facts as inExam- ple 14, except that, instead ofreplacing the wooden shingles with asphalt shingles, X pays a contractor to replace all the wooden shingles with shingles made of lightweight composite materials that are mainte- nance-free and do not absorb moisture. The new shin- gles have a 50-year warranty and a Class A fire rating. The amount paid for these shingles results in a better- ment to the shop building structure under paragraphs (h)(1)(iii) and (h)(3)(iii) of this section because it re- April 2, 20126772012–14 I.R.B. sults in a material increase in the quality of the shop building structure as compared to the condition of the shop building structure prior to the storm. Therefore, in accordance with paragraph (e)(2)(ii), X must treat the amount paid for the betterment of the building structure as an improvement to the building and must capitalize the amount paid under paragraph (d)(1) of this section. Example 16.Material increase in capacity. X owns a factory building with a storage area on the second floor. X pays an amount to replace the columns and girders supporting the second floor to permit storage of supplies with a gross weight 50 percent greater than the previous load-carry- ing capacity of the storage area. Under paragraph (e)(2)(ii) of this section, if the amount results in a betterment to the building structure or any building system, X must treat the amount as an improvement to the building. The columns and girders are part of the building structure defined under paragraph (e)(2)(ii)(A) of this section. X must treat the amount paid to replace the columns and girders as a bet- terment under paragraph (h)(1)(iii) of this section because it materially increases the load-carrying capacity of the building structure. The comparison rule in paragraph (h)(3)(iii) of this section does not apply to this amount because the expenditure was not necessitated by a particular event. Therefore, in accordance with paragraph (e)(2)(ii) of this section, X must treat the amount paid for betterment of the building structure as an improvement to the building and must capitalize the amount paid under paragraph (d)(1) of this section. Example 17.Material increase in capacity.X owns harbor facilities consisting of a slip for the load- ing and unloading of barges and a channel leading from the slip to the river. At the time of purchase, the channel was 150 feet wide, 1,000 feet long, and 10 feet deep. To allow for ingress and egress and for the unloading of its barges, X needs to deepen the chan- nel to a depth of 20 feet. X pays a contractor to dredge the channel to the required depth. Assume the chan- nel is the unit of property. X must capitalize as an improvement the amounts paid for the dredging be- cause they result in a material increase in the capacity of the channel under paragraph (h)(1)(iii) of this sec- tion. The comparison rule in paragraph (h)(3)(iii) of this section does not apply to these amounts paid be- cause the expenditure was not necessitated by a par- ticular event. Example 18. Not a material increase in capacity. Assume the same facts as inExample 17, except that the channel was susceptible to siltation and, by the next taxable year, the channel depth had been reduced to 18 feet. X pays a contractor to redredge the channel to a depth of 20 feet. The event necessitating the ex- penditure was the siltation of the channel. Both prior to the siltation and after the redredging, the depth of the channel was 20 feet. X is not required to treat the amounts paid to redredge the channel as a betterment under paragraphs (h)(1)(ii) or (h)(1)(iii) of this sec- tion because they do not result in a material addition to the unit of property or a material increase in the ca- pacity, productivity, efficiency, strength, or quality of the unit of property or the output of the unit of prop- erty. Example 19.Not a material increase in capac- ity. X owns a building used in its trade or business. The first floor has a drop-ceiling. X pays an amount to remove the drop-ceiling and repaint the original ceiling. Under paragraph (e)(2)(ii) of this section, if the amount paid results in a betterment to the build- ing structure or any building system, X must treat the amount as an improvement to the building. The ceiling is part of the building structure as defined under paragraph (e)(2)(ii)(A) of this section. X is not required to treat the amount paid to remove the drop-ceiling as a betterment because it did not result in a material addition under paragraph (h)(1)(ii) of this section or a material increase to the capacity, pro- ductivity, efficiency, strength, or quality of the build- ing structure or output of the building structure under paragraph (h)(1)(iii) of this section. The comparison rule in paragraph (h)(3)(iii) of this section does not apply to these amounts paid because the expenditure was not necessitated by a particular event. (i)Capitalization of restorations—(1) In general. A taxpayer must capitalize amounts paid to restore a unit of property, includingamountspaidinmakinggood the exhaustion for which an allowance is or has been made. An amount is paid to restore a unit of property only if it— (i) Is for the replacement of a compo- nent of a unit of property and the taxpayer has properly deducted a loss for that com- ponent (other than a casualty loss under §1.165–7); (ii) Is for the replacement of a com- ponent of a unit of property and the tax- payer has properly taken into account the adjusted basis of the component in realiz- ing gain or loss resulting from the sale or exchange of the component; (iii) Is for the repair of damage to a unit of property for which the taxpayer has properly taken a basis adjustment as a re- sult of a casualty loss under section 165, or relating to a casualty event described in section 165; (iv) Returns the unit of property to its ordinarily efficient operating condition if the property has deteriorated to a state of disrepair and is no longer functional for its intended use; (v) Results in the rebuilding of the unit of property to a like-new condition after the end of its class life as defined in para- graph (g)(4) of this section (see paragraph (i)(3) of this section); or (vi) Is for the replacement of a part or a combination of parts that comprise a major component or a substantial structural part of a unit of property (see paragraph (i)(4) of this section). (2)Restorations of buildings.Inthe case of a building, an amount is paid to re- store the unit of property if it restores any of the properties designated in paragraphs (e)(2)(ii), (e)(2)(iii)(B), (e)(2)(iv)(B), (e)(2)(v)(B) of this section. (3)Rebuild to like-new condition.For purposes of paragraph (i)(1)(v) of this sec- tion, a unit of property is rebuilt to a like- new condition if it is brought to the status of new, rebuilt, remanufactured, or simi- lar status under the terms of any federal regulatory guideline or the manufacturer’s original specifications. (4)Replacement of a major component or a substantial structural part. To deter- mine whether an amount is for the replace- ment of a part or a combination of parts that comprise a major component or a sub- stantial structural part of the unit of prop- erty, it is appropriate to consider all the facts and circumstances. These facts and circumstances include the quantitative or qualitative significance of the part or com- bination of parts in relation to the unit of property. A major component or substan- tial structural part includes a part or com- bination of parts that comprise a large por- tion of the physical structure of the unit of property or that perform a discrete and crit- ical function in the operation of the unit of property. However, the replacement of a minor component of the unit of property, even though such component may affect the function of the unit of property, will not generally, by itself, constitute a major component or substantial structural part. (5)Examples. The following examples illustrate the application of this paragraph (i) only and do not address whether capi- talization is required under another provi- sion of this section or another provision of the Internal Revenue Code (for example, section 263A). Unless otherwise stated, as- sume that X has not properly deducted a loss for, nor taken into account the adjusted basis on a sale or exchange of, any unit of property, asset, or component of a unit of property that is replaced: Example 1.Replacement of loss component.X owns a manufacturing building containing various types of manufacturing equipment. X does a cost segregation study of the manufacturing building and properly determines that a walk-in freezer in the man- ufacturing building is section 1245 property as de- fined in section 1245(a)(3). The freezer is not part of the building structure under paragraph (e)(2)(i) of this section or the HVAC system, which is a sepa- rate building system under paragraph (e)(2)(ii)(B)(1) of this section. Several components of the walk-in freezer cease to function and X decides to replace them. X abandons the oldfreezer components and properly recognizes a loss from the abandonment of the components. X replaces the abandoned freezer 2012–14 I.R.B.678April 2, 2012 components with new components and incurs costs to acquire and install the new components. Under paragraph (i)(1)(i) of this section, X must capital- ize the amounts paid to acquire and install the new freezer components because X replaced components for which it had properly deducted a loss. Example 2.Replacement of sold component.As- sume the same facts as inExample 1except that X did not abandon the components, but instead sold them to another party and properly recognized a loss on the sale. Under paragraph (i)(1)(ii) of this section, X must capitalize the amounts paid to acquire and in- stall the new freezer components because X replaced components for which it had properly taken into ac- count the adjusted basis of the components in realiz- ing a loss from the sale of the components. Example 3.Restoration after casualty loss.X owns an office building that it uses in its trade or business. A storm damages the office building at a time when the building has an adjusted basis of $500,000. X deducts under section 165 a casualty loss in the amount of $50,000 and properly reduces its basis in the office building to $450,000. X hires a contractor to repair the damage to the building and pays the contractor $50,000 for the work. Under paragraph (i)(1)(iii) of this section, X must capitalize the $50,000 amount paid to the contractor because X properly adjusted its basis in that amount as a result of a casualty loss under section 165. Example 4.Restoration after casualty event.As- sume the same facts as inExample 3,exceptthatX receives insurance proceeds of $50,000 after the ca- sualty to compensate for its loss. X cannot deduct a casualty loss under section 165 because its loss was compensated by insurance. However, X properly re- duces its basis in the property by the amount of the in- surance proceeds. Under paragraph (i)(1)(iii) of this section, X must capitalize the $50,000 amount paid to the contractor because X has properly taken a ba- sis adjustment relating to a casualty event described in section 165. Example 5.Restoration of property in a state of disrepair. X owns and operates a farm with several barns and outbuildings. X did not use or maintain one of the outbuildings on a regular basis, and the out- building fell into a state of disrepair. The outbuild- ing previously was used for storage but can no longer be used for that purpose because the building is not structurally sound. X decides to restore the outbuild- ing and pays an amount to shore up the walls and re- place the siding. Under paragraph (e)(2)(ii) of this section, if the amount paid results in a restoration of the building structure or any building system, X must treat the amount as an improvement to the building. The walls and siding are part of the building structure under paragraph (e)(2)(ii)(A) of this section. Under paragraph (i)(1)(iv) of this section, X must treat the amount paid to shore up the walls and replace the sid- ing as a restoration of the building structure because the amounts return the building structure to its ordi- narily efficient operating condition after it had deteri- orated to a state of disrepair and was no longer func- tional for its intended use. Therefore, in accordance with paragraph (e)(2)(ii) of this section, X must treat the amount paid as an improvement to the building and must capitalize the amount paid under paragraph (d)(2) of this section. Example 6.Rebuild of property to like-new con- dition before end of class life. X is a Class I railroad that owns a fleet of freight cars. Freight cars have a recovery period of 7 years under section 168(c) and a classlifeof14years.Every8to10years,Xrebuilds its freight cars. Ten years after X places the freight car in service, X performs a rebuild, which includes a complete disassembly, inspection, and recondition- ing or replacement of components of the suspension and draft systems, trailer hitches, and other special equipment. X modifies the car to upgrade various components to the latest engineering standards. The freight car essentially is stripped to the frame, with all of its substantial components either reconditioned or replaced. The frame itself is the longest-lasting part of the car and is reconditioned. The walls of the freight car are replaced or are sandblasted and repainted. New wheels are installed on the car. All the remaining components of the car are restored be- fore they are reassembled. At the end of the rebuild, the freight car has been restored to rebuilt condition under the manufacturer’s specifications. Assume the freight car is the unit of property. X is not required to capitalize under paragraph (i)(1)(v) of this section the amounts paid to rebuild the freight car because, although the amounts paid restore the freight car to like-new condition, the amounts were not paid after the end of the class life of the freight car. Example 7.Rebuild of property to like-new con- dition after end of class life. Assume the same facts as inExample 6, except that X rebuilds the freight car 15 years after X places it in service. Under para- graph (i)(1)(v) of this section, X must capitalize the amounts paid to rebuild the freight car because the amounts paid restore the freight car to like-new con- dition after the end of the class life of the freight car. Example 8.Replacement of major component or substantial structural part; personal property.Xisa common carrier that owns a fleet of petroleum haul- ing trucks. X pays amounts to replace the existing engine, cab, and petroleum tank with a new engine, cab, and tank. Assume the tractor of the truck (which includes the cab and the engine) is a single unit of property, and that the trailer (which contains the pe- troleum tank) is a separate unit of property. The new engine and cab constitute parts or combinations of parts that comprise a major component or substantial structural part of X’s tractor. Therefore, the amounts paid for the replacement of those components must be capitalized under paragraph (i)(1)(vi) of this section. The new petroleum tank constitutes a part or combi- nation of parts that comprise a major component and a substantial structural part of the trailer. Accordingly, the amounts paid for the replacement of the tank also must be capitalized under paragraph (i)(1)(vi) of this section. Example 9.Repair performed during a restora- tion. Assume the same facts as inExample 8, except that, at the same time the engine and cab of the trac- tor are replaced, X pays amounts to paint the cab of the tractor with its company logo and to fix a bro- ken taillight on the tractor. The repair of the bro- ken taillight and the painting of the cab generally are deductible expenses under §1.162–4T. However, under paragraph (f)(3)(i) ofthis section, a taxpayer must capitalize all the direct costs of an improve- ment and all the indirect costs that directly benefit orareincurredbyreasonofanimprovementinac- cordance with the rules under section 263A. Repairs and maintenance that do not directly benefit or are not incurred by reason of an improvement are not required to be capitalized under section 263(a), re- gardless of whether they are made at the same time as an improvement. Under paragraph (f)(3)(i) of this section, X must capitalize the amounts paid to paint the cab as part of the improvement to the tractor be- cause these amounts directly benefit and are incurred by reason of the restoration of the cab. Amounts paid to repair the broken taillight, however, are not incurred by reason of the restoration of the tractor, nor do the amounts paid directly benefit the tractor restoration, even though the repair was performed at the same time as the restoration. Thus, X must cap- italize the amounts paid to paint the cab under para- graph (i)(1)(vi) and (f)(3)(i) of this section, but X is not required to capitalize the amounts paid to repair the broken taillight. Example 10.Related amounts to replace major component or substantial structural part; personal property. (i) X owns a retail gasoline station, con- sisting of a paved area used for automobile access to the pumps and parking areas, a building used to market gasoline, and a canopy covering the gasoline pumps. The premises also consist of underground storage tanks (USTs) that are connected by piping to thepumpsandarepartofthemachineryusedinthe immediate retail sale of gas. To comply with regula- tions issued by the Environmental Protection Agency, X is required to remove and replace leaking USTs. In Year 1, X hires a contractor to perform the re- moval and replacement, which consists of removing the old tanks and installing new tanks with leak detec- tion systems. The removal of the old tanks includes removing the paving material covering the tanks, ex- cavating a hole large enough to gain access to the old tanks, disconnecting any strapping and pipe connec- tions to the old tanks, and lifting the old tanks out of the hole. Installation of the new tanks includes place- ment of a liner in the excavated hole, placement of the new tanks, installation of a leak detection system, installation of an overfill system, connection of the tanks to the pipes leading to the pumps, backfilling of the hole, and replacement of the paving. X also is required to pay a permit fee to the county to under- take the installation of the new tanks. (ii) X pays the permit fee to the county on Octo- ber 15, Year 1. On December 15, Year 1, the con- tractor completes the removal of the old USTs and bills X for the costs of removal. On January 15, Year 2, the contractor completes the installation of the new USTs and bills X for the remainder of the work. Assume that X computes its taxes on a calen- dar year basis and X’s gasoline distribution system is the unit of property. Under paragraph (i)(1)(vi) of this section, X must capitalize the amounts paid to replace the USTs as a restoration to the gasoline dis- tribution system because the USTs are parts or com- binations of parts that comprise a major component and substantial structural part of the gasoline distri- bution system. Moreover, under paragraph (f)(3) of this section, X must capitalize the costs of removing the old USTs because these amounts directly bene- fit and are incurred by reason of the improvement to the gasoline distribution system. Finally, under para- graph (f)(4) of this section, X must capitalize the ag- gregate of related amounts paid to improve the gaso- line distribution system, including the amount paid to the county, the amount paid to remove the old USTs, and the amount paid to install the new USTs, even April 2, 20126792012–14 I.R.B. though the amounts were separately invoiced, paid to different parties, and incurred in different tax years. Example 11.Not replacement of major compo- nent or substantial structural part; personal prop- erty. X owns a machine shop in which it makes dies used by manufacturers. In Year 1, X purchased a drill press for use in its production process. In Year 3, X discovers that the power switch assem- bly, which controls the supply of electric power to the drill press, has become damaged and could not operate. To correct this problem, X paid amounts to replace the power switch assembly with compara- ble, commercially available and reasonable replace- ment parts. Assume that the drill press is a unit of property under paragraph (e) of this section and the power switch assembly is a small component of the drill press that may be removed and installed with rel- ative ease. Thus, the power switch assembly is not a major component or substantial structural part of X’s drill press under paragraph (i)(3) of this section. X is not required to capitalize the costs to replace the power switch assembly under paragraph (i)(1)(vi) of this section because the replacement, by itself, does not constitute the replacement of a part or a combi- nation of parts that comprise a major component or substantial structural part of X’s drill press. But see section 263A and the regulations thereunder for the requirement to capitalize indirect costs that directly benefit or are incurred by reason of production activ- ities. Example 12.Replacement of major component or substantial structural part; roof. X owns a large retail store. X discovers a leak in the roof of the store and hires a contractor to inspect and fix the roof. The contractor discovers that a major portion of the sheathing and rafters has rotted, and recommends the replacement of the entire roof. X pays the contrac- tor to replace the entire roof with a new roof. Un- der paragraph (e)(2)(ii) of this section, if the amount paid results in a restoration of the building structure or any building system, X must treat the amount as an improvement to the building. The roof is part of the building structure under paragraph (e)(2)(ii)(A) of this section and comprises a major component or sub- stantial structural part of X’s building structure un- der paragraph (i)(4) of this section. Under paragraph (i)(1)(vi) of this section, X must treat the amount paid to replace the roof as a restoration because X paid the amount to replace a major component or substantial structural part of X’s building structure. Therefore, in accordance with paragraph (e)(2)(ii) of this section, X must treat the amount paid to restore the building structure as an improvement to the building and must capitalize the amount paid under paragraph (d)(2) of this section. Example 13.Replacement of major component or substantial structural part; roof. Assume the same facts asExample 12except the contractor rec- ommends replacement of a significant portion of the roof, but not the entire roof. Accordingly, X pays an amount to replace a large portion of the decking, insulation, and membrane of the roof of X’s retail building. The portion of the roof replaced comprises a major component or substantial structural part of the building structure under paragraph (i)(4) of this section. Thus, under paragraph (i)(1)(vi) of this sec- tion, X must treat the amount paid for the roof work as a restoration of the building structure because X paid the amount to replace a major component or substantial structural part of the building structure. Therefore, in accordance with paragraph (e)(2)(ii) of this section, X must treat the amount paid as an improvement to the building and must capitalize the amount paid under paragraph (d)(2) of this section. Example 14.Not replacement of major compo- nent or substantial structural part; roof membrane. X is in the business of manufacturing parts. X owns a factory facility in which the parts are manufactured. The roof over X’s facility is comprised of structural elements, insulation, and a waterproof membrane. Over time, the waterproof membrane began to wear and leakage began to occur. Consequently, X pays an amount to replace the plant’s worn roof membrane with a similar but new membrane. Under paragraph (e)(2)(ii) of this section, if the amount paid results in a restoration of the building structure or any building system, X must treat the amount as an improvement to the building. The roof, including the membrane, is part of the building structure as defined under para- graph (e)(2)(ii)(A) of this section. Although the roof membrane may affect the function of the building structure, it is not, by itself, a major component or substantial structural part of X’s building structure under paragraph (i)(4) of this section. Because the roof membrane is not a major component or substan- tial structural part of the building structure, X is not required to treat the amount paid to replace the roof membrane as a restoration of the building structure under paragraph (i)(1)(vi) of this section. But see section 263A and the regulations thereunder for the requirement to capitalize indirect costs that directly benefit or are incurred by reason of production activ- ities. Example 15.Replacement of major component or substantial structural part;HVAC system. X owns a building in which it operates an office that provides medical services. The building contains one HVAC system, which is comprised of a furnace, an air con- ditioning unit, and duct work that runs throughout the building to distribute the heat or air conditioning throughout the building. The furnace in X’s build- ing breaks down and X pays an amount to replace it with a new furnace. Under paragraph (e)(2)(ii) of this section, if the amount paid results in a restoration of the building structure or any building system, X must treat the amount as an improvement to the build- ing. The heating and air conditioning system, includ- ing the furnace, is a building system under paragraph (e)(2)(ii)(B)(1) of this section. The furnace performs a discrete and critical function in the operation of the HVAC system, and is therefore a major component or substantial structural part of the building system under paragraph (i)(4) of this section. Because the furnace comprises a major component or substantial structural part of a building system, X must treat the amount paid to replace the furnace as a restoration of the building system under paragraph (i)(1)(vi) of this section. Therefore, inaccordance with paragraph (e)(2)(ii) of this section, X must treat the amount paid as an improvement to the building and must capitalize the amount paid under paragraph (d)(2) of this sec- tion. Example 16.Replacement of major component or substantial structural part; HVAC system. X owns a large office building in which it provides consulting services. The building contains one HVAC system, which is comprised of one chiller unit, one boiler, pumps, duct work, diffusers, air handlers, outside air intake and a cooling tower. The chiller unit includes the compressor, evaporator, condenser, and expan- sion valve, and functions to cool the water used to generate air conditioning throughout the building. X pays an amount to replace the chiller with a more en- ergy efficient unit. Under paragraph (e)(2)(ii) of this section, if the amount paid results in a restoration of the building structure or any building system, X must treat the amount as an improvement to the building. The HVAC system, including the chiller unit, is a building system under paragraph (e)(2)(ii)(B)(1)of this section. The chiller unit performs a discrete and critical function in the operation of the HVAC system and is therefore a major component or substantial structural part of the HVAC system under paragraph (i)(4) of this section. Because the chiller unit com- prises a major component or substantial structural part of a building system, X must treat the amount paid to replace the chiller unit as a restoration to a building system under paragraph (i)(1)(vi) of this section. Therefore, in accordance with paragraph (e)(2)(ii) of this section, X must treat the amount paid as an improvement to the building and must capitalize the amount paid under paragraph (d)(2) of this section. Example 17.Not replacement of major compo- nent or substantial structural part; HVAC system.X owns an office building that it uses to provide services to customers. The building contains a HVAC system that incorporates ten roof-mounted units that provide heating and air conditioning for different parts of the building. The HVAC system also consists of controls for the entire system and duct work that distributes the heated or cooled air to the various spaces in the build- ing’s interior. X begins to experience climate con- trol problems in various offices throughout the office building and consults with a contractor to determine the cause. The contractor recommends that X replace two of the roof-mounted units. X pays an amount to replace the two specified units. No work is performed on the other roof-mounted heating/cooling units, the duct work, or the controls. Under paragraph (e)(2)(ii) of this section, if the amount paid results in a restora- tion of the building structure or any building system, X must treat the amount as an improvement to the building. The HVAC system, including the two-roof mounted units, is a building system under paragraph (e)(2)(ii)(B)(1) of this section. The two roof-mounted heating/cooling units, by themselves, do not com- prise a large portion of the physical structure of the HVAC system or perform a discrete and critical func- tion in the operation of the system. Therefore, un- der paragraph (i)(4) of this section, the two units do not constitute a major component or substantial struc- tural part of the building system. Accordingly, X is not required to treat the amount paid to replace the two roof-mounted heating/cooling units as a restora- tion of a building system under paragraph (i)(1)(iv) of this section. Example 18.Replacement of major component or substantial structural part; fire protection system. X owns a building that it uses to operate its busi- ness. X pays an amount to replace the sprinkler sys- tem in the building with a new sprinkler system. Un- der paragraph (e)(2)(ii) of this section, if the amount paid results in a restoration of the building structure or any building system, X must treat the amount as an improvement to the building. The fire protection and alarm system, including the sprinkler system, is 2012–14 I.R.B.680April 2, 2012 a building system under paragraph (e)(2)(ii)(B)(6)of this section. The sprinkler system performs a dis- crete and critical function in the operation of the fire protection and alarm system and is therefore a ma- jor component or substantial structural part of the fire protection and alarm system under paragraph (i)(4) of this section. Because the sprinkler system comprises a major component or substantial structural part of a building system, X must treat the amount paid to re- place the sprinkler system as a restoration to a build- ing system under paragraph (i)(1)(vi) of this section. Therefore, in accordance with paragraph (e)(2)(ii) of this section, X must treat the amount paid as an im- provement to the building and must capitalize the amount paid under paragraph (d)(2) of this section. Example 19.Replacement of major component or substantial structural part;electrical system.Xowns a building that it uses to operate its business. X pays an amount to replace the wiring throughout the build- ing with new wiring that meets building code require- ments. Under paragraph (e)(2)(ii) of this section, if the amount paid results in a restoration of the build- ing structure or any building system, X must treat the amount as an improvement to the building. The electrical system, including the wiring, is a building system under paragraph (e)(2)(ii)(B)(3)ofthissec- tion. The wiring performs a discrete and critical func- tion in the operation of the electrical system and is therefore a major component or substantial structural part of the electrical system under paragraph (i)(4) of this section. Because the wiring comprises a major component or substantial structural part of a build- ing system, X must treat the amount paid to replace the wiring as a restoration to a building system under paragraph (i)(1)(vi) of this section. Therefore, in ac- cordance with paragraph (e)(2)(ii) of this section, X must treat the amount paid as an improvement to the building and must capitalize the amount paid under paragraph (d)(2) of this section. Example 20.Replacement of major component or substantial structural part;plumbing system.Xowns a building in which it conducts a retail business. The retail building has three floors. The retail building has men’s and women’s restrooms on two of the three floors. X decides to update the restrooms by paying an amount to replace the plumbing fixtures in all of the restrooms, including the toilets, sinks, and associ- ated fixtures, with modern style plumbing fixtures of similar quality and function. X does not replace the pipes connecting the fixtures to the building’s plumb- ing system. Under paragraph (e)(2)(ii) of this section, if the amount paid results in a restoration of the build- ing structure or any building system, X must treat the amount as an improvement to the building. The plumbing system, including the plumbing fixtures, is a building system under paragraph (e)(2)(ii)(B)(2) of this section. The plumbing fixtures in all the re- strooms perform a discrete and critical function in the operation of the plumbing system and comprise a large portion of the physical structure of the plumbing system. Therefore, under paragraph (i)(4) of this sec- tion, the plumbing fixtures comprise a major compo- nent or substantial structural part of the plumbing sys- tem, and X must treat the amount paid to replace all of the plumbing fixtures as a restoration of a building system under paragraph (i)(1)(vi) of this section. As a result, in accordance with paragraph (e)(2)(ii) of this section, X must treat the amount paid to restore the plumbing system as an improvement to the building and must capitalize these amounts under paragraph (d)(2) of this section. Example 21.Not replacement of major compo- nent or substantial structural part; plumbing system. Assume the same facts asExample 20except that X does not update all the bathroom fixtures. Instead, X only pays an amount to replace three of the twenty sinks located in the various restrooms because these sinks had cracked. The three replaced sinks, by them- selves, do not comprise a large portion of the physical structure of the plumbing system nor do they perform a discrete and critical function in the operation of the plumbing system. Therefore, under paragraph (i)(4) of this section, the sinks do not constitute a major component or substantial structural part of the build- ing system. Accordingly, X is not required to treat the amount paid to replace the sinks as a restoration of a building system under paragraph (i)(1)(iv) of this section. Example 22.Replacement of major component or substantial structural part; remodel.(i)Xowns and operates a hotel building. X decides that to at- tract customers and to remain competitive, it needs to update the guest rooms in its facility. Accordingly, X pays amounts to replace the bathtubs, toilets, sinks, plumbing fixtures, and to repair, repaint, and retile the bathroom walls and floors, which was necessi- tated by the installation of the new plumbing com- ponents. The replacement bathtubs, toilets, sinks, plumbing fixtures, and tile are new and in a differ- ent style, but are similar in function and quality to the replaced items. X also pays amounts to replace certain section 1245 property, such as the guest room furniture, carpeting, drapes, table lamps, and parti- tion-walls separating the bathroom area. X completes this work on two floors at a time, closing those floors and leaving the rest of the hotel open for business. In Year 1, X pays amounts to perform the updates for eight of the twenty hotel room floors, and expects to complete the renovation of the remaining rooms over the next 2 years. (ii) Under paragraph (e)(2)(ii) of this section, if the amount paid results in a restoration of the building structure or any building system, X must treat the amount as an improvement to the building. The plumbing system, including the bathtubs, toilets, sinks, and plumbing fixtures, is a building system under paragraph (e)(2)(ii)(B)(2)ofthissection. All the bathtubs, toilets, sinks, and plumbing fixtures in the hotel building perform a discrete and critical function in the operation of the plumbing system and comprise a large portion of the physical structure of the plumbing system. Therefore, under paragraph (i)(4) of this section, these plumbing components comprise major components or substantial structural parts of the plumbing system, and X must treat the amount paid to replace these plumbing components as a restoration of a building system under paragraph (i)(1)(vi) of this section. In addition, under para- graph (f)(3)(i) of this section, X must treat the costs of repairing, repainting, and retiling the bathroom walls and floors as improvement costs because these costs directly benefit and are incurred by reason of the improvement to the plumbing system. Further, under paragraph (f)(4) of this section, X must treat the costs incurred in Years 1, 2, and 3 for the bath- room remodeling as improvement costs, even though they are incurred over a period of several taxable years, because they are part of the aggregate of re- lated amounts paid to improve the plumbing system. Therefore, in accordance with paragraph (e)(2)(ii) of this section, X must treat the amounts it paid to im- prove the plumbing system as the costs of improving the building and must capitalize the amounts under paragraph (d)(2) of this section. In addition, X must capitalize the amounts paid to acquire and install each section 1245 property under §1.263(a)–2T of the regulations. Example 23.Not replacement of major compo- nent or substantial structural part; windows.Xowns a large office building that it uses to provide office space for employees that manage X’s operations. The building has 300 exterior windows. In Year 1, X pays an amount to replace 30 of the exterior windows that had become damaged. At the time of these replace- ments, X has no plans to replace any other windows in the near future. Under paragraph (e)(2)(ii) of this section, if the amount paid results in a restoration of the building structure or any building system, X must treat the amount as an improvement to the building. The exterior windows are part of the building struc- ture as defined under paragraph (e)(2)(ii)(A) of this section. The 30 replacement windows do not com- prise a large portion of the physical structure of the of- fice building structure and, by themselves, do not per- form a discrete and critical function in the operation of X’s building structure. Therefore, under paragraph (i)(4) of this section, the replacement windows do not constitute major components or substantial structural parts of the building structure. Accordingly, X is not required to treat the amount paid to replace the win- dows as a restoration of a building system under para- graph (i)(1)(iv) of this section. Example 24.Replacement of major component or substantial structural part; windows. Assume the same facts asExample 23except that X replaces 200 of the 300 windows on the building. In addition, as a result of damage caused during the window replace- ments, X also pays an amount to repaint the inte- rior trims associated with the replaced windows. The 200 replacement windows comprise a large portion of the physical structure of X’s building and perform a discrete and critical function in the operation of the building structure. Therefore, under paragraph (i)(4) of this section, the 200 windows comprise a major component or substantial structural part of the build- ing structure, and X must treat the amount paid to replace the windows as a restoration of the building structure under paragraph (i)(1)(vi) of this section. As a result, in accordancewith paragraph (e)(2)(ii) of this section, X must treat the amounts paid to re- store the building structure as an improvement to the building and must capitalize the amounts under para- graph (d)(2) of this section. Example 25.Not replacement of major compo- nent or substantial structural part; floors.Xowns and operates a hotel building. X decides to refresh the appearance of the hotel lobby by replacing the floors in the lobby. The hotel lobby comprises a small por- tion of the entire hotel building. X pays an amount to replace the wood flooring in the lobby with new wood flooring. X did not replace any other floor- ing in the building. Assume that the wood flooring constitutes section 1250 property. Under paragraph (e)(2)(ii) of this section, if the amount paid results in a restoration of the building structure or any building system, X must treat the amount as an improvement to the building. The wood flooring is part of the build- April 2, 20126812012–14 I.R.B. ing structure under paragraph (e)(2)(ii)(A) of this sec- tion. The replacement wood flooring in the lobby of the building does not comprise a large portion of the physical structure of the hotel building or perform a discrete and critical function in the operation of the hotel building structure. Therefore, under paragraph (i)(4) of this section, the wood flooring does not a constitute major component or substantial structural part of the hotel building structure. Accordingly, X is not required to treat the amount paid to replace the wood flooring in the hotel lobby as a restoration un- der paragraph (i)(1)(vi) of this section. Example 26.Replacement of major component or substantial structural part;floors. Assume the same facts asExample 25except that X decides to refresh the appearance of all the public areas of the hotel building by replacing the floors. To that end, X pays an amount to replace all the wood floors in all the public areas of the hotel building with new wood floors. The public areas include the lobby, the hallways, the meeting rooms, and other public rooms throughout the hotel interiors. The replacement wood floors in all the public areas comprise a large portion of the physical structure of the hotel building struc- ture and perform a discrete and critical function in the operation of X’s hotel building structure. Therefore, under paragraph (i)(4) of this section, replacement wood floors comprise a major component or substan- tial structural part of the building structure, and X must treat the amount paid to replace the floors as a restoration of the building structure under paragraph (i)(1)(vi) of this section. As a result, in accordance with paragraph (e)(2)(ii) of this section, X must treat the amounts paid to restore the building structure as an improvement to the building and must capitalize the amounts under paragraph (d)(2) of this section. (j)Capitalization of amounts to adapt property to a new or different use—(1) In general. Taxpayers must capitalize amounts paid to adapt a unit of property to a new or different use. In general, an amount is paid to adapt a unit of property to a new or different use if the adaptation is not consistent with the taxpayer’s in- tended ordinary use of the unit of property at the time originally placed in service by the taxpayer. (2)Adapting buildings to new or dif- ferent use. In the case of a building, an amount is paid to adapt the unit of prop- erty to a new or different use if it adapts to a new or different use any of the prop- erties designated in paragraphs (e)(2)(ii), (e)(2)(iii)(B), (e)(2)(iv)(B), or (e)(2)(v)(B) of this section. (3)Examples.The following exam- ples illustrate solely the rules of this para- graph (j). Even if capitalization is not re- quired in an example under this paragraph (j), the amounts paid in the example may be subject to capitalization under a differ- ent provision of this section or another pro- vision of the Internal Revenue Code (for example, section 263A). Unless otherwise stated, assume that X has not properly de- ducted a loss for any unit of property, asset, or component of a unit of property that is removed and replaced. Example 1.New or different use. X is a manufac- turer and owns a manufacturing building that it has used for manufacturing since Year 1, when X placed it in service. In Year 30, X pays an amount to convert its manufacturing building into a showroom for its busi- ness. To convert the facility, X removes and replaces various structural components to provide a better lay- out for the showroom and its offices. X also repaints the building interiors as part of the conversion. None of the materials used are better than existing mate- rials in the building. Under paragraph (e)(2)(ii) of this section, if the amount paid adapts the building structure to a new or different use, X must treat the amount as an improvement to the building. Under paragraph (j)(1) of this section, the amount paid to convert the manufacturing facility into a showroom adapts the building structure to a new or different use because the conversion is not consistent with X’s in- tended ordinary use of the building structure at the time it was placed in service. Therefore, in accor- dance with paragraph (e)(2)(ii) of this section, X must treat the amount paid for the adaptation of the build- ing structure as an amount that improves the building. Accordingly, X must capitalize the amount as an im- provement under paragraph (d)(3) of this section. Example 2.Not a new or different use.Xowns a building consisting of twenty retail spaces. The space was designed to be reconfigured; that is, adjoin- ing spaces could be combined into one space. One of the tenants expands its occupancy to include two adjoining retail spaces. To facilitate the new lease, X pays an amount to remove the walls between the three retail spaces. Assume that the walls between spaces are part of the building and its structural com- ponents. Under paragraph (e)(2)(ii) of this section, if the amount paid adapts the building’s structure to a new or different use, X must treat the amount as an improvement to the building. Under paragraph (j)(1) of this section, the amount paid to convert three re- tail spaces into one larger space for an existing tenant does not adapt X’s building structure to a new or dif- ferent use because the combination of retail spaces is consistent with X’s intended, ordinary use of the building structure. Therefore, the amount paid by X to remove the walls does not improve the building un- der paragraph (d)(3) of this section. Example 3.Not a new or different use. X owns a building consisting of twenty retail spaces. X de- cides to sell the building. In anticipation of selling the building, X pays an amount to repaint the inte- rior walls and to refinish the hardwood floors. Under paragraph (e)(2)(ii) of this section, if the amount paid adapts the building’s structure to a new or different use, X must treat the amount as an improvement to the building. Preparing the building for sale does not constitute a new or different use for the building struc- ture under paragraph (j)(1) of this section. Therefore, the amount paid to prepare the building structure for sale does not improve the building under paragraphs (d)(3) of this section. Example 4.New or different use. X owns a par- cel of land on which it previously operated a man- ufacturing facility. Assume that the land is the unit of property. During the course of X’s operation of the manufacturing facility, the land became contami- nated with wastes from its manufacturing processes. X discontinues manufacturing operations at the site, and decides to sell the property to a developer that in- tends to use the property for residential housing. In anticipation of selling the land, X pays an amount to cleanup the land to a standard that is required for the land to be used for residential purposes. In addition, X pays an amount to regrade the land so that it can be used for residential purposes. Amounts that X pays to cleanup wastes that were discharged in the course of X’s manufacturing operations do not adapt the land to a new or different use, regardless of the extent to which the land was cleaned. Therefore, X is not re- quired to capitalize the amount paid for the cleanup under paragraph (j)(1) of this section. However, the amount paid to regrade the land so that it can be used for residential purposes adapts the land to a new or different use that is inconsistent with X’s intended or- dinary use of the property at the time it was placed in service. Accordingly, the amounts paid to regrade the land must be capitalized as improvements under para- graphs (j)(1) of this section. (k)Optional regulatory accounting method—(1)In general. This paragraph (k) provides an optional simplified method (the regulatory accounting method) for regulated taxpayers to determine whether amounts paid to repair, maintain, or im- prove tangible property are to be treated as deductible expenses or capital expendi- tures. A taxpayer that uses the regulatory accounting method described in para- graph (k)(3) of this section must use that method for property subject to regulatory accounting instead of determining whether amounts paid to repair, maintain, or im- prove property are capital expenditures or deductible expenses under the general principles of sections 162(a), 212, and 263(a). Thus, the capitalization rules in paragraph (d) (and the routine mainte- nance safe harbor described in paragraph (g))ofthissectiondonotapplytoamounts paid to repair, maintain, or improve prop- erty subject to regulatory accounting by taxpayers that use the regulatory account- ing method under this paragraph (k). However, section 263A continues to ap- ply to costs required to be capitalized to property produced by the taxpayer or to property acquired for resale. (2)Eligibility for regulatory account- ing method. A taxpayer that is engaged in a trade or business in a regulated in- dustry may use the regulatory accounting method under this paragraph (k). For pur- poses of this paragraph (k), a taxpayer in a regulated industry is a taxpayer that is sub- ject to the regulatory accounting rules of 2012–14 I.R.B.682April 2, 2012 the Federal Energy Regulatory Commis- sion (FERC), the Federal Communications Commission (FCC), or the Surface Trans- portation Board (STB). (3)Description of regulatory account- ing method. Under the regulatory account- ing method, a taxpayer must follow its method of accounting for regulatory ac- counting purposes in determining whether an amount paid improves property under this section. Therefore, a taxpayer must capitalize for Federalincome tax purposes an amount paid that is capitalized as an improvement for regulatory accounting purposes. A taxpayer must not capitalize for Federal income tax purposes under this section an amount paid that is not capitalized as an improvement for regula- tory accounting purposes. A taxpayer that uses the regulatory accounting method must use that method for all of its tangi- ble property that is subject to regulatory accounting rules. The method does not apply to tangible property that is not sub- ject to regulatory accounting rules. The method also does not apply to property for the taxable years in which the taxpayer elected to apply the repair allowance under §1.167(a)–11(d)(2). (4)Examples. Therulesofthispara- graph (k) are illustrated by the following examples: Example 1.Taxpayer subject to regulatory ac- counting rules of FERC. X is an electric utility company that operates a power plant that generates electricity and that owns and operates network as- sets to transmit and distribute the electricity to its customers. X is subject to the regulatory accounting rules of FERC and X chooses to use the regulatory accounting method under paragraph (k) of this sec- tion. X does not capitalize on its books and records for regulatory accounting purposes the cost of repairs and maintenance performed on its turbines or its network assets. Under the regulatory accounting method, X must not capitalize for Federal income tax purposes amounts paid for repairs performed on its turbines or its network assets. Example 2.Taxpayer not subject to regulatory ac- counting rules of FERC. X is an electric utility com- pany that operates a power plant to generate electric- ity. X previously was subject to the regulatory ac- counting rules of FERC but, for various reasons, X is no longer required to use FERC’s regulatory ac- counting rules. X cannot use the regulatory account- ingmethodprovidedinthisparagraph(k). Example 3.Taxpayer subject to regulatory ac- counting rules of FCC. X is a telecommunications company that is subject to the regulatory accounting rules of the FCC. X chooses to use the regulatory ac- counting method under this paragraph (k). X’s as- sets include a telephone central office switching cen- ter, which contains numerous switches and various switching equipment. X capitalizes on its books and records for regulatory accounting purposes the cost of replacing each switch. Under the regulatory account- ing method, X is required to capitalize for Federal income tax purposes amounts paid to replace each switch. Example 4.Taxpayer subject to regulatory ac- counting rules of STB. X is a Class I railroad that is subject to the regulatory accounting rules of the STB. X chooses to use the regulatory accounting method under this paragraph (k). X capitalizes on its books and records for regulatory accounting purposes the cost of locomotive rebuilds. Under the regulatory ac- counting method, X is required to capitalize for fed- eral income tax purposes amounts paid to rebuild its locomotives. (l)Methods of accounting authorized in published guidance. A taxpayer may use a repair allowance method of accounting or any other method of accounting that is au- thorized in published guidance in theFed- eral Registeror in the Internal Revenue Bulletin (see §601.601(d)(2)(ii)(b)ofthis chapter). (m)Treatment of capital expenditures. Amounts required to be capitalized un- der this section are capital expenditures and must be taken into account through a charge to capital account or basis, or in the case of property that is inventory in the hands of a taxpayer, through inclusion in inventory costs. See section 263A for the treatment of direct and indirect costs of producing property or acquiring prop- erty for resale. (n)Recovery of capitalized amounts. Amounts that are capitalized under this section are recovered through deprecia- tion, cost of goods sold, or by an adjust- ment to basis at the time the property is placed in service, sold, used, or otherwise disposed of by the taxpayer. Cost recovery is deter- mined by the applicable Internal Revenue Code and regulation provisions relating to the use, sale, or disposition of property. (o)Accounting method changes.Ex- cept as otherwise provided in this section, a change to comply with this section is a change in method ofaccounting to which the provisions of sections 446 and 481, and the regulations thereunder apply. A tax- payer seeking to change to a method of ac- counting permitted in this section must se- cure the consent of the Commissioner in accordance with §1.446–1(e) and follow the administrative procedures issued under §1.446–1(e)(3)(ii) for obtaining the Com- missioner’s consent to change its account- ing method. (p)Effective/applicability date.This section applies to taxable years beginning on or after January 1, 2012. For the ap- plicability of regulations to taxable years beginning before January 1, 2012,see §1.263(a)–3 in effect prior to January 1, 2012 (§1.263(a)–3 as contained in 26 CFR part 1 edition revised as of April 1, 2011). (q)Expiration date. The applicability of this section expires on December 23, 2014. Par. 31. Section 1.263(a)–6T is added to read as follows: §1.263(a)–6T Election to deduct or capitalize certain expenditures (temporary). (a)In general. Under certain provi- sions of the Internal Revenue Code, tax- payers may elect to treat capital expendi- tures as deductible expenses or as deferred expenses, or to treat deductible expenses as capital expenditures. (b)Election provisions. The sections referred to in paragraph (a) of this section include: (1) Section 173 (circulation expendi- tures); (2) Section 174 (research and experi- mental expenditures); (3) Section 175 (soil and water conser- vation expenditures; endangered species recovery expenditures); (4) Section 179 (election to expenses certain depreciablebusiness assets); (5) Section 179A (deduction for clean- fuel vehicles and certain refueling prop- erty); (6) Section 179B (deduction for capi- tal costs incurred in complying with envi- ronmental protection agency sulfur regula- tions); (7) Section 179C (election to expense certain refineries); (8) Section 179D (energy efficient com- mercial buildings deduction); (9) Section 179E (election to expense advanced mine safety equipment); (10) Section 180 (expenditures by farm- ers for fertilizer); (11) Section 181 (treatment of certain qualified film and television productions); (12) Section 190 (expenditures to re- move architectural and transportation bar- riers to the handicapped and elderly); (13) Section 193 (tertiary injectants); April 2, 20126832012–14 I.R.B. (14) Section 194 (treatment of refor- estation expenditures); (15) Section 195 (start-up expendi- tures); (16) Section 198 (expensing of environ- mental remediation costs); (17) Section 198A (expensing of quali- fied disaster expenses); (18) Section 248 (organization expendi- tures of a corporation); (19) Section 266 (carrying charges); (20) Section 616 (development expen- ditures); and (21) Section 709 (organization and syn- dication fees of a partnership). (c)Effective/applicability date.This section applies to taxable years be- ginning on or after January 1, 2012. For the applicability of regulations to taxable years beginning before January 1, 2012, see §1.263(a)–3 in effect prior to January 1, 2012 (§1.263(a)–3 as contained in 26 CFR part 1 edition revised as of April 1, 2011). For the effective dates of the enumerated election provisions, see those Internal Revenue Code sections and the regulations thereunder. (d)Expiration date. The applicability of this section expires on December 23, 2014. Par. 32. Section 1.263A–1 is amended by: 1. Adding paragraph (b)(14). 2. Revising paragraph (c)(4). 3. Revising paragraph (e)(2)(i)(A). 4. Revising paragraph (e)(3)(ii)(E). 5. Revising paragraph (l). 6. Adding paragraph (m). The additions and revisions read as fol- lows: §1.263A–1 Uniform capitalization of costs. ***** (b) * * * (14) [Reserved]. For further guidance, see §1.263A–1T(b)(14). (c) * * * (4) [Reserved]. For further guidance, see §1.263A–1T(c)(4). ***** (e) * * * (2) * * * (i) * * * (A) [Reserved]. For further guidance, see §1.263A–1T(e)(2)(i)(A). ***** (3) * * * (ii) * * * (E) [Reserved]. For further guidance, see §1.263A–1T(e)(3)(ii)(E). ***** (l) [Reserved]. For further guidance, see §1.263A–1T(l). (m) [Reserved]. For further guidance, see §1.263A–1T(m). Par. 33. Section 1.263A–1T is added to read as follows: §1.263A–1T Uniform capitalization of costs (temporary). (a) through (b)(13) [Reserved]. For fur- ther guidance, see §1.263A–1(a) through (b)(13). (14)Property subject to de minimis rule. Section 263A does not apply to the costs of property produced by a taxpayer to which the taxpayer properly applies the de minimisrule under §1.263(a)–2T(g). However, the cost of property to which a taxpayer properly applies thede minimis rule under §1.263(a)–2T(g) may be re- quired to be capitalized to other property as a cost incurred by reason of the produc- tion of the other property that is subject to section 263A. (c)(1) through (c)(3) [Reserved]. For further guidance, see §1.263A–1(c)(1) through (c)(3). (4)Recovery of capitalized costs. Except as provided in §1.162–3T(a)(2) (amounts paid to produce incidental ma- terials and supplies), costs that are capi- talized under section 263A are recovered through depreciation, amortization, cost of goods sold, or by an adjustment to basis at the time the property is used, sold, placed in service, or otherwise disposed of by the taxpayer. Cost recovery is determined by the applicable Internal Revenue Code and regulation provisions relating to use, sale, or disposition of property. (d)(1) through (e)(2)(i) [Reserved]. For further guidance, see §1.263A–1(d)(1) through (e)(2)(i). (A)Direct material costs.Direct mate- rials costsinclude the cost of those materi- als that become an integral part of specific property produced and those materials that are consumed in the ordinary course of production and that can be identified or as- sociated with particular units or groups of units of property produced. For example, a cost described in §1.162–3T, relating to the cost of a material or supply, may be a direct material cost. (e)(2)(i)(B) through (e)(2)(ii)(D) [Reserved].For further guidance, see §1.263A–1(e)(2)(i)(B) through (e)(2)(ii)(D). (E)Indirect material costs. Indirect material costs include the cost of mate- rials that are not an integral part of spe- cific property produced and the cost of materials that are consumed in the ordi- nary course of performing production or resale activities that cannot be identified or associated with particular units of prop- erty. Thus, for example, a cost described in §1.162–3T, relating to the cost of a ma- terial or supply, may be an indirect cost. (e)(2)(ii)(F) through (k)(5) [Re- served]. For further guidance, see §1.263A–1(e)(2)(ii)(F) through (k)(5). (l)Change in method of accounting for de minimis costs.A change in the treatment of amounts paid for property subject to thede minimisrule to com- ply with paragraph (b)(14) of this section is a change in method of accounting to which the provisions of sections 446 and 481, and the regulations thereunder ap- ply. A taxpayer seeking to change to a method of accounting permitted in para- graph (b)(14) of this section must secure the consent of the Commissioner in ac- cordance with §1.446–1(e) and follow the administrative procedures issued un- der §1.446–1(e)(3)(ii) for obtaining the Commissioner’s consent to change its ac- counting method. (m)Effective/applicability date.(1) Paragraphs (h)(2)(i)(D), (k), and (m)(1) of this section apply for taxable years ending on or after August 2, 2005. (2) Paragraph (b)(14), the introduc- tory phrase of paragraph (c)(4), the last sentence of paragraphs (e)(2)(i)(A) and (e)(2)(ii)(E), paragraph (l), and paragraph (m)(2) of this section apply to amounts paid or incurred (to acquire or produce property) in taxableyears beginning on or after January 1, 2012. For the applicability of §1.263A–1 to taxable years beginning before January 1, 2012, see §1.263A–1 in effect prior to January 1, 2012 (§1.263A–1 ascontainedin26CFRpart1editionre- vised as of April 1, 2011). (3)Expiration date. The applicability of this section expires on December 23, 2014. 2012–14 I.R.B.684April 2, 2012 Par. 34. Section 1.1016–3 is amended by: 1. Revising paragraphs (a)(1)(ii) and (j)(1). 2. Adding paragraph (j)(3). The addition and revision read as fol- lows: §1.1016–3 Exhaustion, wear and tear, obsolescence, amortization, and depletion for periods since February 13, 1913. (a) * * * (1) * * * (ii) [Reserved]. For further guidance, see §1.1016–3T(a)(1)(ii). ***** (j) * * * (1)In general. [Reserved]. For further guidance, see §1.1016–3T(j)(1). ***** (3)Applicationof §1.1016–3T(a)(1)(ii). [Reserved]. For further guidance, see §1.1016–3T(j)(3). Par. 35. Section 1.1016–3T is added to read as follows: §1.1016–3T Exhaustion, wear and tear, obsolescence, amortization, and depletion for periods since February 13, 1913 (temporary). (a)(1)(i) [Reserved]. For further guid- ance, see §1.1016–3(a)(1)(i). (a)(1)(ii) The determination of the amount properly allowable for exhaustion, wear and tear, obsolescence, amortization, and depletion must be made on the ba- sis of facts reasonably known to exist at the end of the taxable year. A taxpayer is not permitted to take advantage in a later year of the taxpayer’s prior failure to take any such allowance or the taxpayer’s taking an allowance plainly inadequate under the known facts in prior years. In the case of depreciation, if in prior years the taxpayer has consistently taken proper deductions under one method, the amount allowable for such prior years must not be increased even though a greater amount would have been allowable under another proper method. For rules governing losses on retirement or disposition of depreciable property, including rules for determining basis, see §1.167(a)–8T, §1.168(i)–1T, or §1.168(i)–8T, as applicable. The applica- tion of this paragraph is illustrated by the following example: Example. On July 1, 2011, A, a calendar-year tax- payer, purchased and placedin service “off-the-shelf” computer software at a cost of $36,000. This com- puter software is not an amortizable section 197 intangible. Pursuant to section 167(f)(1), the useful life of the computer software is 36 months. It has no salvage value. For 2011, A elected not to deduct the additional first year depreciation deduction provided by section 168(k). A did not deduct any depreciation for the computer software for 2011 and deducted de- preciation of $12,000 for the computer software for 2012. As a result, the total amount of depreciation al- lowed for the computer software as of December 31, 2012, was $12,000. However, the total amount of depreciation allowable for the computer software as of December 31, 2012, is $18,000 ($6,000 for 2011 + $12,000 for 2012). As a result, the unrecovered cost of the computer software as of December 31, 2012, is $18,000 (cost of $36,000 less the depreciation allowable of $18,000 as of December 31, 2012). Accordingly, depreciation for 2013 for the computer software is $12,000 (unrecovered cost of $18,000 divided by the remaining useful life of 18 months as of January 1, 2013, multiplied by 12 full months in 2013). (a)(2) through (i) [Reserved]. For further guidance, see §1.1016–3(a)(2) through (i). (j)(1)In general. Except as provided in paragraphs (j)(2) and (j)(3) of this sec- tion, this section applies on or after De- cember 30, 2003. For the applicability of regulations before December 30, 2003, see §1.1016–3 in effect prior to December 30, 2003 (§1.1016–3 as contained in 26 CFR part 1 edition revised as of April 1, 2003). (2) [Reserved]. For further guidance, see §1.1016–3(j)(2). (3)Applicationof §1.1016–3T(a)(1)(ii). Paragraph (a)(1)(ii) of this section applies to taxable years beginning on or after January 1, 2012. For the applicability of §1.1016–3(a)(1)(ii) to taxable years beginning before January 1, 2012, see §1.1016–3(a)(1)(ii) in effect prior to January 1, 2012 (§1.1016–3(a)(1)(ii) as contained in 26 CFR part 1 edition revised as of April 1, 2011). (4)Expiration date. The applicability of this section expires on December 23, 2014. Steven T. Miller, Deputy Commissioner for Services and Enforcement. Approved December 5, 2011. Emily S. McMahon, (Acting) Assistant Secretary oftheTreasury(TaxPolicy). (Filed by the Office of the Federal Register on December 23, 2011, 8:45 a.m., and published in the issue of the Federal Register for December 27, 2011, F.R. 26678) Section 280G.—Goldern Parachute Payments Federal short-term, mid-term, and long-term rates are set forth for the month of April 2012. See Rev. Rul. 2012-11, page 686. Section 382.—Limitation on Net Operating Loss Carryforwards and Certain Built-In Losses Following Ownership Change The adjusted applicable federal long-term rate is set forth for the month of April 2012. See Rev. Rul. 2012-11, page 686. Section 412.—Minimum Funding Standards The adjusted applicable federal short-term, mid- term, and long-term rates are set forth for the month of April 2012. See Rev. Rul. 2012-11, page 686. Section 446.—General Rule for Methods of Accounting Procedures are provided by which a taxpayer may obtain the automatic consent of the Commissioner of Internal Revenue to change to the methods of accounting provided in §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, and 1.263(a)–3T of the temporary Income Tax Regulations (T.D. 9564) for taxable years beginning on or after January 1, 2012. See Rev. Proc. 2012-19, page 689. Procedures are provided by which a taxpayer may obtain the automatic consent of the Commissioner of Internal Revenue to change to the methods of ac- counting provided in §§ 1.167(a)–4T, 1.168(i)–1T, 1.168(i)–7T, and 1.168(i)–8T of the temporary In- come Tax Regulations (T.D. 9564) for taxable years beginning on or after January 1, 2012. See Rev. Proc. 2012-20, page 700. Section 467.—Certain Payments for the Use of Property or Services The adjusted applicable federal short-term, mid- term, and long-term rates are set forth for the month of April 2012. See Rev. Rul. 2012-11, page 686. April 2, 20126852012–14 I.R.B. Section 468.—Special Rules for Mining and Solid Waste Reclamation and Closing Costs The adjusted applicable federal short-term, mid- term, and long-term rates are set forth for the month of April 2012. See Rev. Rul. 2012-11, page 686. Section 482.—Allocation of Income and Deductions Among Taxpayers Federal short-term, mid-term, and long-term rates are set forth for the month of April 2012. See Rev. Rul. 2012-11, page 686. Section 483.—Interest on Certain Deferred Payments The adjusted applicable federal short-term, mid- term, and long-term rates are set forth for the month of April 2012. See Rev. Rul. 2012-11, page 686. Section 642.—Special Rules for Credits and Deductions Federal short-term, mid-term, and long-term rates are set forth for the month of April 2012. See Rev. Rul. 2012-11, page 686. Section 807.—Rules for Certain Reserves The adjusted applicable federal short-term, mid- term, and long-term rates are set forth for the month of April 2012. See Rev. Rul. 2012-11, page 686. Section 846.—Discounted Unpaid Losses Defined The adjusted applicable federal short-term, mid- term, and long-term rates are set forth for the month of April 2012. See Rev. Rul. 2012-11, page 686. Section 1274. —Determi- nation of Issu ePriceinthe Case of Certai nDebtInstru- ments Issued for Property (Also Section s 42, 280G, 382, 412, 467, 468, 482, 483, 642, 807, 846, 1288, 7520, 7872.) Federal rates ; adjusted federal rates; adjusted fed eral long-term rate and the long-term ex empt rate.For purposes of sections 382 , 642, 1274, 1288, and other sections of t he Code, tables set forth the rates for Apr il 2012. Rev. Rul. 20 12–11 This revenu e ruling provides various prescribed rates for federal income tax pur- poses for April 2012 (the current month). Table 1 contains the short-term, mid-term, and long-term applicable federal rates (AFR) for the current month for purposes of section 1274(d) of the Internal Revenue Code. Table 2 contains the short-term, mid-term, and long-term adjusted appli- cable federal rates (adjusted AFR) for the current month for purposes of section 1288(b). Table 3 sets forth the adjusted federal long-term rate and the long-term tax-exempt rate described in section 382(f). Table 4 contains the appropriate percentages for determining the low-in- come housing credit described in section 42(b)(1) for buildings placed in service during the current month. However, under section 42(b)(2), the applicable percentage for non-federally subsidized new build- ings placed in service after July 30, 2008, and before December 31, 2013, shall not be less than 9%. Finally, Table 5 contains the federal rate for determining the present value of an annuity, an interest for life or for a term of years, or a remainder or a reversionary interest for purposes of section 7520. 2012–14 I.R.B.686April 2, 2012 REV. RUL. 2012–11 TABLE 1 Applicable Federal Rates (AFR) for April 2012 Period for Compounding AnnualSemiannualQuarterlyMonthly Short-term AFR .25%.25%.25%.25% 110% AFR.28%.28%.28%.28% 120% AFR.30%.30%.30%.30% 130% AFR.33%.33%.33%.33% Mid-term AFR 1.15%1.15%1.15%1.15% 110% AFR1.27%1.27%1.27%1.27% 120% AFR1.38%1.38%1.38%1.38% 130% AFR 1.51%1.50%1.50%1.50% 150% AFR 1.74%1.73%1.73%1.72% 175% AFR 2.02%2.01%2.00%2.00% Long-term AFR2.72%2.70%2.69%2.68% 110% AFR2.99%2.97%2.96% 2.95% 120% AFR3.27%3.24%3.23%3.22% 130% AFR 3.54%3.51% 3.49%3.48% REV. RUL. 2012–11 TABLE 2 Adjusted AFR for April 2012 Period for Compounding AnnualSemiannualQuarterlyMonthly Short-term adjusted AFR .22%.22%.22%.22% Mid-term adjusted AFR .95%.95%.95%.95% Long-term adjusted AFR 3.04%3.02%3.01%3.00% REV. RUL. 2012–11 TABLE 3 Rates Under Section 382 for April 2012 Adjusted federal long-term rate for the current month3.04% Long-term tax-exempt rate for ownership changes during the current month (the highest of the adjusted federal long-term rates for the current month and the prior two months.)3.26% REV. RUL. 2012–11 TABLE 4 Appropriate Percentages Under Section 42(b)(1) for April 2012 Note: Under Section 42(b)(2), the applicable percentage for non-federally subsidized new buildings placed in service after July 30, 2008, and before December 31, 2013, shall not be less than 9%. Appropriate percentage for the 70% present value low-income housing credit7.44% Appropriate percentage for the 30% present value low-income housing credit3.19% April 2, 20126872012–14 I.R.B. REV. RUL. 2012–11 TABLE 5 Rate Under Section 7520 for April 2012 Applicable federal rate for determining the present value of an annuity, an interest for life or a term of years, or a remainder or reversionary interest1.4% Section 1288.—Treatment of Original Issue Discount on Tax-Exempt Obligations The adjusted applicable federal short-term, mid- term, and long-term rates are set forth for the month of April 2012. See Rev. Rul. 2012-11, page 686. Section 7520.—Valuation Tables The adjusted applicable federal short-term, mid- term, and long-term rates are set forth for the month of April 2012. See Rev. Rul. 2012-11, page 686. Section 7872.—Treatment of Loans With Below-Market Interest Rates The adjusted applicable federal short-term, mid- term, and long-term rates are set forth for the month of April 2012. See Rev. Rul. 2012-11, page 686. 2012–14 I.R.B.688April 2, 2012 Part III. Administrative, Procedural, and Miscellaneous 26 CFR 601.204: Changes in accounting periods and methods of accounting. (Also Part I, §§ 162, 263(a), 263A, 446, 481; 1.446–1.) Rev. Proc. 2012–19 SECTION 1. PURPOSE This revenue procedure provides the procedures by which a taxpayer may obtain the automatic consent of the Com- missioner of Internal Revenue to change to the methods of accounting provided in §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, and 1.263(a)–3T of the tem- porary Income Tax Regulations for taxable years beginning on or after January 1, 2012. SECTION 2. BACKGROUND .01 The Internal Revenue Service (IRS) and the Treasury Department re- cently issued temporary regulations under §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, and 1.263(a)–3T (T.D. 9564, 2012–14 I.R.B. 614 [76 Fed. Reg. 81,060]). Section 1.162–3T provides rules for materials and supplies. Section 1.162–4T provides rules for amounts paid or incurred for repairs and maintenance. Section 1.263(a)–1T provides general rules for capital expenditures. Section 1.263(a)–2T provides rules for amounts paid or incurred for the acquisition and production of tangible property. Section 1.263(a)–3T provides rules for amounts paid or incurred for the improvement of tangible property. The sections generally are effective for taxable years beginning on or after January 1, 2012. .02 Except as otherwise expressly pro- vided by the Internal Revenue Code or the regulations thereunder, § 446(e) and § 1.446–1(e)(2) require a taxpayer to se- cure the consent of the Commissioner be- fore changing a method of accounting for federal income tax purposes. .03 Sections 1.162–3T(i), 1.162–4T(b), 1.263(a)–1T(f), 1.263(a)–2T(j), and 1.263(a)–3T(o) provide that a taxpayer seeking to change to a method of account- ingprovidedinthetemporaryregulations must secure the consent of the Commis- sioner in accordance with the requirements of § 1.446–1(e). .04 Section 1.446–1(e)(3)(ii) authorizes the Commissioner to prescribe administra- tive procedures setting forth the terms and conditions necessary for a taxpayer to ob- tain consent to change a method of ac- counting. Rev. Proc. 2011–14 provides procedures by which a taxpayer may ob- tain automatic consent from the Commis- sioner to change to a method of accounting described in the APPENDIX of Rev. Proc. 2011–14. .05 Section 4.01 of this revenue pro- cedure modifies the APPENDIX of Rev. Proc. 2011–14 by reserving sections 3.05 and 3.06 because they are obsolete for taxable years beginning on or after Jan- uary 1, 2012. Section 4.02 of this revenue procedure modifies the APPENDIX of Rev. Proc. 2011–14 by adding sections 3.10 through 3.19 and sections 10.08 to 10.10 to the APPENDIX to provide additional changes in methods of account- ing that are consistent with § 1.162–3T, § 1.162–4T, § 1.263(a)–1T, § 1.263(a)–2T, or § 1.263(a)–3T. In addition, sections 6.20 and 10.07 of the Appendix of Rev. Proc. 2011–14 are modified to provide changes in methods of accounting that are consis- tent with § 1.162–3T and § 1.263(a)–2T. SECTION 3. SCOPE This revenue procedure applies to a tax- payer that wants to change its methods of accounting to comply with § 1.162–3T, § 1.162–4T, § 1.263(a)–1T, § 1.263(a)–2T, or § 1.263(a)–3T. SECTION 4. CHANGES IN METHODS OF ACCOUNTING .01Modifications to existing automatic changes. (1) Sections 3.05 and 3.06 of the AP- PENDIX to Rev. Proc. 2011–14 are mod- ified to read as follows: 3.05Reserved. 3.06Reserved. .02New automatic changes. (1) Rev. Proc. 2011–14 is modified to add new section 3.10 of the APPENDIX, to read as follows: .10Deducting repair and maintenance costs. (1)Description of change. (a)Applicability. This change applies to a taxpayer that wants to change from capitalizing under § 263(a) amounts paid or incurred for tangible property to deduct- ing these amounts as repair and mainte- nance costs under § 162 and § 1.162–4T. This change also applies to a taxpayer that wants to change its units of property un- der § 1.263(a)–3T(e) solely for purposes of determining whether amounts paid or incurred improve a unit of property under § 1.263(a)–3T. (b)Inapplicability. This change does not apply to the following: (i) A taxpayer that is required under § 263A and the regulations thereunder to capitalize the costs for which the taxpayer wants to change its method of accounting under section 3.10 of this APPENDIX if the taxpayer is not capitalizing these costs, unless the taxpayer concurrently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable); (ii) A taxpayer that wants to change its method of accounting for dispositions of depreciable property, including a change in the asset disposed of (but see sections 6.29, 6.30, and 6.31 of this APPENDIX); or (iii) For any taxable year in which the § 1.167(a)–11(d)(2) repair allowance election was made, any property sub- ject to the repair allowance under § 1.167(a)–11(d)(2) (including expendi- tures incurred after December 31, 1980, for the repair, maintenance, rehabilitation, or improvement of property placed in ser- vice before January 1, 1981). (2)Certain scope limitations inappli- cable. The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of the APPENDIX (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 3.10(5)(a) of this APPENDIX, the scope limitations in section 4.02 of this revenue April 2, 20126892012–14 I.R.B. procedure do not apply to the taxpayer for either change. (3)Amounts taken into account.Ap- plicable provisions of the Code, regula- tions, and other guidance published in the IRB prescribe the manner in which a liabil- ity that has been incurred is taken into ac- count. For example, for a taxpayer with in- ventories, certain repair and maintenance costs must be included in inventory costs and may be recovered through the cost of goods sold.See§ 1.263A–1(e)(3)(ii)(O). A taxpayer may not rely on the provisions of section 3.10 of this APPENDIX to take a current deduction for such costs. (4)Concurrent automatic change. (a) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 that includes both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (b) A taxpayer that wants to make this change and a concurrent change to a method under §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, or 1.263(a)–3T with the same year of change should file a single Form 3115 that includes all of the concurrent method changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for all concurrent changes on the appropriate line on that Form 3115. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (5)Section 481(a) adjustment. (a) A taxpayer changing to this method of accounting must not include in the § 481(a) adjustment any amount attribut- able to property for which the taxpayer elected to apply the repair allowance under § 1.167(a)–11(d)(2) for any taxable year in which the repair allowance election was made. (b) By following the sampling proce- dures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of accounting under this section 3.10 of the APPENDIX may use statisti- cal sampling in determining the § 481(a) adjustment. Sampling methodologies not described in Rev. Proc. 2011–42 are not permitted. (c) A taxpayer making this change must attach to its Form 3115 a schedule for the section 481(a) adjustment listing the ad- justment amounts for each property classi- fication (e.g., 5-year property, 7-year prop- erty, or nonresidential real property). (6)Statistical sampling. By following the sampling procedures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a tax- payer changing its method of accounting under this section 3.10 of the APPENDIX may use statistical sampling to support items on its income tax returns under § 162 and §§ 1.162–4T and 1.263(a)–3T(d). Sampling methodologies not described in Rev. Proc. 2011–42 are not permitted. (7)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its methodof accounting under this section 3.10 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 3.07(5)(a) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (8)Designated automatic accounting method change number. The designated automatic accounting method change number for a change in method of account- ingundersection3.10ofthisAPPENDIX is “162.”Seesection 6.02(4) of this rev- enue procedure. (9)Contact information. For further information regarding a change under this section, contact Alan S. Williams at 202–622–4950 (not a toll-free call). (2) Rev. Proc. 2011–14 is modified to add new section 3.11 of the APPENDIX, to read as follows: .11Change to the regulatory account- ing method. (1)Description of change. (a)Applicability. This change ap- plies to a regulated taxpayer under § 1.263(a)–3T(k)(2) that wants to change its method of accounting for amounts paid or incurred to repair or maintain tangible property to follow its method of accounting for regulatory account- ing purposes to determine whether an amount paid or incurred improves prop- erty under § 1.263(a)–3T, consistent with § 1.263(a)–3T(k). (b)Inapplicability. This change does not apply to the following (i) Any tangible property that is not sub- ject to regulatory accounting rules; (ii) For any taxable year in which the § 1.167(a)–11(d)(2) repair allowance election was made, any property sub- ject to the repair allowance under § 1.167(a)–11(d)(2) (including expendi- tures incurred after December 31, 1980, for the repair, maintenance, rehabilitation, or improvement of property placed in ser- vice before January 1, 1981); (iii) A taxpayer that is required under § 263A and the regulations thereunder to capitalize the costs for which the taxpayer wants to change its method of accounting under section 3.11 of this APPENDIX if the taxpayer is not capitalizing these costs, unless the taxpayer concurrently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable); or (iv) A taxpayer that wants to change its method of accounting for dispositions of depreciable property, including a change in the asset disposed of (but see sections 6.29, 6.30, and 6.31 of this APPENDIX); (2)Certain scope limitations inappli- cable. The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of the APPENDIX (as applicable) for its first or second 2012–14 I.R.B.690April 2, 2012 taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 3.11(4)(a) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (3)Concurrent automatic change. (a) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 that includes both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (b) A taxpayer that wants to make this change and a concurrent change to a method under §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, or 1.263(a)–3T with the same year of change should file a single Form 3115 that includes all of the concurrent method changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for all concurrent changes on the appropriate line on that Form 3115. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (4)Section 481(a) adjustment. (a) A taxpayer changing to this method of accounting must not include in the § 481(a) adjustment any amount attribut- able to property for which the taxpayer elected to apply the repair allowance under § 1.167(a)–11(d)(2) for any taxable year in which the repair allowance election was made. (b) By following the sampling proce- dures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of accounting under this section 3.11 of the APPENDIX may use statisti- cal sampling in determining the § 481(a) adjustment. Sampling methodologies not described in Rev. Proc. 2011–42 are not permitted. (5)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its method of accounting under this section 3.11 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 3.11(5)(a) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (6)Designated automatic accounting method change number. The designated automatic accounting method change number for a change in method of account- ingundersection3.11ofthisAPPENDIX is “163.”Seesection 6.02(4) of this rev- enue procedure. (7)Contact information. For further information regarding a change under this section, contact Alan S. Williams at 202–622–4950 (not a toll-free call). (3) Rev. Proc. 2011–14 is modified to add new section 3.12 of the APPENDIX, to read as follows: .12Deducting non-incidental materials andsupplieswhenusedorconsumed. (1)Description of change. (a)Applicability. This change applies to a taxpayer that wants to change its method of accounting for non-inciden- tal materials and supplies, as defined in § 1.162–3T(a)(1) and (c)(1), to comply with the definition and to change to the method of deducting such amounts in the taxable year in which they are actu- ally used or consumed, consistent with § 1.162–3T. (b)Inapplicability. This change does not apply to the following: (i) rotable or temporary spare parts; or (ii) a taxpayer that is required under § 263A and the regulations thereunder to capitalize the costs for which the taxpayer wants to change its method of accounting under section 3.12 of this APPENDIX if the taxpayer is not capitalizing these costs, unless the taxpayer concurrently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable). (2)Certain scope limitations inappli- cable. The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of the APPENDIX (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 3.12(4)(a) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (3)Amounts taken into account.Ap- plicable provisions of the Code, regula- tions, and other guidance published in the IRB prescribe the manner in which a lia- bility that has been incurred is taken into account. For example, for a taxpayer with inventories, certain materials and supplies costs must be included in inventory costs and may be recovered through the cost of goods sold. See § 1.263A–1(e)(3)(ii)(E). A taxpayer may not rely on the provisions ofsection3.12ofthisAPPENDIXtotake a current deduction for such costs. (4)Concurrent automatic change. (a) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 that includes both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (b) A taxpayer that wants to make this change and a concurrent change to a method under §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, or 1.263(a)–3T with the same year of change should file a single Form 3115 that includes all of the concurrent method changes, in which case April 2, 20126912012–14 I.R.B. the taxpayer must enter the designated automatic accounting method change numbers for all concurrent changes on the appropriate line on that Form 3115. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (5)Section 481(a) adjustment. (a) A taxpayer changing to this method of accounting must calculate a § 481(a) adjustment that takes into account only amounts paid or incurred in taxable years beginning on or after January 1, 2012. (b) By following the sampling proce- dures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of accounting under this section 3.12 of the APPENDIX may use statisti- cal sampling in determining the § 481(a) adjustment. Sampling methodologies not described in Rev. Proc. 2011–42 are not permitted. (6)Statistical sampling. By following the sampling procedures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of account- ing under this section 3.12 of the APPEN- DIX may use statistical sampling to sup- port items on its income tax returns under § 1.162–3T(a)(2). Sampling methodolo- gies not described in Rev. Proc. 2011–42 are not permitted. (7)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its method of accounting under this section 3.12 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 3.12(4)(a) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (8)Designated automatic accounting method change number. The designated automatic accounting method change number for a change in method of account- ingundersection3.12ofthisAPPENDIX is “164.”Seesection 6.02(4) of this rev- enue procedure. (9)Contact information. For further information regarding a change under this section, contact Justin G. Meeks at 202–622–5020 (not a toll-free call). (4) Rev. Proc. 2011–14 is modified to add new section 3.13 of the APPENDIX, to read as follows: .13Deducting incidental materials and supplies when paid or incurred. (1)Description of change. (a)Applicability. This change ap- plies to a taxpayer that wants to change its method of accounting for inciden- tal materials and supplies, as defined in § 1.162–3T(a)(2) and (c)(1), to comply with the definition and to change to the method of deducting such amounts in the taxable year in which they are paid or incurred, consistent with § 1.162–3T. (b)Inapplicability. This change does not apply to a taxpayer that is required un- der § 263A and the regulations thereunder to capitalize the costs for which the tax- payer wants to change its method of ac- counting under section 3.13 of this AP- PENDIX if the taxpayer is not capitaliz- ing these costs, unless the taxpayer con- currently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable). (2)Certain scope limitations inappli- cable. The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of the APPENDIX (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 3.13(4)(a) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (3)Amounts taken into account.Ap- plicable provisions of the Code, regula- tions, and other guidance published in the IRB prescribe the manner in which a lia- bility that has been incurred is taken into account. For example, for a taxpayer with inventories, certain materials and supplies costs must be included in inventory costs and may be recovered through the cost of goods sold. See § 1.263A–1(e)(3)(ii)(E). A taxpayer may not rely on the provisions ofsection3.13ofthisAPPENDIXtotake a current deduction for such costs. (4)Concurrent automatic change. (a) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 that includes both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (b) A taxpayer that wants to make this change and a concurrent change to a method under §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, or 1.263(a)–3T with the same year of change should file a single Form 3115 that includes all of the concurrent method changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for all concurrent changes on the appropriate line on that Form 3115. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (5)Section 481(a) adjustment. (a) A taxpayer changing to this method of accounting must calculate a § 481(a) adjustment that takes into account only amounts paid or incurred in taxable years beginning on or after January 1, 2012. (b) By following the sampling proce- dures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of accounting under this section 3.13 of the APPENDIX may use statisti- cal sampling in determining the § 481(a) adjustment. Sampling methodologies not described in Rev. Proc. 2011–42 are not permitted. (6)Statistical sampling. By following the sampling procedures provided in Rev. 2012–14 I.R.B.692April 2, 2012 Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of account- ing under this section 3.13 of the APPEN- DIX may use statistical sampling to sup- port items on its income tax returns under § 1.162–3T(a)(2). Sampling methodolo- gies not described in Rev. Proc. 2011–42 are not permitted. (7)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its method of accounting under this section 3.13 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 3.13(4)(a) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (8)Designated automatic accounting method change number. The designated automatic accounting method change number for a change in method of account- ing under section 3.13 of this APPENDIX is “165.”Seesection 6.02(4) of this rev- enue procedure. (9)Contact information. For further information regarding a change under this section, contactJustin G. Meeks at 202–622–5020 (not a toll-free call). (5) Rev. Proc. 2011–14 is modified to add new section 3.14 of the APPENDIX, to read as follows: .14Deducting non-incidental rotable and temporary spare parts when disposed of. (1)Description of change. (a)Applicability. This change applies to a taxpayer that wants to change its method of accounting for costs to acquire or produce non-incidental rotable and temporary spare parts to the method of deducting such costs in the taxable year in which the taxpayer disposes of the parts (described in §1.162–3T(a)(3)), consistent with § 1.162–3T. (b)Inapplicability. This change does not apply to a taxpayer that is required un- der § 263A and the regulations thereunder to capitalize the costs for which the tax- payer wants to change its method of ac- counting under section 3.14 of this AP- PENDIX if the taxpayer is not capitaliz- ing these costs, unless the taxpayer con- currently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable). (2)Certain scope limitations inappli- cable. The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of the APPENDIX (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 3.14(3)(a) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (3)Concurrent automatic change. (a) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 that includes both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (b) A taxpayer that wants to make this change and a concurrent change to a method under §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, or 1.263(a)–3T with the same year ofchange should file a single Form 3115 that includes all of the concurrent method changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for all concurrent changes on the appropriate line on that Form 3115. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (4)Section 481(a) adjustment. (a) A taxpayer changing to this method of accounting must calculate a § 481(a) adjustment that takes into account only amounts paid or incurred in taxable years beginning on or after January 1, 2012. (b) By following the sampling proce- dures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of accounting under this section 3.14 of the APPENDIX may use statisti- cal sampling in determining the § 481(a) adjustment. Sampling methodologies not described in Rev. Proc. 2011–42 are not permitted. (5)Statistical sampling. By following the sampling procedures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of account- ing under this section 3.14 of the APPEN- DIX may use statistical sampling to sup- port items on its income tax returns under § 1.162–3T(a)(3). Sampling methodolo- gies not described in Rev. Proc. 2011–42 are not permitted. (6)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its method of accounting under this section 3.14 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 3.14(3)(a) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section April 2, 20126932012–14 I.R.B. 6.02(7)(b) (providing the mailing address) of this revenue procedure. (7)Designated automatic accounting method change number. The designated automatic accounting method change number for a change in method of account- ing under section 3.14 of this APPENDIX is “166.”Seesection 6.02(4) of this rev- enue procedure. (8)Contact information. For further information regarding a change under this section, contact Alan S. Williams at 202–622–4950 (not a toll-free call). (6) Rev. Proc. 2011–14 is modified to add new section 3.15 of the APPENDIX, to read as follows: .15Change to the optional method for rotable and temporary spare parts. (1)Description of change. (a)Applicability. This change applies to a taxpayer that wants to change its method of accounting for rotable and tem- porary spare parts to the optional method of accounting for rotable and temporary spare parts (described in § 1.162–3T(e)), consistent with § 1.162–3T. (b)Inapplicability. This change does not apply to a taxpayer that is required un- der § 263A and the regulations thereunder to capitalize the costs for which the tax- payer wants to change its method of ac- counting under section 3.15 of this AP- PENDIX if the taxpayer is not capitaliz- ing these costs, unless the taxpayer con- currently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable). (2)Certain scope limitations inappli- cable. The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of the APPENDIX (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 3.15(3)(a) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (3)Concurrent automatic change. (a) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 that includes both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (b) A taxpayer that wants to make this change and a concurrent change to a method under §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, or 1.263(a)–3T with the same year ofchange should file a single Form 3115 that includes all of the concurrent method changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for all concurrent changes on the appropriate line on that Form 3115. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (4)Section 481(a) adjustment.Byfol- lowing the sampling procedures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of accounting under this section 3.15 of the APPENDIX may use statistical sampling in determining the § 481(a) adjustment. Sampling methodologies not described in Rev. Proc. 2011–42 are not permitted. (5)Statistical sampling. By following the sampling procedures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of account- ing under this section 3.15 of the APPEN- DIX may use statistical sampling to sup- port items on its income tax returns under § 1.162–3T(e). Sampling methodologies not described in Rev. Proc. 2011–42 are not permitted. (6)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its methodof accounting under this section 3.15 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 3.15(3)(a) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (7)Designated automatic accounting method change number. The designated automatic accounting method change number for a changein method of account- ingundersection3.15ofthisAPPENDIX is “167.”Seesection 6.02(4) of this rev- enue procedure. (8)Contact information. For further information regarding a change under this section, contact Alan S. Williams at 202–622–4950 (not a toll-free call). (7) Rev. Proc. 2011–14 is modified to add new section 3.16 of the APPENDIX, to read as follows: .16Deducting dealer expenses that fa- cilitate the sale of property. (1)Description of change. (a)Applicability. This change applies to a dealer in property that wants to change its method of accounting for commissions and other costs paid or incurred to facilitate the sale of tangible property to the method of treating such costs as ordinary and nec- essary business expenses, consistent with § 1.263(a)–1T(d)(1). (b)Inapplicability. This change does not apply to liabilities incurred to facilitate the disposition of assets that constitute a trade or business.See§ 1.263(a)–5(g). (2)Certain scope limitations inapplica- ble. The scope limitations in section 4.02 of this revenue procedure do not apply to a taxpayer that makes this change for its first or second taxable year beginning after De- cember 31, 2011. (3)Concurrent automatic change.A taxpayer that wants to make this change and a concurrent change to a method un- der §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, or 1.263(a)–3T with the same year of change should file a single Form 3115 that includes all of the concurrent method changes, in which case the tax- 2012–14 I.R.B.694April 2, 2012 payer must enter the designated automatic accounting method change numbers for all concurrent changes on the appropriate line on that Form 3115. For guidance on fil- ingasingleapplicationfortwoormore changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (4)Ogden copy of Form 3115 required in lieu of national office copy.Atax- payer changing its method of accounting under this section 3.16 of the APPEN- DIX must file a signed copy of its com- pleted Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the na- tional office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the origi- nal Form 3115 with its federal income tax return for the year of change.Seesec- tions 6.02(3)(a)(ii)(B) (providing the gen- eral rules) and section 6.02(7)(b) (provid- ing the mailing address) of this revenue procedure. (5)Designated automatic accounting method change number. The designated automatic accounting method change number for a change in method of account- ing under section 3.16 of this APPENDIX is “168.”Seesection 6.02(4) of this rev- enue procedure. (6)Contact information. For further information regarding a change under this section, contact Alan S. Williams at 202–622–4950 (not a toll-free call). (8) Rev. Proc. 2011–14 is modified to add new section 3.17 of the APPENDIX, to read as follows: .17Deducting de minimis amounts. (1)Description of change. (a)Applicability. This change applies to a taxpayer that wants to change its method of accounting for amounts paid or incurred to acquire or produce (including any amounts paid or incurred to facilitate the acquisition and production of) a unit of property to the method of applying the de minimisrule under §§ 1.263(a)–2T(g) and 1.263A–1T(b)(14) to such amounts, consistent with §§ 1.263(a)–2T. (b)Inapplicability. This change does not apply to the following: (i) amounts paid for property that is or is intended to be included in inventory prop- erty; (ii) amounts paid for land; (iii) start-up expenditures as defined in § 195(c)(1); or (iv) a taxpayer that is required under § 263A and the regulations thereunder to capitalize the costs for which the taxpayer wants to change its method of accounting under section 3.17 of this APPENDIX if the taxpayer is not capitalizing these costs, unless the taxpayer concurrently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable). (2)Certain scope limitations inappli- cable. The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of the APPENDIX (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 3.17(3)(a) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (3)Concurrent automatic change. (a) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 that includes both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (b) A taxpayer that wants to make this change and a concurrent change to a method under §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, or 1.263(a)–3T with the same year ofchange should file a single Form 3115 that includes all of the concurrent method changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for all concurrent changes on the appropriate line on that Form 3115. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (4)Section 481(a) adjustment.Atax- payer changing to this method of account- ing must calculate a § 481(a) adjustment that takes into account only amounts paid or incurred to acquire or produce property in taxable years beginning on or after Jan- uary 1, 2012. (5)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its method of accounting under this section 3.17 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 3.17(3)(a) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (6)Designated automatic accounting method change number. The designated automatic accounting method change number for a changein method of account- ingundersection3.17ofthisAPPENDIX is “169.”Seesection 6.02(4) of this rev- enue procedure. (7)Contact information. For further information regarding a change under this section, contact Alan S. Williams at 202–622–4950 (not a toll-free call). (9) Rev. Proc. 2011–14 is modified to add new section 3.18 of the APPENDIX, to read as follows: .18Deducting certain costs for investi- gating or pursuing the acquisition of prop- erty. (1)Description of change. (a)Applicability. This change applies to the following: (i) a taxpayer that wants to change its method of accounting from capitalizing to deducting amounts paid or incurred in the process of investigating or otherwise April 2, 20126952012–14 I.R.B. pursuing the acquisition of real property if the amounts meet the requirements of § 1.263(a)–2T(f)(2)(iii), consistent with § 1.263(a)–2T; or (ii) a taxpayer that wants to change its method of accounting from capitalizing to deducting amounts paid or incurred in the process of investigating or otherwise pursuing the acquisition of real or personal property if the amounts are for employee compensation or overhead costs under § 1.263(a)–2T(f)(2)(iv), consistent with § 1.263(a)–2T. (b)Inapplicability. This change does not apply to the following: (i) start-up expenditures as defined in § 195(c)(1); or (ii) a taxpayer that is required under § 263A and the regulations thereunder to capitalize the costs for which the taxpayer wants to change its method of accounting under section 3.18 of this APPENDIX if the taxpayer is not capitalizing these costs, unless the taxpayer concurrently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable). (2)Certain scope limitations inappli- cable. The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of the APPENDIX (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 3.18(3)(a) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (3)Concurrent automatic change. (a) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 that includes both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (b) A taxpayer that wants to make this change and a concurrent change to a method under §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, or 1.263(a)–3T with the same year ofchange should file a single Form 3115 that includes all of the concurrent method changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for all concurrent changes on the appropriate line on that Form 3115. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (4)Section 481(a) adjustment.Atax- payer changing to this method of account- ing must calculate a § 481(a) adjustment that takes into account only amounts paid or incurred in taxable years beginning on or after January 1, 2012. (5)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its methodof accounting under this section 3.18 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 3.18(3)(a) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (6)Designated automatic accounting method change number. The designated automatic accounting method change number for a change in method of account- ingundersection3.18ofthisAPPENDIX is “170.”Seesection 6.02(4) of this rev- enue procedure. (7)Contact information. For further information regarding a change under this section, contact Alan S. Williams at 202–622–4950 (not a toll-free call). (10) Rev. Proc. 2011–14 is modified to add new section 3.19 of the APPENDIX, to read as follows: .19Change to the safe harbor for rou- tine maintenance on property other than buildings. (1)Description of change. (a)Applicability. This change applies to a taxpayer that wants to change its method of accounting for amounts paid or incurred for routine maintenance per- formed on a unit of property to the method of treating such amounts as amounts that do not improve the unit of property, con- sistent with § 1.263(a)–3T(g). (b)Inapplicability. This change does not apply to the following: (i) a building or a structural component of a building; or (ii) a taxpayer that is required under § 263A and the regulations thereunder to capitalize the costs for which the taxpayer wants to change its method of accounting under section 3.19 of this APPENDIX if the taxpayer is not capitalizing these costs, unless the taxpayer concurrently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable). (2)Certain scope limitations inappli- cable. The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of the APPENDIX (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 3.19(4)(a) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (3)Amounts taken into account.Ap- plicable provisions of the Code, regula- tions, and other guidance published in the IRB prescribe the manner in which a liabil- ity that has been incurred is taken into ac- count. For example, for a taxpayer with in- ventories, certain repair and maintenance 2012–14 I.R.B.696April 2, 2012 costs must be included in inventory costs and may be recovered through the cost of goods sold.See§ 1.263A–1(e)(3)(ii)(E). A taxpayer may not rely on the provisions of section 3.19 of this APPENDIX to take a current deduction for such costs. (4)Concurrent automatic change. (a) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 that includes both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (b) A taxpayer that wants to make this change and a concurrent change to a method under §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, or 1.263(a)–3T with the same year of change should file a single Form 3115 that includes all of the concurrent method changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for all concurrent changes on the appropriate line on that Form 3115. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (5)Section 481(a) adjustment.Byfol- lowing the sampling procedures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of accounting under this section 3.19 of the APPENDIX may use statistical sampling in determining the § 481(a) adjustment. Sampling methodologies not described in Rev. Proc. 2011–42 are not permitted. (6)Statistical sampling. By following the sampling procedures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of account- ing under this section 3.19 of the APPEN- DIX may use statistical sampling to sup- port items on its income tax returns under § 1.263(a)–3T(g). Sampling methodolo- gies not described in Rev. Proc. 2011–42 are not permitted. (7)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its method of accounting under this section 3.19 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 3.19(4)(a) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (8)Designated automatic accounting method change number. The designated automatic accounting method change number for a change in method of account- ingundersection3.19ofthisAPPENDIX is “171.”Seesection 6.02(4) of this rev- enue procedure. (9)Contact information. For further information regarding a change under this section, contact Alan S. Williams at 202–622–4950 (not a toll-free call). (11) Rev. Proc. 2011–14 is modified to add new section 10.08 of the APPENDIX, to read as follows: .08Non-dealer expense to facilitate the sale of property. (1)Description of change. (a)Applicability. This change applies to a taxpayer that is not a dealer in property and wants to change its method of account- ing for commissions and other costs paid or incurred to facilitate the sale of property to the method of capitalizing such costs, consistent with § 1.263(a)–1T(d)(1). (b)Inapplicability. This change does not apply to amounts paid or incurred to facilitate the disposition of assets that constitute a trade or business.See § 1.263(a)–5(g). (2)Certain scope limitations inapplica- ble. The scope limitations in section 4.02 of this revenue procedure do not apply to a taxpayer that makes this change for its first or second taxable year beginning after De- cember 31, 2011. (3)Concurrent automatic change.A taxpayer that wants to make this change and a concurrent change to a method un- der §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, or 1.263(a)–3T with the same year of change should file a single Form 3115 that includes all of the concurrent method changes, in which case the tax- payer must enter the designated automatic accounting method change numbers for all concurrent changes on the appropriate line on that Form 3115. For guidance on fil- ing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (4)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its method of accounting under this section 10.08 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change under section 6.01 of this APPENDIX on a single Form 3115 for the same year of change in accor- dance with section 10.08(3)(a) of this AP- PENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesec- tions 6.02(3)(a)(ii)(B) (providing the gen- eral rules) and section 6.02(7)(b) (provid- ing the mailing address) of this revenue procedure. (5)Designated automatic accounting method change number. The designated automatic accounting method change number for a change in method of ac- counting under section 10.08 of this AP- PENDIX is “172.”Seesection 6.02(4) of this revenue procedure. (6) Contact information. For further information regarding a change under this section, contact Alan S. Williams at 202–622–4950 (not a toll-free call). April 2, 20126972012–14 I.R.B. (12) Rev. Proc. 2011–14 is modified to add new section 10.09 of the APPENDIX, to read as follows: .09Capitalizing acquisition or produc- tion costs. (1)Description of change. (a)Applicability. This change ap- plies to a taxpayer that wants to change its method of accounting to capitalizing amounts paid or incurred to acquire or pro- duce property under § 1.263(a)–2T and, if depreciable, to depreciating such property under § 168. Such amounts include costs describedin§1.263(a)–2T(e)and(f). (b)Inapplicability. This change does not apply to a taxpayer that is required un- der § 263A and the regulations thereunder to capitalize the costs for which the tax- payer wants to change its method of ac- counting under section 10.09 of this AP- PENDIX if the taxpayer is not capitaliz- ing these costs, unless the taxpayer con- currently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable). (2)Certain scope limitations inappli- cable. The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of the APPENDIX (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 10.09(4)(a) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (3)Manner of making change.Atax- payer making this change must complete Form 3115, Schedule E and attach it to its Form 3115. (4)Concurrent automatic change. (a) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 that includes both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (b) A taxpayer that wants to make this change and a concurrent change to a method under §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, or 1.263(a)–3T with the same year ofchange should file a single Form 3115 that includes all of the concurrent method changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for all concurrent changes on the appropriate line on that Form 3115. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (5)Section 481(a) adjustment.Byfol- lowing the sampling procedures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of ac- counting under this section 10.09 of the APPENDIX may use statistical sampling in determining the § 481(a) adjustment. Sampling methodologies not described in Rev. Proc. 2011–42 are not permitted. (6)Statistical sampling. By following the sampling procedures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a tax- payer changing its method of accounting under this section 10.09 of the APPEN- DIX may use statistical sampling to sup- port items on its income tax returns un- der § 1.263(a)–2T. Sampling methodolo- gies not described in Rev. Proc. 2011–42 are not permitted. (7)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its methodof accounting under this section 10.09 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 10.09(4)(a) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (8)Designated automatic accounting method change number. The designated automatic accounting method change number for a change in method of ac- counting under section 10.09 of this AP- PENDIX is “173.”Seesection 6.02(4) of this revenue procedure. (9)Contact information. For further information regarding a change under this section, contact Alan S. Williams at 202–622–4950 (not a toll-free call). (13) Rev. Proc. 2011–14 is modified to add new section 10.10 of the APPENDIX, to read as follows: .10Capitalizing improvements to tangi- ble property. (1)Description of change. (a)Applicability. This change ap- plies to a taxpayer that wants to change its method of accounting to capitalizing amounts paid or incurred for improve- ments to units of property consistent with §§ 1.263(a)–1T and 1.263(a)–3T and, if depreciable, to depreciating such improve- ments under § 168. (b)Inapplicability. This change does not apply to the following: (i) A taxpayer that is required under § 263A and the regulations thereunder to capitalize the costs for which the taxpayer wants to change its method of accounting under section 10.10 of this APPENDIX if the taxpayer is not capitalizing these costs, unless the taxpayer concurrently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable); (ii) A taxpayer that wants to change its method of accounting for dispositions of depreciable property, including a change in the asset disposed of (but see sections 6.29, 6.30, and 6.31 of this APPENDIX); or (iii) For any taxable year in which the § 1.167(a)–11(d)(2) repair allowance election was made; any property sub- ject to the repair allowance under § 1.167(a)–11(d)(2) (including expendi- tures incurred after December 31, 1980, for the repair, maintenance, rehabilitation, 2012–14 I.R.B.698April 2, 2012 or improvement of property placed in ser- vice before January 1, 1981). (2)Certain scope limitations inappli- cable. The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of the APPENDIX (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 10.10(4)(a) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (3)Manner of making change.Atax- payer making this change must complete Form 3115, Schedule E and attach it to its Form 3115. (4)Concurrent automatic change. (a) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 that includes both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (b) A taxpayer that wants to make this change and a concurrent change to a method under §§ 1.162–3T, 1.162–4T, 1.263(a)–1T, 1.263(a)–2T, or 1.263(a)–3T with the same year of change should file a single Form 3115 that includes all of the concurrent method changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for all concurrent changes on the appropriate line on that Form 3115. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (5)Section 481(a) adjustment. (a) A taxpayer changing to this method of accounting must not include in the § 481(a) adjustment any amount attribut- able to property for which the taxpayer elected to apply the repair allowance under § 1.167(a)–11(d)(2) for any taxable year in which the election was made. (b) By following the sampling proce- dures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of accounting under this section 10.10oftheAPPENDIXmayusestatisti- cal sampling in determining the § 481(a) adjustment. Sampling methodologies not described in Rev. Proc. 2011–42 are not permitted. (c) A taxpayer making this change must attach to its Form 3115 a schedule for the section 481(a) adjustment listing the ad- justment amounts for each property classi- fication (e.g., 5-year property, 7-year prop- erty, or nonresidential real property). (6)Statistical sampling. By following the sampling procedures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a tax- payer changing its method of accounting under this section 10.10 of the APPEN- DIX may use statistical sampling to sup- port items on its income tax returns un- der §§ 1.263(a)–1T and 1.263(a)–3T. Sam- pling methodologies not described in Rev. Proc. 2011–42 are not permitted. (7)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its methodof accounting under this section 10.10 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 10.10(4)(a) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (8)Designated automatic accounting method change number. The designated automatic accounting method change number for a change in method of ac- counting under section 10.10 of this AP- PENDIX is “174.”Seesection 6.02(4) of this revenue procedure. (9)Contact information. For further information regarding a change under this section, contact Alan S. Williams at 202–622–4950 (not a toll-free call). (14) Section 6.20(1)(a) of the APPEN- DIX of Rev. Proc. 2011–14 is modified by replacing “1986.” at the end of such section with “1986 and before its first tax- able year beginning on or after January 1, 2012.” (15) Section 10.07(1)(b) of the APPEN- DIX of Rev. Proc. 2011–14 is modified by: (a) Deleting “or” at the end of section 10.07(1)(b)(ii) of the APPENDIX; (b) At the end of section 10.07(1)(b)(iii) of the APPENDIX, replacing the period with “; or”; and (c) After section 10.07(1)(b)(iii) of the APPENDIX, adding a new section 10.07(1)(b)(iv) of the APPENDIX to read as follows: (iv) repairable and reusable spare parts that are placed in service by the taxpayer in a taxable year beginning on or after Jan- uary 1, 2012, if the taxpayer did not make a valid election under § 1.162–3T(d) to treat the repairable and reusable spare parts as a capital expenditure and as an asset subject to the allowance for depreciation. SECTION 5. EFFECT ON OTHER DOCUMENTS Rev. Proc. 2011–14 is modified and clarified. SECTION 6. EFFECTIVE DATE This revenue procedure is effective for taxable years beginning on or after January 1, 2012. SECTION 7. PAPERWORK REDUCTION ACT The collection of information con- tained in this revenue procedure has been reviewed and approved by the Office of Management and Budget in accor- dance with the Paperwork Reduction Act (44 U.S.C. 3507) under control number 1545–1551. An agency may not conduct or sponsor, and a person is not required to April 2, 20126992012–14 I.R.B. respond to, a collection of information un- less the collection of information displays a valid OMB control number. The collections of information in this revenue procedure are in section 4. This information is necessary and will be used to determine whether the taxpayer prop- erly changed to a permitted method of ac- counting. The collections of information are required for the taxpayer to obtain con- sent to change its method of accounting. The likely respondents are the following: individuals, farms, business or other for- profit institutions, nonprofit institutions, and small businesses or organizations. The estimated total annual reporting and/or recordkeeping burden is 9,162.5 hours. The estimated annual burden per re- spondent/recordkeeper varies from 1 /4hour to 8 1 /2hours, depending on individual cir- cumstances, with an estimated average of 1 1 /4hours. The estimated number of re- spondents is 7,330. The estimated annual frequency of responses is on occasion. SECTION 8. DRAFTING INFORMATION The principal author of this revenue procedure is Alan S. Williams of the Office of Associate Chief Counsel (Income Tax & Accounting). For further information regarding this revenue procedure, contact Alan S. Williams at 202–622–4950 (not a toll-free call). 26 CFR 601.204: Changes in accounting periods and in methods of accounting. (Also Part I, §§ 167, 168, 197, 446, 481; 1.446–1.) Rev. Proc. 2012–20 SECTION 1. PURPOSE This revenue procedure provides the procedures by which a taxpayer may obtain the automatic consent of the Com- missioner of Internal Revenue to change to the methods of accounting provided in §§ 1.167(a)–4T, 1.168(i)–1T, 1.168(i)–7T, and 1.168(i)–8T of the temporary Income Tax Regulations for taxable years begin- ning on or after January 1, 2012. SECTION 2. BACKGROUND .01 The Internal Revenue Service (IRS) and the Treasury Department re- cently issued temporary regulations under §§ 1.167(a)–4T, 1.168(i)–1T, 1.168(i)–7T, and 1.168(i)–8T (T.D. 9564, 2012–14 I.R.B. 614 [76 Fed. Reg. 81,060]). Sec- tion 1.167(a)–4T provides rules for depre- ciating or amortizing leasehold improve- ments. Section 1.168(i)–1T modifies the rules for general asset accounts. Section 1.168(i)–7T provides rules for account- ing for property depreciated under § 168 (MACRS property). Section 1.168(i)–8T provides rules for dispositions of MACRS property. These sections generally are effective for taxable years beginning on or after January 1, 2012. .02 Except as otherwise expressly pro- vided by the Internal Revenue Code or the regulations thereunder, § 446(e) and § 1.446–1(e)(2) require a taxpayer to se- cure the consent of the Commissioner be- fore changing a method of accounting for federal income tax purposes. .03 Section 1.446–1(e)(2)(ii)(d)sets forth the changes in depreciation or amor- tization that are changes in a method of accounting and the changes in de- preciation or amortization that are not changes in a method of accounting. For purposes of § 1.446–1(e)(2)(ii)(d), § 1.446–1(e)(2)(ii)(d)(4) provides that the item being changed generally is the depreciation treatment of each individual depreciable or amortizable asset. How- ever, the item is the depreciation treatment of each general asset account for a depre- ciable asset for which the taxpayer has elected general asset account treatment under § 168(i)(4). .04 Section 1.446–1(e)(2)(ii)(d)(2)pro- vides, in relevant part, that each of the fol- lowing changes in depreciation or amorti- zation is a change in method of accounting: (1) A change in the depreciation method or amortization method, period of recov- ery, or convention of a depreciable or amortizable asset; (2) A change in the accounting for de- preciable or amortizable assets from a sin- gle asset account to a multiple asset ac- count (pooling), orvice versa,orfromone type of multiple asset account (pooling) to a different type of multiple asset account (pooling); (3) For depreciable or amortizable as- sets that are mass assets accounted for in multiple asset accounts or pools, a change in the method of identifying which assets have been disposed; and (4) Any other change in depreciation or amortization as the Secretary may desig- nate by publication in theFederal Regis- teror in the Internal Revenue Bulletin. .05 Section 1.446–1(e)(2)(ii)(d)(3)pro- vides, in relevant part, that none of the fol- lowing changes in depreciation or amorti- zation is a change in method of accounting: (1) An adjustment in the useful life of a depreciable or amortizable asset for which depreciation is determined under § 167 (other than under § 168, § 1400I, § 1400L(c), former § 168, or an additional first year depreciation deduction provi- sion of the Code (for example, § 168(k), § 1400L(b), or § 1400N(d))). However, if a taxpayer is changing to or from a useful life (or recovery period or amortization period) that is specifically assigned by the Code (for example, § 167(f)(1), § 168(c), § 168(g)(2) or (3), § 197), the regulations thereunder, or other guidance published in the Internal Revenue Bulletin, such a change is a change in method of account- ing; (2) The making of a late depreciation or amortization election or the revocation of a timely valid depreciation or amorti- zation election, except as otherwise ex- pressly provided by the Code, the regu- lations thereunder, or other guidance pub- lished in the Internal Revenue Bulletin; (3) Any change in the placed-in-service date of a depreciable or amortizable asset, except as otherwise expressly provided by the Code, the regulations thereunder, or other guidance published in the Internal Revenue Bulletin; and (4) Any other change in depreciation or amortization as the Secretary may desig- nate by publication in theFederal Regis- teror in the Internal Revenue Bulletin. .06 Section 1.446–1(e)(2)(ii)(d)(5)(iii) provides that except as otherwise ex- pressly provided by the Code, the reg- ulations thereunder, or other guidance published in the Internal Revenue Bul- letin, no § 481(a) adjustment is required or permitted for a change from one permis- sible method of computing depreciation or amortization to another permissible method of computing depreciation or amortization for an asset. Instead, this 2012–14 I.R.B.700April 2, 2012 change is implemented by either a cut-off method (see section 2.06 of Rev. Proc. 2011–14, 2011–4 I.R.B. 330, 338) or a modified cut-off method, as appropri- ate. Under the modified cut-off method, the adjusted depreciable basis of the as- set as of the beginning of the year of change is recovered using the new per- missible method ofaccounting. Section 1.446–1(e)(2)(ii)(d)(5)(iii)alsoprovides thatachangefromanimpermissible method of computing depreciation or amortization to a permissible method of computing depreciation or amortization for an asset results in a § 481 adjustment. .07 Section 1.446–1(e)(3)(ii) authorizes the Commissioner to prescribe administra- tive procedures setting forth the terms, and conditions necessary for a taxpayer to ob- tain consent to change a method of ac- counting. Rev. Proc. 2011–14 provides the procedures by which a taxpayer may obtain automatic consent from the Com- missioner to change to a method of ac- counting described in the APPENDIX of Rev. Proc. 2011–14. .08 Section 5.02 of this revenue pro- cedure modifies the APPENDIX of Rev. Proc. 2011–14 by removing sec- tions 6.24 and 6.25 because they are obsolete. Section 5.03 of this revenue procedure modifies the APPENDIX of Rev. Proc. 2011–14 by adding sec- tions 6.27 through 6.32 to the APPEN- DIX to provide additional changes in method of accounting that are consis- tent with § 1.167(a)–4T, § 1.168(i)–1T, § 1.168(i)–7T, or § 1.168(i)–8T. SECTION 3. SCOPE This revenue procedure applies to a tax- payer that wants to change its methods of accounting to comply with § 1.167(a)–4T for MACRS property and certain depre- ciable intangible assets that the taxpayer placed in service after December 31, 1986, or with § 1.168(i)–1T, § 1.168(i)–7T, or § 1.168(i)–8T for MACRS property. SECTION 4. APPLICATION A taxpayer within the scope of this revenue procedure may change its method of accounting to comply with § 1.167(a)–4T, § 1.168(i)–1T, § 1.168(i)–7T, or § 1.168(i)–8T for all of the applicable assets, or for any subset of the applicable assets. SECTION 5. CHANGES IN METHODS OF ACCOUNTING .01In general. (1) Except as provided in section 5.01(2) of this revenue procedure and in § 1.446–1(e)(2)(ii)(d)(3)(iii)(the making of a late depreciation or amor- tization election or the revocation of a timely valid depreciation or amorti- zation election), a change to comply with § 1.168(i)–1T, § 1.168(i)–7T, or § 1.168(i)–8T is a change in method of accounting to which § 446(e) applies.See § 1.168(i)–1T(m)(2), §1.168(i)–7T(e)(2), and § 1.168(i)–8T(i)(2).Except as provided in section 5.01(2) of this revenue procedure and in § 1.446–1(e)(2)(ii)(d)(3)(i) (a change in useful life), a change to comply with § 1.167(a)–4T also is a change in method of accounting to which § 446(e) applies. See§ 1.167(a)–4T(b)(4). A taxpayer that wants to change to a method of accounting described in section 5.03 of this revenue procedure must use the automatic change in method of accounting provisions in Rev. Proc. 2011–14 or its successor, as modified by this revenue procedure. (2) If a taxpayer placed in service assets in a taxable year ending before De- cember 30, 2003 (pre–2003 assets), the taxpayer may treat the change to com- ply with § 1.167(a)–4T, § 1.168(i)–1T, § 1.168(i)–7T, or § 1.168(i)–8T for all, or some, of the pre–2003 assets as not a change in method of accounting. In this situation, the taxpayer should file amended federal tax returns for the placed-in-service year of the pre–2003 asset and all subsequent taxable years, limited to the taxable years open un- der the period of limitation for assess- ment, to implement the change to com- ply with § 1.167(a)–4T, § 1.168(i)–1T, § 1.168(i)–7T, or § 1.168(i)–8T for these pre–2003 assets. If the taxpayer files such amended federal tax returns for the pre–2003 assets, neither an adjustment under § 481 or a similar cumulative depre- ciation adjustment is required or permitted. .02Modifications to existing automatic changes. Sections 6.24 and 6.25 of the APPEN- DIX of Rev. Proc. 2011–14 are modified to read as follows: 6.24Reserved. 6.25Reserved. .03New automatic changes. (1) Rev. Proc. 2011–14 is modified to add new section 6.27 to the APPENDIX to read as follows: 6.27Depreciation of leasehold im- provements (sections 167, 168, and 197). (1)Description of change. (a)Applicability. This change applies to a taxpayer that wants to change its method of accounting to comply with § 1.167(a)–4T for leasehold improvements in which the taxpayer has a depreciable interest at the beginning of the year of change: (i) from improperly depreciating the leasehold improvements to which § 168 applies over the term of the lease (includ- ing renewals, if applicable) to properly depreciating these improvements under §168; (ii) from improperlyamortizing lease- hold improvements to which § 197 applies over the term of the lease (including re- newals, if applicable) to properly amortiz- ing these improvements under § 197; or (iii) from improperly amortizing lease- hold improvements to which § 167(f)(1) applies over the term of the lease (includ- ing renewals, if applicable) to properly amortizing these improvements under § 167(f)(1). (b)Inapplicability. This change does not apply to a taxpayer that is required un- der § 263A and the regulations thereunder to capitalize the costs with respect to which the taxpayer wants to change its method of accounting under section 6.27 of this AP- PENDIX if the taxpayer is not capitaliz- ing these costs, unless the taxpayer con- currently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable). (2) Certain scope limitations inapplica- ble. (a) The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX April 2, 20127012012–14 I.R.B. (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 6.27(4)(b) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (b) The scope limitation in section 4.02(5) of this revenue procedure does not apply to a taxpayer that makes this change. (3)Public utility property. If any lease- hold improvement is public utility prop- erty within the meaning of § 168(i)(10) or former § 167(l)(3)(A), a taxpayer mak- ing this change must attach to its Form 3115 a statement providing that the tax- payer agrees to the following additional terms and conditions: (a) a normalization method of account- ing (within the meaning of § 168(i)(9) or former § 167(l)(3)(G)) will be used for the public utility property subject to the change; (b) as of the beginning of the year of change, the taxpayer will adjust its de- ferred tax reserve account or similar ac- count in the taxpayer’s regulatory books of account by the amount of the deferral of federal income tax liability associated with the § 481(a) adjustment applicable to the public utility property subject to the change; and (c) within 30 calendar days of filing the federal income tax return for the year of change, the taxpayer will provide a copy of the completed Form 3115 to any regulatory body having jurisdiction over the public utility property subject to the change. (4)Concurrent automatic change. (a) A taxpayer that wants to make this 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 § 481(a) adjustment for all the changes included in that Form 3115. If one or more of the changes in that single Form 3115 generate a negative § 481(a) adjustment and other changes in that same Form 3115 generate a positive § 481(a) ad- justment, the taxpayer may provide a sin- gle negative § 481(a) adjustment for all the changes that are included in that Form 3115 generating such adjustment and a sin- gle positive § 481(a) adjustment for all the changes that are included in that Form 3115 generating such adjustment. (b) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (5)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its methodof accounting under this section 6.27 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 6.27(4)(b) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (6)Designated automatic accounting method change numbers. The designated automatic accounting method change number for a change to a method of ac- counting under section 6.27 of this AP- PENDIX is “175.”Seesection 6.02(4) of this revenue procedure. (7)Contact information. For further information regarding a change under this section, contact Patrick Clinton at (202) 622–4930 (not a toll-free call). (2) Rev. Proc. 2011–14 is modified to add new section 6.28 to the APPENDIX to read as follows: 6.28Permissible to permissible method of accounting for depreciation of MACRS property (section 168). (1)Description of change. (a)Applicability. This change applies to a taxpayer that wants to make a change in method of accounting for depreciation that is specified in section 6.28(3) of this APPENDIX for an asset: (i) to which § 168 applies (MACRS property); (ii) for which the present and pro- posed methods of accounting are per- missible methods of accounting un- der § 1.168(i)–1T, § 1.168(i)–7T, or § 1.168(i)–8T, as applicable; and (iii) that is owned by the taxpayer at the beginning of the year of change. (b)Inapplicability. This change does not apply to the following: (i) a taxpayer that is required under § 263A and the regulations thereunder to capitalize the costs with respect to which the taxpayer wants to change its method of accounting under section 6.28 of this AP- PENDIX if the taxpayer is not capitalizing these costs, unless the taxpayer concur- rently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable); or (ii) any property that is not depreciated under § 168 under the taxpayer’s present and proposed methods of accounting. (2)Certain scope limitations inapplica- ble. (a) The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 6.28(5)(b) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (b) The scope limitation in section 4.02(5) of this revenue procedure does not apply to a taxpayer that makes this change. (3)Changes covered. Section6.28of this APPENDIX only applies to the fol- 2012–14 I.R.B.702April 2, 2012 lowing changes in methods of accounting for depreciation of MACRS property: (a) for the items of MACRS property for which the taxpayer has not made a valid general asset account election under § 168(i)(4) and the regulations thereun- der— (i) a change from single asset ac- counts (or item accounts) for specific items of MACRS property to multiple asset accounts (or pools) for the same assets, orvice versa, in accordance with § 1.168(i)–7T; (ii) a change from grouping specific items of MACRS property in multiple as- set accounts to a different grouping of the same assets in multiple asset accounts in accordance with § 1.168(i)–7T(c); (iii) for the items of MACRS property accounted for in multiple asset accounts, a change in the method of identifying which assets have been disposed of from the specific identification method un- der § 1.168(i)–8T(f)(1) to the first-in, first-out (FIFO) method of accounting under § 1.168(i)–8T(f)(2)(i) or the mod- ified FIFO method of accounting under § 1.168(i)–8T(f)(2)(ii); (iv) for the items of MACRS prop- erty accounted for in multiple asset accounts, a change in the method of identifying which assets have been dis- posed of from the FIFO method of ac- counting under § 1.168(i)–8T(f)(2)(i) or the modified FIFO method of ac- counting under § 1.168(i)–8T(f)(2)(ii) to the specific identification method under § 1.168(i)–8T(f)(1); (v) for the items of MACRS prop- erty accounted for in multiple asset ac- counts, a change in the method of iden- tifying which assets have been disposed of from the FIFO method of accounting under § 1.168(i)–8T(f)(2)(i) to the mod- ified FIFO method of accounting under § 1.168(i)–8T(f)(2)(ii), orvice versa; (vi) for the items of MACRS prop- erty that are mass assets (as defined in § 1.168(i)–8T(b)(2)) accounted for in multiple asset accounts, a change in the method of identifying which assets have been disposed of from the specific identi- fication method under § 1.168(i)–8T(f)(1) to a mortality dispersion table in accor- dance with § 1.168(i)–8T(f)(2)(iii); (vii) for the items of MACRS prop- erty that are mass assets (as defined in § 1.168(i)–8T(b)(2)) accounted for in multiple asset accounts, a change in the method of identifying which assets have been disposed of from the FIFO method of accounting under § 1.168(i)–8T(f)(2)(i) or the modified FIFO method of accounting under § 1.168(i)–8T(f)(2)(ii) to a mortal- ity dispersion table in accordance with § 1.168(i)–8T(f)(2)(iii); and (viii) for the items of MACRS prop- erty that are mass assets (as defined in § 1.168(i)–8T(b)(2)) accounted for in multiple asset accounts, a change in the method of identifying which assets have been disposed of from a mortality dispersion table in accor- dance with § 1.168(i)–8T(f)(2)(iii) to thespecificidentification method under § 1.168(i)–8T(f)(1), the FIFO method of accounting under § 1.168(i)–8T(f)(2)(i), or the modified FIFO method of account- ing under § 1.168(i)–8T(f)(2)(ii); and (b) for the items of MACRS prop- erty for which the taxpayer has made a valid general asset account election under § 168(i)(4) and the regulations thereun- der— (i) a change from grouping specific items of MACRS property in general asset accounts to a different grouping of the same assets in general asset accounts in accordance with § 1.168(i)–1T(c); (ii) a change in the method of iden- tifying which assets have been dis- posed of from the specific identifica- tion method under § 1.168(i)–1T(j)(2)(i) to the FIFO method of accounting un- der § 1.168(i)–1T(j)(2)(ii) or the modi- fied FIFO method of accounting under § 1.168(i)–1T(j)(2)(iii); (iii) a change in the method of iden- tifying which assets have been disposed of from the FIFO method of account- ing under § 1.168(i)–1T(j)(2)(ii) or the modified FIFO method of accounting under § 1.168(i)–1T(j)(2)(iii) to the specific identification method under § 1.168(i)–1T(j)(2)(i); (iv) a change in the method of iden- tifying which assets have been disposed of from the FIFO method of accounting under § 1.168(i)–1T(j)(2)(ii) to the mod- ified FIFO method of accounting under § 1.168(i)–1T(j)(2)(iii), orvice versa; (v) for the items of MACRS prop- erty that are mass assets (as defined in § 1.168(i)–1T(b)(5)) accounted for in a separate general asset account in ac- cordance with § 1.168–1T(c)(2)(ii)(H), a change in the method of identifying which assets have been disposed of from the specific identification method un- der § 1.168(i)–1T(j)(2)(i) to a mortal- ity dispersion table in accordance with § 1.168(i)–1T(j)(2)(iv); (vi) for the items of MACRS prop- erty that are mass assets (as defined in § 1.168(i)–1T(b)(5)) accounted for in a separate general asset account in ac- cordance with § 1.168–1T(c)(2)(ii)(H), a change in the method of identify- ing which assets have been disposed of from the FIFO method of account- ing under § 1.168(i)–1T(j)(2)(ii) or the modified FIFO method of accounting under § 1.168(i)–1T(j)(2)(iii) to a mor- tality dispersion table in accordance with § 1.168(i)–1T(j)(2)(iv); or (vii) for the items of MACRS prop- erty that are mass assets (as defined in § 1.168(i)–1T(b)(5)) accounted for in a separate general asset account in ac- cordance with § 1.168–1T(c)(2)(ii)(H), a change in the method of identifying which assets have been disposed of from a mortality dispersion table in accor- dance with § 1.168(i)–1T(j)(2)(iv) to the specific identification method under § 1.168(i)–1T(j)(2)(i), the FIFO method of accounting under § 1.168(i)–1T(j)(2)(ii), or the modified FIFO method of account- ingunder§1.168(i)–1T(j)(2)(iii). (4)Manner of making change. (a) The changes in methods of account- ing specified in section 6.28(3)(a)(i) and (ii) and section 6.28(3)(b)(i) of this AP- PENDIX are made using a modified cut- off method under which the unadjusted depreciable basis and the depreciation re- serve of the asset as of the beginning of the year of change are accounted for using the new method of accounting. If the change specified in section 6.28(3)(a)(i) of this APPENDIX is a change to a single asset account, the new single asset account must include a be- ginning balance for both the unadjusted depreciable basis and the depreciation re- serve of the asset included in that single asset account. If the change specified in section 6.28(3)(a)(i)or(ii)ofthisAPPENDIX is a change to a multiple asset account (either a new one or a different grouping), the multiple asset account must include a beginning balance for both the unadjusted depreciable basis and the depreciation April 2, 20127032012–14 I.R.B. reserve. The beginning balance for the unadjusted depreciable basis of each mul- tiple asset account is equal to the sum of the unadjusted depreciable bases as of the beginning of the year of change for all assets included in that multiple asset account. The beginning balance of the depreciation reserve of each multiple asset account is equal to the sum of the greater of the depreciation allowed or allowable as of the beginning of the year of change for all assets included in that multiple asset account. The change specified in section 6.28(3)(b)(i) of this APPENDIX requires the general asset account to include a be- ginning balance for both the unadjusted depreciable basis and the depreciation reserve. The beginning balance for the unadjusted depreciable basis of each gen- eral asset account is equal to the sum of the unadjusted depreciable bases as of the beginning of the year of change for all assets included in that general asset account. The beginning balance of the depreciation reserve of each general asset account is equal to the sum of the greater of the depreciation allowed or allowable as of the beginning of the year of change for all assets included in that general asset account. (b) The changes in methods of account- ing specified in section 6.28(3)(a)(iii) and (vi) and section 6.28(3)(b)(ii) and (v) of this APPENDIX are made using a cut-off method and apply to dispositions occur- ring on or after the beginning of the year of change. (c) Even though the changes in meth- ods of accounting specified in section 6.28(3)(a)(iv), (v), (vii), and (viii) and section 6.28(3)(b)(iii), (iv), (vi), and (vii) of this APPENDIX are changes from one permissible method of accounting to another permissible method of ac- counting, these changes are made with a § 481(a) adjustment. For the changes in methods of accounting specified in section 6.28(3)(b)(iii), (iv), (vi), and (vii) of this APPENDIX, the § 481(a) adjustment should be zero except if § 1.168(i)–1T(e)(3) applies to the asset subject to the change. (d) If any asset subject to this change is public utility property within the mean- ing of § 168(i)(10), a taxpayer making this change must attach to its Form 3115 a statement providing that the taxpayer agrees to the following additional terms and conditions: (i) a normalization method of account- ing (within the meaning of § 168(i)(9)) will be used for the public utility property sub- ject to the change; (ii) as of the beginning of the year of change, the taxpayer will adjust its de- ferred tax reserve account or similar ac- count in the taxpayer’s regulatory books of account by the amount of the deferral of federal income tax liability associated with the § 481(a) adjustment applicable to a change in method of accounting speci- fied in section 6.28(3)(a)(iv), (v), (vii), or (viii) or section 6.28(3)(b)(iii), (iv), (vi), or (vii) of this APPENDIX made for the pub- lic utility property subject to the change; and (iii) within 30 calendar days of filing the federal income tax return for the year of change, the taxpayer will provide a copy of the completed application to any regula- tory body having jurisdiction over the pub- lic utility property subject to the change. (5)Concurrent automatic change. (a) A taxpayer that wants to make this change for more than one asset for the same year of change should file a sin- gle Form 3115 for all such assets. If the change for more than one asset included in that Form 3115 is specified in section 6.28(3)(a)(iv), (v), (vii), or (viii) or sec- tion 6.28(3)(b)(iii), (iv), (vi), or (vii) of this APPENDIX, the single Form 3115 also should provide a single net § 481(a) adjustment for all such changes. If one or more of the changes specified in sec- tion 6.28(3)(a)(iv), (v), (vii), or (viii) or section 6.28(3)(b)(iii), (iv), (vi), or (vii) of this APPENDIX in that single Form 3115 generate a negative § 481(a) adjust- ment and other changes specified in sec- tion 6.28(3)(a)(iv), (v), (vii), or (viii) or section 6.28(3)(b)(iii), (iv), (vi), or (vii) of this APPENDIX in that same Form 3115 generate a positive § 481(a) adjustment, the taxpayer may provide a single negative § 481(a) adjustment for all such changes that are included in that Form 3115 gener- ating such negative adjustment and a sin- gle positive § 481(a) adjustment for all such changes that are included in that Form 3115 generating such positive adjustment. (b) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (c) A taxpayer that wants to make both a change under section 6.28(3)(a)(iii), (iv), (v),(vi),(vii),or(viii)ofthisAPPEN- DIX for a building, condominium unit, cooperative unit, structural component, or an improvement or addition thereto and a change under section 6.29 of this APPENDIX for the same year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (d) A taxpayer that wants to make both a change under section 6.28(3)(a)(iii), (iv), (v), (vi), (vii), or (viii) of this APPENDIX for section 1245 property or a depreciable land improvement and a change under sec- tion 6.30 of this APPENDIX for the same year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated auto- matic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on fil- ing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (e) A taxpayer that wants to make both a change under section 6.28(3)(b)(ii), (iii), (iv), (v), (vi), or (vii) of this APPENDIX and a change under section 6.31 of this APPENDIX for the same year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (f) A taxpayer that wants to make both a change under section 6.28(3)(b)(ii), (iii), (iv), (v), (vi), or (vii) of this APPENDIX and a change under section 6.32(1)(a)(ii) or(iii)ofthisAPPENDIXforthesame 2012–14 I.R.B.704April 2, 2012 year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated auto- matic accounting method change numbers for both changes on the appropriate line on that Form 3115. This section 6.28(5)(f) applies only if both changes are made for the taxpayer’s first or second taxable year beginning after December 31, 2011. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (g) A taxpayer that wants to make a change under section 6.28(3)(b)(ii), (iii), (iv), (v), (vi), or (vii) of this APPEN- DIX, a change under section 6.31 of this APPENDIX, and a change under section 6.32(1)(a)(ii) or (iii) of this APPENDIX for the same year of change should file a single Form 3115 for all such changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for all of these changes on the appropriate line on that Form 3115. This section 6.28(5)(g) applies only if all of these changes are made for the tax- payer’s first or second taxable year begin- ning after December 31, 2011. For guid- ance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (6)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its method of accounting under this section 6.28 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 6.28(5)(b) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (7)Designated automatic accounting method change numbers. The designated automatic accounting method change number for a change to the method of accounting under section 6.28 of this AP- PENDIX is “176.”Seesection 6.02(4) of this revenue procedure. (8)Contact information. For further information regarding a change under this section, contact Patrick Clinton at (202) 622–4930 (not a toll-free call). (3) Rev. Proc. 2011–14 is modified to add new section 6.29 to the APPENDIX to read as follows: 6.29Disposition of a building or struc- tural component (section 168). (1)Description of change. (a)Applicability. This change ap- plies to a taxpayer that wants to make a change in method of accounting that is specified in section 6.29(3) of this APPENDIX pertaining to the disposi- tion of a building or a structural com- ponent. These specified changes are consistent with §§ 1.168(i)–8T(b)(1), 1.168(i)–8T(c)(4)(ii)(A), (B), (C), (E), and (F), and 1.168(i)–8T(f). This change also will affect the determination of gain or loss from the disposition of the building or the structural component and may af- fect whether the taxpayer must capitalize amounts paid to restore a unit of property (as determined under § 1.263(a)–3T(e) or (f)) under § 1.263(a)–3T(i). (b)Inapplicability. This change does not apply to the following: (i) a taxpayer that is required under § 263A and the regulations thereunder to capitalize the costs with respect to which the taxpayer wants to change its method of accounting under section 6.29 of this AP- PENDIX if the taxpayer is not capitalizing these costs, unless the taxpayer concur- rently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable); (ii) any property that is not depreciated under § 168 under the taxpayer’s present and proposed methods of accounting; (iii) any property for which the taxpayer made a valid general asset account election under § 168(i)(4) and the regulations there- under (but see section 6.31 of this APPEN- DIX for making a change for dispositions of tangible depreciable assets subject to a general asset account election); or (iv) any multiple buildings, condo- minium units, or cooperative units that are treated as a single building under the tax- payer’s present method of accounting, or will be treated as a single building under the taxpayer’s proposed method of ac- counting, pursuant to § 1.1250–1(a)(2)(ii). (2)Certain scope limitations inapplica- ble. (a) The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 6.29(7)(b) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (b) The scope limitation in section 4.02(5) of this revenue procedure does not apply to a taxpayer that makes this change. (3)Covered changes. Section 6.29 of this APPENDIX only applies to the fol- lowing changes in methods of accounting for a building, condominium unit, cooper- ative unit, structural component, or an im- provement or addition thereto: (a) for purposes of applying § 1.168(i)–8T(c)(4) (determination of asset disposed of), a change to the ap- propriate asset as determined under § 1.168(i)–8T(c)(4)(ii)(A), (B), (C), (E), or (F), as applicable; (b) if the taxpayer makes the change specified in section 6.29(3)(a) of this AP- PENDIX and if the taxpayer disposed of the asset as determined under sec- tion 6.29(3)(a) of this APPENDIX in a taxable year prior to the year of change but continues to deduct depreciation for such disposed asset under the taxpayer’s present method of accounting, a change from depreciating the disposed asset to recognizing gain or loss upon disposition; (c) if the taxpayer’s present method of accounting is in accord with § 1.168(i)–8T(c)(4)(ii)(A), (B), (C), (E), and (F), as applicable, and if the taxpayer disposed of a building, condominium unit, April 2, 20127052012–14 I.R.B. cooperative unit, structural component, or an improvement or addition thereto in a taxable year prior to the year of change but continues to deduct depreciation for such disposed asset under the taxpayer’s present method of accounting, a change from depreciating thedisposed asset to recognizing gain or loss upon disposition; or (d) for buildings, condominium units, cooperative units, structural components, or improvements or additions thereto ac- counted for in multiple asset accounts, a change in the method of identifying which assets have been disposed of from a method of accounting not specified in § 1.168(i)–8T(f)(1) or (2)(i), (ii), or (iii) (for example, the last-in, first-out (LIFO) method of accounting) to a method of ac- counting specified in § 1.168(i)–8T(f)(1) or (2)(i), (ii), or (iii), as applicable. (4)Examples. The following examples illustrate the covered changes specified in section 6.29(3) of this APPENDIX. (a)Example 1. X, a calendar year taxpayer, acquired and placed in service a building and its structural components in 1990. X depreciates this building and its structural components under § 168. In 2000, X replaced the entire roof of the building. X did not recognize a loss on the retirement of the original roof and continues to depreciate the original roof. X also capitalized the cost of the replacement roof and has been depreciating this roof under § 168 since 2000. In accordance with section 6.29(3)(a) and (b) of this APPENDIX and solely for purposes of § 1.168(i)–8T(c)(4), X may file a Form 3115 to change to treating the building as an asset and each structural component of thebuilding as a separate as- set and also to change from depreciating the original roof to recognizing a loss upon its retirement. (b)Example 2. Y, a calendar-year taxpayer, ac- quired and placed in service a building and its struc- tural components in 2000. In 2005, Y constructed and placed in service an addition to this building. Y depreciates the building, the addition, and their struc- tural components under § 168. In accordance with section 6.29(3)(a) of this APPENDIX and solely for purposes of § 1.168(i)–8T(c)(4), Y may file a Form 3115 to change to treating the original building as an asset, the addition to the building as a separate asset, and each structural component of the original build- ing and the addition as a separate asset. (5)Manner of making change.Atax- payer making this change must attach to its Form 3115 a statement with the following: (a) A description of the assets to which this change applies; (b) If the taxpayer is making a change specified in section 6.29(3)(a) of this AP- PENDIX, a description of the asset dis- posed of under the taxpayer’s present and proposed methods of accounting; (c) If the taxpayer is making the change specified in section 6.29(3)(d) of this AP- PENDIX, a description of the method of identifying which assets have been dis- posed of under the taxpayer’s present and proposed methods of accounting; and (d) if any asset is public utility property within the meaning of § 168(i)(10), a state- ment providing that the taxpayer agrees to the following additional terms and condi- tions: (i) a normalization method of account- ing (within the meaning of § 168(i)(9)) will be used for the public utility property sub- ject to the application; (ii) as of the beginning of the year of change, the taxpayer will adjust its de- ferred tax reserve account or similar ac- count in the taxpayer’s regulatory books of account by the amount of the deferral of federal income tax liability associated with the § 481(a) adjustment applicable to the public utility property subject to the appli- cation; and (iii) within 30 calendar days of filing the federal income tax return for the year of change, the taxpayer will provide a copy of the completed application to any reg- ulatory body having jurisdiction over the public utility property subject to the appli- cation. (6)No ruling on asset. The consent granted under this revenue procedure for a change specified in section 6.29(3)(a) of this APPENDIX is not a determina- tion by the Commissioner that the tax- payer is using the appropriate asset un- der § 1.168(i)–8T(c)(4) for determining what asset is disposed of by the taxpayer and does not create any presumption that the proposed asset is permissible under § 1.168(i)–8T(c)(4). The director will as- certain whether the taxpayer’s determina- tion of its asset under § 1.168(i)–8T(c)(4) is permissible. (7)Concurrent automatic change. (a) A taxpayer that wants to make this 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 § 481(a) adjustment for all the changes included in that Form 3115. If one or more of the changes in that single Form 3115 generate a negative § 481(a) adjustment and other changes in that same Form 3115 generate a positive § 481(a) ad- justment, the taxpayer may provide a sin- gle negative § 481(a) adjustment for all the changes that are included in that Form 3115 generating such negative adjustment and a single positive § 481(a) adjustment for all the changes that are included in that Form 3115 generating such positive ad- justment. (b) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (c) A taxpayer that wants to make both this change and, for a building, condo- minium unit, cooperative unit, structural component, or an improvement or ad- dition thereto, a change under section 6.28(3)(a)(iii), (iv), (v), (vi), (vii), or (viii) of this APPENDIX for the same year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated automatic ac- counting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (8)Section 481(a) adjustment.Byfol- lowing the sampling procedures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of accounting under section 6.29 of the AP- PENDIX may use statistical sampling in determining the § 481(a) adjustment. Sampling methodologies not described in Rev. Proc. 2011–42 are not permitted. (9)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its method of accounting under this section 6.29 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single 2012–14 I.R.B.706April 2, 2012 Form 3115 for the same year of change in accordance with section 6.29(7)(b) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (10)Designated automatic accounting method change numbers. The designated automatic accounting method change number for a change to the method of accounting under section 6.29 of this AP- PENDIX is “177.”Seesection 6.02(4) of this revenue procedure. (11)Contact information. For further information regarding a change under this section, contact Patrick Clinton at (202) 622–4930 (not a toll-free call). (4) Rev. Proc. 2011–14 is modified to add new section 6.30 to the APPENDIX to read as follows: 6.30Dispositions of tangible deprecia- ble assets (other than a building or its structural components) (section 168). (1)Description of change. (a)Applicability. This change applies to a taxpayer that wants to make a change in method of accounting that is specified in section 6.30(3) of this APPENDIX pertaining to the disposition of section 1245 property or a depreciable land im- provement. These specified changes are consistent with §§ 1.168(i)–8T(c)(4)(i), 1.168(i)–8T(c)(4)(ii)(D), (E), and (F), and 1.168(i)–8T(f). This change also will affect the determination of gain or loss from the disposition of the section 1245 property or the depreciable land im- provement and may affect whether the taxpayer must capitalize amounts paid to restore a unit of property (as determined under § 1.263(a)–3T(e) or (f)) under § 1.263(a)–3T(i). (b)Inapplicability. This change does not apply to the following: (i) a taxpayer that is required under § 263A and the regulations thereunder to capitalize the costs with respect to which the taxpayer wants to change its method of accounting under section 6.30 of this AP- PENDIX if the taxpayer is not capitalizing these costs, unless the taxpayer concur- rently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable); (ii) any property that is not depreciated under § 168 under the taxpayer’s present and proposed methods of accounting; (iii) any building, condominium unit, cooperative unit, structural component, or improvement or addition thereto (but see section 6.29 of this APPENDIX for mak- ing this change); or (iv) any property for which the taxpayer made a valid general asset account election under § 168(i)(4) and the regulations there- under (but see section 6.31 of this APPEN- DIX for making a change for dispositions of tangible depreciable assets subject to a general asset account election). (2)Certain scope limitations inapplica- ble. (a) The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 6.30(6)(b) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (b) The scope limitation in section 4.02(5) of this revenue procedure does not apply to a taxpayer that makes this change. (3)Covered changes. Section 6.30 of this APPENDIX only applies to the fol- lowing changes in methods of accounting for a section 1245 property, a depreciable land improvement, or an improvement or addition thereto: (a) for purposes of applying § 1.168(i)–8T(c)(4) (determination of asset disposed of), a change to the ap- propriate asset as determined under § 1.168(i)–8T(c)(4)(i), (ii)(D), (ii)(E), or (ii)(F), as applicable; (b) if the taxpayer makes the change specified in section 6.30(3)(a) of this AP- PENDIX and if the taxpayer disposed of the asset as determined under sec- tion 6.30(3)(a) of this APPENDIX in a taxable year prior to the year of change but continues to deduct depreciation for such disposed asset under the taxpayer’s present method of accounting, a change from depreciating the disposed asset to recognizing gain or loss upon disposition; (c) if the taxpayer’s present method of accounting is in accord with § 1.168(i)–8T(c)(4)(i) or (ii), as appli- cable, for the section 1245 property, the depreciable land improvement, or the improvement or addition thereto and if thetaxpayerdisposedofsuchassetina taxable year prior to the year of change but continues to deduct depreciation for this disposed asset under the taxpayer’s present method of accounting, a change from depreciating the disposed asset to recognizing gain or loss upon disposition; or (d) for section 1245 property, deprecia- ble land improvements, or improvements or additions theretoaccounted for in multi- ple asset accounts, a change in the method of identifying which assets have been dis- posed of from a method of accounting not specified in § 1.168(i)–8T(f)(1) or (2)(i), (ii), or (iii) (for example, the last-in, first-out (LIFO) method of accounting) to a method of accounting specified in § 1.168(i)–8T(f)(1) or (2)(i), (ii), or (iii), as applicable. (4)Manner of making change.Atax- payer making this change must attach to its Form 3115 a statement with the following: (a) A description of the assets to which this change applies; (b) If the taxpayer is making a change specified in section 6.30(3)(a) of this AP- PENDIX, a description of what asset is disposed of under the taxpayer’s present and proposed methods of accounting and a statement as to whether or not the taxpayer, under its proposed method of accounting, is treating each of an asset’s components as the asset in accordance with § 1.168(i)–8T(c)(4)(ii)(F); (c) If the taxpayer is making the change specified in section 6.30(3)(d) of this AP- PENDIX, a description of the method of identifying which assets have been dis- posed of under the taxpayer’s present and proposed methods of accounting; and (d) if any asset is public utility property within the meaning of § 168(i)(10), a state- ment providing that the taxpayer agrees to the following additional terms and condi- tions: April 2, 20127072012–14 I.R.B. (i) a normalization method of account- ing (within the meaning of § 168(i)(9)) will be used for the public utility property sub- ject to the application; (ii) as of the beginning of the year of change, the taxpayer will adjust its de- ferred tax reserve account or similar ac- count in the taxpayer’s regulatory books of account by the amount of the deferral of federal income tax liability associated with the § 481(a) adjustment applicable to the public utility property subject to the appli- cation; and (iii) within 30 calendar days of filing the federal income tax return for the year of change, the taxpayer will provide a copy of the completed application to any reg- ulatory body having jurisdiction over the public utility property subject to the appli- cation. (5)No ruling on asset. The consent granted under this revenue procedure for a change specified in section 6.30(3)(a) of this APPENDIX is not a determina- tion by the Commissioner that the tax- payer is using the appropriate asset un- der § 1.168(i)–8T(c)(4) for determining what asset is disposed of by the taxpayer and does not create any presumption that the proposed asset is permissible under § 1.168(i)–8T(c)(4). The director will as- certain whether the taxpayer’s determina- tion of its asset under § 1.168(i)–8T(c)(4) is permissible. (6)Concurrent automatic change. (a) A taxpayer that wants to make this 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 § 481(a) adjustment for all the changes included in that Form 3115. If one or more of the changes in that single Form 3115 generate a negative § 481(a) adjustment and other changes in that same Form 3115 generate a positive § 481(a) ad- justment, the taxpayer may provide a sin- gle negative § 481(a) adjustment for all the changes that are included in that Form 3115 generating such negative adjustment and a single positive § 481(a) adjustment for all the changes that are included in that Form 3115 generating such positive ad- justment. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (b) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (c) A taxpayer that wants to make both this change and, for a section 1245 prop- erty or a depreciable land improvement that is depreciated under § 168, a change under section 6.28(3)(a)(iii), (iv), (v), (vi), (vii), or (viii) of this APPENDIX for the same year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated au- tomatic accounting method change num- bers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (7)Section 481(a) adjustment.Byfol- lowing the sampling procedures provided in Rev. Proc. 2011–42, 2011–37 I.R.B. 318, a taxpayer changing its method of accounting under section 6.30 of the AP- PENDIX may use statistical sampling in determining the § 481(a) adjustment. Sampling methodologies not described in Rev. Proc. 2011–42 are not permitted. (8)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its methodof accounting under this section 6.30 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 6.30(6)(b) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (9)Designated automatic accounting method change numbers. The designated automatic accounting method change number for a change to the method of accounting under section 6.30 of this AP- PENDIX is “178.”Seesection 6.02(4) of this revenue procedure. (10)Contact information. For further information regarding a change under this section, contact Patrick Clinton at (202) 622–4930 (not a toll-free call). (5) Rev. Proc. 2011–14 is modified to add new section 6.31 to the APPENDIX to read as follows: 6.31Dispositions of tangible deprecia- ble assets in a general asset account (sec- tion 168(i)(4)). (1)Description of change. (a)Applicability. This change ap- plies to a taxpayer that wants to make a change in method of accounting that is specified in section 6.31(3) of this APPENDIX pertaining to the disposi- tion of an asset for which the taxpayer made a valid general asset account elec- tion under § 168(i)(4) and the regulations thereunder. These specified changes are consistent with §§ 1.168(i)–1T(e)(1), 1.168(i)–1T(e)(2)(viii), and 1.168(i)–1T(j). This change also may affect the determi- nation of gain or loss from the disposition of the asset and may affect whether the taxpayer must capitalize amounts paid to restore a unit of property (as determined under § 1.263(a)–3T(e) or (f)) under § 1.263(a)–3T(i). (b)Inapplicability. This change does not apply to the following: (i) a taxpayer that is required under § 263A and the regulations thereunder to capitalize the costs with respect to which the taxpayer wants to change its method of accounting under section 6.31 of this AP- PENDIX if the taxpayer is not capitalizing these costs, unless the taxpayer concur- rently changes its method to capitalize these costs in conjunction with a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable); (ii) any property that is not depreciated under § 168 under the taxpayer’s present and proposed methods of accounting; or 2012–14 I.R.B.708April 2, 2012 (iii) any property for which the taxpayer did not make a valid general asset account election under § 168(i)(4) and the regu- lations thereunder (but see sections 6.29 and6.30ofthisAPPENDIXformakinga change for dispositions of tangible depre- ciable assets not subject to a general asset account election). (2)Certain scope limitations inapplica- ble. (a) The scope limitations in section 4.02 of this revenue procedure do not ap- ply to a taxpayer that makes this change for its first or second taxable year be- ginning after December 31, 2011. If the taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of the APPENDIX (as applicable) for its first or second taxable year beginning after December 31, 2011, on a single Form 3115 for the same year of change in accordance with section 6.31(6)(b) of this APPENDIX, the scope limitations in section 4.02 of this revenue procedure do not apply to the taxpayer for either change. (b) The scope limitation in section 4.02(5) of this revenue procedure does not apply to a taxpayer that makes this change. (3)Covered changes. Section6.31of this APPENDIX only applies to the fol- lowing changes in methods of accounting for an asset for which the taxpayer made a valid general asset account election under § 168(i)(4) and the regulations thereunder: (a) for purposes of applying § 1.168(i)–1T(e)(2)(viii) (determination of asset disposed of), a change to the appropriate asset as determined under § 1.168(i)–1T(e)(2)(viii)(A) or (B), as ap- plicable; or (b) a change in the method of iden- tifying which assets have been disposed of from a method of accounting not specified in § 1.168(i)–1T(j)(2)(i), (ii), (iii), or (iv) (for example, the last-in, first-out (LIFO) method of accounting) to a method of accounting specified in § 1.168(i)–1T(j)(2)(i), (ii), (iii), or (iv), as applicable. (4)Manner of making change.Atax- payer making this change must attach to its Form 3115 a statement with the following: (a) A description of the assets to which this change applies; (b) If the taxpayer is making the change specified in section 6.31(3)(a) of this APPENDIX, a description of what as- set is disposed of by the taxpayer un- der the taxpayer’s present and proposed methods of accounting and a statement as to whether or not the taxpayer, un- der its proposed method of accounting, is treating each of an asset’s compo- nents as the asset in accordance with § 1.168(i)–1T(e)(2)(viii)(B)(6); (c) If the taxpayer is making the change specified in section 6.31(3)(b) of this AP- PENDIX, a description of the method of identifying which assets have been dis- posed of under the taxpayer’s present and proposed methods of accounting; and (d) If any asset is public utility property within the meaning of § 168(i)(10), a state- ment providing that the taxpayer agrees to the following additional terms and condi- tions: (i) a normalization method of account- ing (within the meaning of § 168(i)(9)) will be used for the public utility property sub- ject to the application; (ii) as of the beginning of the year of change, the taxpayer will adjust its de- ferred tax reserve account or similar ac- count in the taxpayer’s regulatory books of account by the amount of the deferral of federal income tax liability associated with the § 481(a) adjustment applicable to the public utility property subject to the appli- cation; and (iii) within 30 calendar days of filing the federal income tax return for the year of change, the taxpayer will provide a copy of the completed application to any reg- ulatory body having jurisdiction over the public utility property subject to the appli- cation. (5)No ruling on asset. The consent granted under this revenue procedure for a change specified in section 6.31(3)(a) of this APPENDIX is not a determi- nation by the Commissioner that the taxpayer is using the appropriate asset under § 1.168(i)–1T(e)(2)(viii) for de- termining what asset is disposed of by the taxpayer and does not create any presumption that the proposed asset is per- missible under § 1.168(i)–1T(e)(2)(viii). The director will ascertain whether the taxpayer’s determination of its asset under § 1.168(i)–1T(e)(2)(viii) is permissible. (6)Concurrent automatic change. (a) A taxpayer that wants to make this 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 § 481(a) adjustment for all the changes included in that Form 3115. If one or more of the changes in that single Form 3115 generate a negative § 481(a) adjustment and other changes in that same Form 3115 generate a positive § 481(a) ad- justment, the taxpayer may provide a sin- gle negative § 481(a) adjustment for all the changes that are included in that Form 3115 generating such negative adjustment and a single positive § 481(a) adjustment for all the changes that are included in that Form 3115 generating such positive ad- justment. (b) A taxpayer that wants to make both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) for the same year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (c) A taxpayer that wants to make both this change and a change under section 6.28(3)(b)(ii), (iii), (iv), (v), (vi), or (vii) of this APPENDIX for the same year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated automatic ac- counting method change numbers for both changes on the appropriate line on that Form 3115. For guidance on filing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (d) A taxpayer that wants to make both this change and a change under section 6.32(1)(a)(ii) or (iii) of this APPENDIX for the same year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. This section 6.31(6)(d) applies only if both changes are made for the taxpayer’s first or second taxable year beginning after December 31, 2011. For guidance on fil- ing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (e) A taxpayer that wants to make this change, a change under section 6.28(3)(b)(ii), (iii), (iv), (v), (vi), or (vii) April 2, 20127092012–14 I.R.B. of this APPENDIX, and a change under section 6.32(1)(a)(ii) or (iii) of this AP- PENDIX for the same year of change should file a single Form 3115 for all such changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for all of these changes on the appropriate line on that Form 3115. This section 6.31(6)(e) ap- plies only if all of these changes are made for the taxpayer’s first or second taxable year beginning after December 31, 2011. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (7)Ogden copy of Form 3115 required in lieu of national office copy. A taxpayer changing its method of accounting under this section 6.31 of the APPENDIX must file a signed copy of its completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change. If a taxpayer makes both this change and a change to a UNICAP method under section 11.01 or 11.02 of this APPENDIX (as applicable) on a single Form 3115 for the same year of change in accordance with section 6.31(6)(b) of this APPENDIX, the taxpayer must file a signed copy of that completed Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the national office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the original Form 3115 with its federal income tax return for the year of change.Seesections 6.02(3)(a)(ii)(B) (providing the general rules) and section 6.02(7)(b) (providing the mailing address) of this revenue procedure. (8)Designated automatic accounting method change numbers. The designated automatic accounting method change number for a change to the method of accounting under section 6.31 of this AP- PENDIX is “179.”Seesection 6.02(4) of this revenue procedure. (9)Contact information. For further information regarding a change under this section, contact Patrick Clinton at (202) 622–4930 (not a toll-free call). (6) Rev. Proc. 2011–14 is modified to addnewsection6.32totheAPPENDIXto read as follows: 6.32General asset account elections (section 168(i)(4)). (1)Description of change. (a)Applicability. This change applies to a taxpayer that wants to make: (i) A late general asset account elec- tion under §§ 168(i)(4), 1.168(i)–1, and 1.168(i)–1T for one or more items of MACRS property placed in service by the taxpayer in a taxable year beginning before January 1, 2012. This change also may af- fect whether the taxpayer must capitalize amounts paid to restore a unit of property (as determined under § 1.263(a)–3T(e) or (f)) under §1.263(a)–3T(i); (ii) A late election to recognize gain or loss upon the disposition of all of the assets, or the last asset, in a gen- eral asset account in accordance with § 1.168(i)–1T(e)(3)(ii). This change also may affect whether the taxpayer must capitalize amounts paid to re- store a unit of property (as determined under § 1.263(a)–3T(e) or (f)) under §1.263(a)–3T(i); or (iii) For an item of MACRS property for which the taxpayer made a valid general asset account election,alateelectionto recognize gain or loss upon the disposition of that item in a qualifying disposition (as defined in § 1.168(i)–1T(e)(3)(iii)(B)) in accordance with § 1.168(i)–1T(e)(3)(iii). This change also may affect whether the taxpayer must capitalize amounts paid to restore a unit of property (as determined under § 1.263(a)–3T(e) or (f)) under § 1.263(a)–3T(i). (b)Inapplicability. Because of the changes made to the existing general as- set account regulations (§ 1.168(i)–1) by § 1.168(i)–1T, the Service will treat the making of the late elections specified in section 6.32(1)(a) of this APPENDIX as a change in method of accounting only for the time specified in section 6.32(2) of this APPENDIX. Accordingly, this change does not apply to a taxpayer that makes any late election specifiedin section 6.32(1)(a) of this APPENDIX after the time specified in section 6.32(2) of this APPENDIX, in which case the making of such late election is not a change in method of accounting pursuant to § 1.446–1(e)(2)(ii)(d)(3)(iii). (2)Time for making the change.The change under section 6.32 of this APPEN- DIX must be made for the taxpayer’s first or second taxable year beginning after De- cember 31, 2011. (3)Scope limitations inapplicable.The scope limitations in section 4.02 of this revenue procedure do not apply to this change. (4)Manner of making change. (a) The change specified in section 6.32(1)(a)(i) of this APPENDIX is made with a § 481(a) adjustment. However, if the taxpayer makes the change specified in section 6.32(1)(a)(i) of this APPENDIX for one or more items of MACRS property owned by the taxpayer at the beginning of the year of change, such change for that property is made using a modified cut-off method under which the unadjusted depre- ciable basis and the depreciation reserve of the asset as of the beginning of the year of change are accounted for using the new method of accounting. This change requires the general asset account to in- clude a beginning balance for both the unadjusted depreciable basis and the de- preciation reserve. The beginning balance for the unadjusted depreciable basis of each general asset account is equal to the sum of the unadjusted depreciable bases as of the beginning of the year of change for all assets included in that general asset account. The beginning balance of the depreciation reserve of each general asset account is equal to the sum of the greater of the depreciation allowed or allowable as of the beginning of the year of change for all assets included in that general asset account. (b) The change specified in section 6.32(1)(a)(ii) or (iii) of this APPENDIX is made with a § 481(a) adjustment. (c) A taxpayer making the change spec- ified in section 6.32(1)(a)(i) or (iii) of this APPENDIX must attach to its Form 3115 a statement with a description of the asset(s) to which this change applies (for exam- ple, all 5-year property placed in service in 2009 in Holmdel, New Jersey facility (for a change specified in section 6.32(1)(a)(i) of this APPENDIX); one desk costing $2,000 in 2007 General Asset Account #1 (for a change specified in section 6.32(1)(a)(iii) of this APPENDIX)). (d) A taxpayer making the change spec- ified in section 6.32(1)(a)(ii) of this AP- PENDIX must attach to its Form 3115 a statement with a description of the general asset account(s) to which this change ap- plies (for example, General Asset Account #2 — all 2008 5-year property additions). 2012–14 I.R.B.710April 2, 2012 (e)Ifataxpayerismakingthechange specified in section 6.32(1)(a)(i) of this APPENDIX, a statement providing that the taxpayer agrees to the following addi- tional terms and conditions: (i) The taxpayer consents to, and agrees to apply, all of the provisions of § 1.168(i)–1 and § 1.168(i)–1T to the assets that are subject to the election specified in section 6.32(1)(a)(i) of this APPENDIX; and (ii) Except as provided in § 1.168(i)–1T(c)(1)(ii)(A), (e)(3), (g), or (h), the election made by the taxpayer under section 6.32(1)(a)(i) of this APPEN- DIX is irrevocable and will be binding on the taxpayer for computing taxable income for the year of change and for all subsequent taxable years with respect to the assets that are subject to this election. (f) If any asset is public utility property within the meaning of § 168(i)(10), a state- ment providing that the taxpayer agrees to the following additional terms and condi- tions: (i) a normalization method of account- ing (within the meaning of § 168(i)(9)) will be used for the public utility property sub- ject to the application; (ii) within 30 calendar days of filing the federal income tax return for the year of change, the taxpayer will provide a copy of the completed application to any reg- ulatory body having jurisdiction over the public utility property subject to the appli- cation; and (iii) as of the beginning of the year of change, the taxpayer will adjust its de- ferred tax reserve account or similar ac- count in the taxpayer’s regulatory books of account by the amount of the deferral of federal income tax liability associated with the § 481(a) adjustment applicable to the public utility property subject to the appli- cation. This additional term and condition only has to be included in the statement by a taxpayer making the change specified in section 6.32(1)(a)(ii) or (iii) of this AP- PENDIX. (5)Concurrent automatic change. (a) A taxpayer that wants to make this change for more than one asset for the same year of change should file a sin- gle Form 3115 for all such assets. If the change for more than one asset included in that Form 3115 is specified in section 6.32(1)(a) of this APPENDIX, the single Form 3115 should provide a single net § 481(a) adjustment for all such changes. If one or more of the changes specified in section 6.32(1)(a) of this APPENDIX in that single Form 3115 generate a nega- tive § 481(a) adjustment and other changes specified in section 6.32(1)(a) of this AP- PENDIXinthatsameForm3115gen- erate a positive § 481(a) adjustment, the taxpayer may provide a single negative § 481(a) adjustment for all such changes that are included in that Form 3115 gener- ating such negative adjustment and a sin- gle positive § 481(a) adjustment for all such changes that are included in that Form 3115 generating such positive adjustment. (b) A taxpayer that wants to make both a change under section 6.32(1)(a)(ii) or (iii) of this APPENDIX and a change under section 6.28(3)(b)(ii), (iii), (iv), (v), (vi), or (vii) of this APPENDIX for the same year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated auto- matic accounting method change numbers for both changes on the appropriate line on that Form 3115. This section 6.32(5)(b) applies only if both changes are made for the taxpayer’s first or second taxable year beginning after December 31, 2011. For guidance on filing a single applica- tion for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (c) A taxpayer that wants to make both a change under section 6.32(1)(a)(ii) or (iii)ofthisAPPENDIXandachange undersection6.31ofthisAPPENDIX for the same year of change should file a single Form 3115 for both changes, in which case the taxpayer must enter the designated automatic accounting method change numbers for both changes on the appropriate line on that Form 3115. This section 6.32(5)(c) applies only if both changes are made for the taxpayer’s first or second taxable year beginning after December 31, 2011. For guidance on fil- ing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (d) A taxpayer that wants to make a change under section 6.32(1)(a)(ii) or (iii) ofthisAPPENDIX,achangeundersection 6.28(3)(b)(ii), (iii), (iv), (v), (vi), or (vii) of this APPENDIX, and a change under sec- tion 6.31 of this APPENDIX for the same year of change should file a single Form 3115 for all such changes, in which case the taxpayer must enter the designated au- tomatic accounting method change num- bers for all of these changes on the appro- priate line on that Form 3115. This sec- tion 6.32(5)(d) applies only if all of these changes are made for the taxpayer’s first or second taxable year beginning after De- cember 31, 2011. For guidance on fil- ing a single application for two or more changes, see section 6.02(b)(ii) of Rev. Proc. 2011–14. (6)Ogden copy of Form 3115 required in lieu of national office copy.Atax- payer changing its method of accounting under this section 6.32 of the APPEN- DIX must file a signed copy of its com- pleted Form 3115 with the IRS in Ogden, UT (Ogden copy), in lieu of filing the na- tional office copy, no earlier than the first day of the year of change and no later than the date the taxpayer files the origi- nal Form 3115 with its federal income tax return for the year of change.Seesec- tions 6.02(3)(a)(ii)(B) (providing the gen- eral rules) and section 6.02(7)(b) (provid- ing the mailing address) of this revenue procedure. (7)Designated automatic accounting method change numbers. The designated automatic accounting method change number for a change to the method of accounting under section 6.32 of this AP- PENDIX is “180.”Seesection 6.02(4) of this revenue procedure. (8)Contact information. For further information regarding a change under this section, contact Patrick Clinton at (202) 622–4930 (not a toll-free call). SECTION 6. EFFECT ON OTHER DOCUMENTS Rev. Proc. 2011–14 is modified and clarified. SECTION 7. EFFECTIVE DATE This revenue procedure is effective for any taxable year beginning on or after Jan- uary 1, 2012. SECTION 8. PAPERWORK REDUCTION ACT The collection of information con- tained in this revenue procedure has been reviewed and approved by the Office of Management and Budget in accor- dance with the Paperwork Reduction Act (44 U.S.C. 3507) under control number April 2, 20127112012–14 I.R.B. 1545–1551. An agency may not conduct or sponsor, and a person is not required to respond to, a collection of information un- less the collection of information displays a valid OMB control number. The collections of information in this revenue procedure are in sections 5.03. This information is necessary and will be used to determine whether the taxpayer properly changed to a permitted method of accounting. The collections of infor- mation are required for a taxpayer to ob- tain consent to change its method of ac- counting. The likely respondents are the following: individuals, farms, business or other for-profit institutions, nonprofit in- stitutions, and small businesses or organi- zations. The estimated total annual reporting and/or recordkeeping burden is 1,200 hours. The estimated annual burden per re- spondent/recordkeeper varies from 1 /4hour to 1.5 hours, depending on individual cir- cumstances, with an estimated average of 3 /4hour. The estimated number of respon- dents is 1,600. The estimated annual fre- quency of responses is on occasion. SECTION 9. DRAFTING INFORMATION The principal author of this revenue procedure is Kathleen Reed of the Office of Associate Chief Counsel (Income Tax & Accounting). For further information regarding this revenue procedure, contact Patrick Clinton of the Office of Associate Chief Counsel (Income Tax & Account- ing) at (202) 622–4930 (not a toll-free call). 26 CFR 601.105: Examination of returns and claims for refund, credit, or abatement; determination of correct tax liability. (Also: Part I, §§ 280F; 1.280F–7.) Rev. Proc. 2012–23 SECTION 1. PURPOSE This revenue procedure provides: (1) limitations on depreciation deductions for owners of passenger automobiles first placed in service by the taxpayer during calendar year 2012, including separate tables of limitations on depreciation de- ductions for trucks and vans; and (2) the amounts that must be included in income by lessees of passenger automobiles first leased by the taxpayer during calendar year 2012, including a separate table of inclusion amounts for lessees of trucks and vans. The tables detailing these de- preciation limitations and lessee inclusion amounts reflect the automobile price infla- tion adjustments required by § 280F(d)(7) of the Internal Revenue Code. SECTION 2. BACKGROUND .01 For owners of passenger automo- biles, § 280F(a) imposes dollar limitations on the depreciation deduction for the year the taxpayer places the passenger auto- mobile in service and for each succeeding year. For passenger automobiles placed in service after 1988, § 280F(d)(7) requires the Internal Revenue Service to increase the amounts allowable as depreciation de- ductions by a price inflation adjustment amount. The method of calculating this price inflation amount for trucks and vans placed in service in or after calendar year 2003 uses a different CPI “automobile component” (the “new trucks” compo- nent) than that used in the price inflation amount calculation for other passenger automobiles (the “new cars” component), resulting in somewhat higher deprecia- tion deductions for trucks and vans. This change reflects the higher rate of price inflation for trucks and vans since 1988. .02 Section 401(a) of the Tax Relief, Unemployment Insurance Reauthoriza- tion, and Job Creation Act of 2010, Pub. L. No. 111–312, 124 Stat. 3296 (Dec. 17, 2010) (the “Act”) extended the 50 percent additional first year depreciation deduction under § 168(k) to qualified property acquired by the taxpayer after December 31, 2007, and before January 1, 2013, if no written binding contract for the acquisition of the property existed before January 1, 2008, and if the taxpayer places the property in service generally before January 1, 2013. Section 168(k)(2)(F)(i) increases the first year depreciation allowed under § 280F(a)(1)(A)(i) by $8,000 for pas- senger automobiles to which the addi- tional first year depreciation deduction under § 168(k) (hereinafter, referred to as “§ 168(k) additional first year depreciation deduction”) applies. .03 Section 168(k)(2)(D)(i) provides that the § 168(k) additional first year de- preciation deduction does not apply to any property required to be depreciated under the alternative depreciation system of § 168(g), including property described in § 280F(b)(1). Section 168(k)(2)(D)(iii) permits a taxpayer to elect out of the § 168(k) additional first year deprecia- tion deduction for any class of property. Section 168(k)(4), as amended by the Act, permits a corporation to elect to increase the alternative minimum tax (“AMT”) credit limitation under § 53(c), instead of claiming the § 168(k) addi- tional first year depreciation deduction for all eligible qualified property placed in service after December 31, 2010, that is round 2 extension property (as defined in § 168(k)(4)(I)(iv)). Accordingly, this revenue procedure provides tables for passenger automo- biles for which the § 168(k) additional first year depreciation deduction applies. This revenue procedure also provides ta- bles for passenger automobiles for which the § 168(k) additional first year depre- ciation deduction does not apply, either because taxpayer (1) purchased the pas- senger automobile used; (2) did not use the passenger automobile during 2012 more than 50 percent for business purposes; (3) elected out of the § 168(k) additional first year depreciation deduction pursuant to § 168(k)(2)(D)(iii); or (4) elected to increase the § 53 AMT credit limitation in lieu of claiming § 168(k) additional first year depreciation. .04 Section 280F(c) requires a reduc- tion in the deduction allowed to the lessee of a leased passenger automobile. The re- duction must be substantially equivalent to the limitations on the depreciation deduc- tions imposed on owners of passenger au- tomobiles. Under § 1.280F–7(a) of the In- come Tax Regulations, this reduction re- quires a lessee to include in gross income an amount determined by applying a for- mula to the amount obtained from a table. One table applies to lessees of trucks and vans and another table applies to all other passenger automobiles. Each table shows inclusion amounts for a range of fair mar- ket values for each taxable year after the passenger automobile is first leased. 2012–14 I.R.B.712April 2, 2012 SECTION 3. SCOPE .01 The limitations on depreciation de- ductions in section 4.01(2) of this revenue procedure apply to passenger automobiles (other than leased passenger automobiles) that are placed in service by the taxpayer in calendar year 2012, and continue to ap- ply for each taxable year that the passenger automobile remains in service. .02 The tables in section 4.02 of this revenue procedure apply to leased passen- ger automobiles for which the lease term begins during calendar year 2012. Lessees of these passenger automobiles must use these tables to determine the inclusion amount for each taxable year during which the passenger automobile is leased. See Rev. Proc. 2007–30, 2007–1 C.B. 1104, for passenger automobiles first leased during calendar year 2007; Rev. Proc. 2008–22, 2008–1 C.B. 658, for passenger automobiles first leased during calendar year 2008; Rev. Proc. 2009–24, 2009–17 I.R.B. 885, for passenger automobiles first leased during calendar year 2009; Rev. Proc. 2010–18, 2010–9 I.R.B. 427, as amplified and modified by section 4.03 of Rev. Proc. 2011–21, 2011–12 I.R.B. 560, for passenger automobiles first leased during calendar year 2010; and Rev. Proc. 2011–21, for passenger automobiles first leased during calendar year 2011. SECTION 4. APPLICATION .01Limitations on Depreciation Deductions for Certain Automobiles. (1)Amount of the inflation adjustment. (a)Passenger automobiles (other than trucks or vans). Under § 280F(d)(7)(B)(i), the automobile price inflation adjustment for any calendar year is the percentage (if any) by which the CPI automobile component for October of the preceding calendar year exceeds the CPI automobile component for October 1987. Section 280F(d)(7)(B)(ii) defines the term “CPI automobile component” as the automobile component of the Consumer Price Index for all Urban Consumers published by the Department of Labor. The new car compo- nent of the CPI was 115.2 for October 1987 and 143.419 for October 2011. The Octo- ber 2011 index exceeded the October 1987 index by 28.219. Therefore, the automo- bile price inflation adjustment for 2012 for passenger automobiles (other than trucks and vans) is 24.5 percent (28.219/115.2 x 100%). The dollar limitations in § 280F(a) are multiplied by a factor of 0.245, and the resulting increases, after rounding to the nearest $100, are added to the 1988 limitations to give the depreciation limita- tions applicable to passenger automobiles (other than trucks and vans) for calendar year 2012. This adjustment applies to all passenger automobiles (other than trucks and vans) that are first placed in service in calendar year 2012. (b)Trucks and vans. To determine the dollar limitations for trucks and vans first placed in service during calendar year 2012, the Service uses the new truck com- ponent of the CPI instead of the new car component. The new truck component of the CPI was 112.4 for October 1987 and 146.607 for October 2011. The Oc- tober 2011 index exceeded the October 1987 index by 34.207. Therefore, the automobile price inflation adjustment for 2012 for trucks and vans is 30.43 per- cent (34.207/112.4 x 100%). The dollar limitations in § 280F(a) are multiplied by a factor of 0.3043, and the resulting in- creases, after rounding to the nearest $100, are added to the 1988 limitations to give the depreciation limitations for trucks and vans. This adjustment applies to all trucks and vans that are first placed in service in calendar year 2012. (2)Amount of the limitation.Tables 1 through 4 contain the dollar amount of the depreciation limitation for each taxable year for passenger automobiles a taxpayer places in service in calendar year 2012. Use Table 1 for a passenger automobile (other than a truck or van), and Table 2 for a truck or van, placed in service in calen- dar year 2012 for which the § 168(k) ad- ditional first year depreciation deduction applies. Use Table 3 for a passenger au- tomobile (other than a truck or van), and Table 4 for a truck or van, placed in ser- vice in calendar year 2012 for which the § 168(k) additional first year depreciation deduction does not apply. REV. PROC. 2012–23 TABLE 1 DEPRECIATION LIMITATIONS FOR PASSENGER AUTOMOBILES (THAT ARE NOT TRUCKS OR VANS) PLACED IN SERVICE IN CALENDAR YEAR 2012 FOR WHICH THE § 168(k) ADDITIONAL FIRST YEAR DEPRECIATION DEDUCTION APPLIES Tax YearAmount 1st Tax Year $11,160 2nd Tax Year $5,100 3rd Tax Year $3,050 Each Succeeding Year $1,875 April 2, 20127132012–14 I.R.B. REV. PROC. 2012–23 TABLE 2 DEPRECIATION LIMITATIONS FOR TRUCKS AND VANS PLACED IN SERVICE IN CALENDAR YEAR 2012 FOR WHICH THE § 168(k) ADDITIONAL FIRST YEAR DEPRECIATION DEDUCTION APPLIES Tax YearAmount 1st Tax Year $11,360 2nd Tax Year $5,300 3rd Tax Year $3,150 Each Succeeding Year $1,875 REV. PROC. 2012–23 TABLE 3 DEPRECIATION LIMITATIONS FOR PASSENGER AUTOMOBILES (THAT ARE NOT TRUCKS OR VANS) PLACED IN SERVICE IN CALENDAR YEAR 2012 FOR WHICH THE § 168(k) ADDITIONAL FIRST YEAR DEPRECIATION DEDUCTION DOES NOT APPLY Tax YearAmount 1st Tax Year $3,160 2nd Tax Year $5,100 3rd Tax Year $3,050 Each Succeeding Year $1,875 REV. PROC. 2012–23 TABLE 4 DEPRECIATION LIMITATIONS FOR TRUCKS AND VANS PLACED IN SERVICE IN CALENDAR YEAR 2012 FOR WHICH THE § 168(k) ADDITIONAL FIRST YEAR DEPRECIATION DEDUCTION DOES NOT APPLY Tax YearAmount 1st Tax Year $3,360 2nd Tax Year $5,300 3rd Tax Year $3,150 Each Succeeding Year $1,875 .02Inclusions in Income of Lessees of Passenger Automobiles. A taxpayer must follow the procedures in § 1.280F–7(a) for determining the inclu- sion amounts for passenger automobiles first leased in calendar year 2012. In ap- plying these procedures, lessees of passen- ger automobiles other than trucks and vans should use Table 5 of this revenue pro- cedure, while lessees of trucks and vans should use Table 6 of this revenue proce- dure. REV. PROC. 2012–23 TABLE 5 DOLLAR AMOUNTS FOR PASSENGER AUTOMOBILES (THATARENOTTRUCKSORVANS) WITH A LEASE TERM BEGINNING IN CALENDAR YEAR 2012 Fair Market Value of Passenger AutomobileTax Year During Lease OverNot Over1st2nd3rd4th5th & Later $18,500$19,000 24 5 68 19,000 19,500 24779 19,500 20,0002 5 8810 20,000 20,500 3 5 91011 20,500 21,0003691212 21,000 21,500 37101214 21,500 22,00038111316 2012–14 I.R.B.714April 2, 2012 REV. PROC. 2012–23 TABLE 5 DOLLAR AMOUNTS FOR PASSENGER AUTOMOBILES (THATARENOTTRUCKSORVANS) WITH A LEASE TERM BEGINNING IN CALENDAR YEAR 2012 Fair Market Value of Passenger AutomobileTax Year During Lease OverNot Over1st2nd3rd4th5th & Later 22,00023,0004813 15 17 23,00024,000410 15 1720 24,000 25,0005 11171923 25,000 26,000612192126 26,00027,000614202428 27,00028,0007 15 222631 28,00029,000716 25 2833 29,00030,000818 25 32 35 30,00031,000919273438 31,00032,000920303641 32,00033,0001021323843 33,00034,0001023334146 34,000 35,000 1124 35 4349 35,000 36,00012 25 37 4552 36,00037,00012273947 54 37,00038,00013284149 57 38,00039,000132943 5259 39,00040,0001430 4554 62 40,00041,000143247 5665 41,00042,000 15 3349 58 68 42,00043,0001634 51 6170 43,00044,0001636 52 6373 44,000 45,000 1737 54 66 75 45,000 46,0001738 57 6778 46,00047,0001839 59 7080 47,00048,0001940617283 48,00049,000194262 75 86 49,000 50,000 2043647789 50,00051,000 20 45 667991 51,00052,000 2146688194 52,00053,000 2147708496 53,00054,000 2248728699 54,00055,000 23497488102 55,00056,000 23 51 7690104 56,00057,000 24 52 7892107 57,00058,000 24 54 79 95 110 58,00059,0002555 8197113 59,000 60,00026 56 83100 115 60,00062,00026 58 86103119 62,00064,000286090108124 64,00066,000296394112129 66,00068,000306697117 135 68,00070,0003168102121140 70,00072,0003271 105 126 145 72,00074,0003374109130 151 74,00076,000 35 76113 135156 76,00078,0003678117140161 78,00080,0003781120 145 166 80,000 85,000 3986127 152 176 85,000 90,0004292137163189 90,000 95,00045 98147 175 202 95,000 100,00048 105155 187 215 100,000110,000 52115 170203 235 110,000120,000 58 127189227262 April 2, 20127152012–14 I.R.B. REV. PROC. 2012–23 TABLE 5 DOLLAR AMOUNTS FOR PASSENGER AUTOMOBILES (THATARENOTTRUCKSORVANS) WITH A LEASE TERM BEGINNING IN CALENDAR YEAR 2012 Fair Market Value of Passenger AutomobileTax Year During Lease OverNot Over1st2nd3rd4th5th & Later 120,000130,00064140208 250 288 130,000140,00070 153 227272 315 140,000 150,00075 166246296340 150,000 160,00081179 265 318368 160,000170,00087192284341394 170,000180,00093204304364420 180,000190,00099217323387446 190,000200,000 105 230342409473 200,000210,000111243361432499 210,000220,000116 256 380 455526 220,000230,000122269399478 552 230,000240,000128282418 501578 240,000and up134294437 524605 REV. PROC. 2012–23 TABLE 6 DOLLAR AMOUNTS FOR TRUCKS AND VANS WITH A LEASE TERM BEGINNING IN CALENDAR YEAR 2012 Fair Market Value of Truck or VanTax Year During Lease OverNot Over1st2nd3rd4th5th & Later $19,000$19,500 14 5 67 19,500 20,00024679 20,000 20,500 2 5 7810 20,500 21,0002 5 81011 21,000 21,500 3691013 21,500 22,00036101214 22,00023,000381114 15 23,00024,00049131618 24,000 25,000 410 15 1921 25,000 26,000 5 11172124 26,00027,000612192326 27,00028,00061421 25 29 28,00029,0007 15 232732 29,00030,000717243034 30,00031,000818263237 31,00032,000919283440 32,00033,000920313642 33,00034,0001021333944 34,000 35,000 1023344148 35,000 36,00011243644 50 36,00037,00012 25 3846 53 37,00038,00012274048 55 38,00039,000132842 5058 39,00040,000132944 53 60 40,00041,0001431 4555 63 41,00042,000143248 57 66 42,00043,000 15 33 5059 69 43,00044,0001634 52 6172 44,000 45,000 1636 53 6474 45,000 46,0001737 55 6677 46,00047,0001738 58 6879 2012–14 I.R.B.716April 2, 2012 REV. PROC. 2012–23 TABLE 6 DOLLAR AMOUNTS FOR TRUCKS AND VANS WITH A LEASE TERM BEGINNING IN CALENDAR YEAR 2012 Fair Market Value of Truck or VanTax Year During Lease OverNot Over1st2nd3rd4th5th & Later 47,00048,0001840 59 7082 48,00049,0001941617384 49,000 50,000 194263 75 87 50,00051,000 2043 65 7889 51,00052,000 20 45 668093 52,00053,000 21466883 95 53,00054,000 2148708498 54,00055,000 22497287100 55,00056,000 23 50 7489103 56,00057,000 23 51 7692 105 57,00058,000 24 52 7894108 58,00059,000 24 54 8096111 59,000 60,000 2555 8298114 60,00062,00026 5785 101118 62,00064,000276088106123 64,00066,000286293110128 66,00068,00029 65 96 115 134 68,00070,0003067100120139 70,00072,0003270103 125 144 72,00074,0003372108129149 74,00076,00034 75 111134 155 76,00078,000 35 78 115 138160 78,00080,0003680119143 165 80,000 85,000 38 85125151175 85,000 90,0004191 135 163187 90,000 95,000 4498144174201 95,000 100,00047104 154185 214 100,000110,000 52 113169202234 110,000120,000 57 127187 225 261 120,000130,00063139207248287 130,000140,00069 152 226271313 140,000 150,00075165245 294339 150,000 160,00081178264316366 160,000170,00087190283340392 170,000180,00092204302362419 180,000190,00098216322 385445 190,000200,000104229340409471 200,000210,000110242 359 431498 210,000220,000116 255 378 454524 220,000230,000122267398477 551 230,000240,000127281416 500577 240,000and up133294 435523 603 SECTION 5. EFFECTIVE DATE This revenue procedure applies to pas- senger automobiles that a taxpayer first places in service or first leases during cal- endar year 2012. SECTION 6. DRAFTING INFORMATION The principal author of this rev- enue procedure is Bernard P. Harvey of the Office of Associate Chief Counsel (Income Tax & Accounting). For further information regarding this revenue procedure, contact Mr. Harvey at (202) 622–4930 (not a toll-free call). April 2, 20127172012–14 I.R.B. Part IV. Items o fGeneralInterest Notice of Proposed Rulemaking by Cross-Reference to Temporary Regulations, Notice of Public Hearing, and Withdrawal of Previously Proposed Regulations Guidance Regarding Deduction and Capitalization of Expenditures Related to Tangible Property REG–168745–03 AGENCY: Internal Revenue Service (IRS), Treasury. ACTION: Notice of proposed rulemaking by cross-reference to temporary regula- tions, notice of public hearing, and with- drawal of previously proposed regulations. SUMMARY: In this issue of the Bulletin, the IRS is issuing temporary regulations (T.D. 9564) that provide guidance on the application of sections 162(a) and 263(a) of the Internal Revenue Code (Code) to amounts paid to acquire, produce, or im- prove tangible property. The temporary regulations clarify and expand the stan- dards in the current regulations under sec- tions 162(a) and 263(a), and provide cer- tain bright-line tests (for example, ade minimisrule for certain acquisitions) for applying these standards. The temporary regulations also provide guidance under section 168 regarding the accounting for, and dispositions of, property subject to section 168. The temporary regulations also amend the general asset account reg- ulations. The temporary regulations will affect all taxpayers that acquire, produce, or improve tangible property. The text of the temporary regulations published in the Federal Regulations also serves as the text of these proposed regulations. This docu- ment also provides notice of public hearing on these proposed regulations and with- draws the proposed regulations published in theFederal Registeron March 10, 2008 (73 FR 47). DATES: Written and/or electronic com- ments must be received by March 26, 2012. Requests to speak and outlines of topics to be discussed at the public hearing scheduledforMay9,2012at10a.m., must be received by April 17, 2012. ADDRESSES: Send submissions to: CC:PA:LPD:PR(REG–168745–03), room 5203, Internal Revenue Service, PO Box 7604, Ben Franklin Station, Washington, DC 20044. Submissions may be hand-delivered Monday through Friday between the hours of 8:00 a.m. and 4:00 p.m.to CC:PA:LPD:PR (REG–168745–03), Courier’s Desk, Internal Revenue Service, 1111 Constitution Avenue, NW, Washington, DC 20224, or sent electronically, viatheFederaleRulemaking Portal atwww.regulations.gov(IRS REG–168745–03). The public hearing will be held in the IRS Auditorium, Internal Revenue Building, 1111 Constitution Avenue, NW, Washington, DC. FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations under sections 162 and 263, Merrill D. Feldstein and Alan Williams, Office of Associate Chief Counsel (Income Tax and Accounting) (202) 622–4950; concerning the proposed regulations under sections 165, 167, 168, 263A, and 1016, Kathleen Reed and Patrick Clinton, Office of Associate Chief Counsel (Income Tax and Accounting) (202) 622–4930; and concerning submission of comments, the hearing, and/or to be placed on the building access list to attend the hearing, Richard.A.Hurst@irscounsel.treas.gov. SUPPLEMENTARY INFORMATION: Background and Explanation of Provisions Temporary regulations in this issue of the Bulletin amend the Income Tax Regu- lations (26 CFR part 1) relating to sections 162, 165, 167, 168, 263(a), 263A, and 1016. The temporary regulations set forth rules relating to amounts paid to acquire, produce, or improve tangible property. The temporary regulations also provide guidance regarding the accounting for, and dispositions of, property subject to section 168. The temporary regulations also amend the general asset account regulations. The text of the temporary regulations also serves as the text of these proposed regulations. The preamble to the temporary regulations explains the temporary regulations and these proposed regulations. Special Analyses It has been determined that this notice of proposed rulemaking is not a sig- nificant regulatoryaction as defined in Executive Order 12866, as supplemented by Executive Order 13563. Therefore, a regulatory assessment is not required. It also has been determined that section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5) does not apply to these regulations, and, because the regulation does not impose a collection of information on small entities, the Regulatory Flexibility Act (5 U.S.C. chapter 6) does not apply. Pursuant to section 7805(f), this regulation has been submitted to the Chief Counsel for Advocacy of the Small Business Administration for comment on its impact on small business. Comments and Public Hearing Before these proposed regulations are adopted as final regulations, consideration will be given to any written comments (a signed original and eight (8) copies) or electronic comments that are submitted timely to the IRS. Comments are requested on all aspects of the proposed rules. In ad- dition, the IRS and Treasury Department specifically request comments on the clar- ity of the proposed rules and how they may be made easier to understand. All com- ments will be available for public inspec- tion and copying. A public hearing has been scheduled for May 9, 2012, beginning at 10 a.m. in the IRS Auditorium, Internal Revenue Build- ing, 1111 Constitution Avenue, NW, Wash- ington, DC. Due to building security pro- cedures, visitors must enter at the Consti- tution Avenue entrance. In addition, all visitors must present photo identification 2012–14 I.R.B.718April 2, 2012 to enter the building. Because of access restrictions, visitors will not be admitted beyond the immediate entrance area more than 30 minutes before the hearing starts. For information about having your name placed on the building access list to attend the hearing, see the “FOR FURTHER IN- FORMATION CONTACT” section of this preamble. The rules of 26 CFR 601.601(a)(3) apply to the hearing. Persons who wish to present oral comments at the hearing must submit electronic or written com- ments and an outline of the topics to be discussed and the time to be devoted to each topic (signed original and eight (8) copies) by April 17, 2012. A period of 10 minutes will be allotted to each person for making comments. An agenda showing the scheduling of the speakers will be prepared after the deadline for receiving outlines has passed. Copies of the agenda will be available free of charge at the hearing. Drafting Information The principal authors of these regulations are Merrill D. Feldstein and Kathleen Reed, Office of the Associate Chief Counsel (Income Tax and Accounting). However, other personnel from the IRS and Treasury Department participated in their development. Withdrawal of Proposed Amendments to the Regulations Accordingly, under the authority of 26 U.S.C. 7805, the notice of proposed rulemaking (REG–168745–03) published in theFederal Registeron March 10, 2008, (73 FR 46) is withdrawn. Proposed Amendment to the Regulations Accordingly, 26 CFR Part 1 is proposed to be amended as follows: PART 1—INCOME TAXES Paragraph 1. The authority citation for part 1 is amended by adding an entry in numerical order to read as follows: Authority: 26 U.S.C. 7805 * * * Section 1.168(i)–1T also issued under 26 U.S.C. 168(i)(4). * * * Par. 2. Section 1.162–3 is revised to read as follows: §1.162–3 Materials and Supplies. [The text of the proposed amendments to §1.162–3 is the same as the text of §1.162–3T(a) through (j) published else- whereinthisissueoftheBulletin]. Par. 3. Section 1.162–4 is revised to read as follows: §1.162–4 Repairs. [The text of the proposed amendments to §1.162–4 is the same as the text of §1.162–4T(a) through (c) published else- whereinthisissueoftheBulletin]. §1.162–6 [Removed] Par. 4. Section 1.162–6 is removed. Par. 5. Section 1.162–11 is amended by: 1. Revising paragraph (b). 2. Adding paragraph (c). The revision and addition reads as fol- lows: §1.162–11 Rentals. ***** (b) [The text of the proposed amend- ments to §1.162–11(b) is the same as the text of §1.162–11T(b) published else- where in this issue of the Bulleltin]. (c) [The text of the proposed amend- ments to §1.162–11(c) is the same as the text of §1.162–11T(c) published elsewhere in this issue of the Bulletin]. Par. 6. Section 1.165–2 is amended by: 1. Revising paragraph (c). 2. Adding paragraph (d). The addition and revision read as fol- lows: §1.165–2 Obsolescence of nondepreciable property. ***** (c) [The text of the proposed amend- ments to §1.165–2(c) is the same as the text of §1.165–2T(c) published elsewhere in this issue of the Bulleltin]. (d) [The text of the proposed amend- ments to §1.165–2(d) is the same as the text of §1.165–2T(d) published elsewhere in this issue of the Bulletin]. Par. 7. Section 1.167(a)–4 is revised to read as follows: §1.167(a)–4 Leased property. [The text of the proposed amendments to §1.167(a)–4 is the same as the text of §1.167(a)–4T(a) through (b)(4) published elsewhere in this issue of the Bulletin]. Par. 8. Section 1.167(a)–7 is amended by adding paragraphs (e) and (f) to read as follows: §1.167(a)–7 Accounting for depreciable property. ***** (e) [The text of the proposed amend- ments to §1.167(a)–7(e) is the same as the text of §1.167(a)–7T(e) published else- whereinthisissueoftheBulletin]. (f) [The text of the proposed amend- ments to §1.167(a)–7(f) is the same as the text of §1.167(a)–7T(f) published else- where in this issue of the Bulleltin]. Par. 9. Section 1.167(a)–8 is amended by adding paragraphs (g) and (h). The addition reads as follows: §1.167(a)–8 Retirements. ***** (g) [The text of the proposed amend- ments to §1.167(a)–8(g) is the same as the text of §1.167(a)–8T(g) published else- whereinthisissueoftheBulletin]. (h) [The text of the proposed amend- ments to §1.167(a)–8(h) is the same as the text of §1.167(a)–8T(h) published else- whereinthisissueoftheBulletin]. Par. 10. Section 1.168(i)–0 is amended by: 1. Adding entries in the table of con- tents for paragraphs (b)(5), (b)(6), and (c)(3). 2. Redesignating the entry in the table of contents for paragraph (d)(2) as the en- try for paragraph (d)(4) and adding para- graphs (d)(2) and (d)(3). 3. Redesignating the entry in the table of contents for paragraph (e)(2)(v) as the entry for (e)(2)(ix), and adding a new para- graph (e)(2)(v) and paragraphs (e)(2)(vi), (vii), and (viii). 4. Redesignating the entry in the table of contents for paragraph (e)(3)(vi) as the entry for paragraph (e)(3)(vii) and adding a new paragraph (e)(3)(vi). April 2, 20127192012–14 I.R.B. 5. Redesignating the entry in the table of contents for paragraph (h)(2) as the en- try for paragraph (h)(3) and adding new paragraph (h)(2). 6. Removing the entries in the table of contents for paragraphs (l)(1), (2), and (3) and redesignating the entries in the table of contents for paragraphs (k)(1), (2), and (3) as the entries for paragraphs (l)(1), (2), and (3), respectively. 7. Redesignating the entry in the table of contents for paragraph (j) as the entry for paragraph (k) and redesignating the en- try in the table of contents for paragraph (i) as paragraph (j), and adding a new para- graph (i). 8. Adding paragraph (m). The additions read as follows: §1.168(i)–0 Table of contents for the general asset account rules. ***** §1.168(i)–1 General asset accounts. ***** (b) * * * (5) and (6) [The entries in the table of contents for the proposed amendments to §1.168(i)–1(b)(5) and (6) are the same as the entries in the table of contents for §1.168(i)–1T(b)(5) and (6) published else- where in this issue of the Bulletin]. (c) * * * (3) [The entry in the table of con- tents for the proposed amendments to §1.168(i)–1(c)(3) is the same as the entry in the table of contents for §1.168(i)–1T(c)(3) published elsewhere in this issue of the Bulletin]. (d) * * * (2) and (3) [The entries in the table of contents for the proposed amendments to §1.168(i)–1(d)(2) and (d)(3) are the same as the entries in the table of contents for §1.168(i)–1T(d)(2) and (3) published else- where in this issue of the Bulletin]. ***** (e) * * * (2) * * * (v) through (viii) [The entries in the table of contents for the proposed amend- ments to §1.168(i)–1(e)(2)(v) through (viii) are the same as the entries in the table of contents for §1.168(i)–1T(e)(2)(v) through (viii) published elsewhere in this issue of the Bulleltin]. ***** (e)(3)*** (vi) [The entry in the table of con- tents for the proposed amendments to §1.168(i)–1(e)(3)(vi) is the same as the entry in the table of contents for §1.168(i)–1T(e)(3)(vi) published else- where in this issue of the Bulletin]. ***** (h) * * * (2) [The entry in the table of con- tents for the proposed amendments to §1.168(i)–1(h)(2) is the same as the entry in the table of contents for §1.168(i)–1T(h)(2) published elsewhere in this issue of the Bulletin]. ***** (i) [The entry in the table of con- tents for the proposed amendments to §1.168(i)–1(i) is the same as the entry in the table of contents for §1.168(i)–1T(i) published elsewhere in this issue of the Bulletin]. ***** (m) [The entry in the table of con- tents for the proposed amendments to §1.168(i)–1(m) is the same as the entry in the table of contents for §1.168(i)–1T(m) published elsewhere in this issue of the Bulletin]. Par. 11. Section 1.168(i)–1 is amended by: 1. Removing paragraphs (l), (l)(1), (l)(2), and (l)(3), and redesignating para- graphs (k), (k)(1), (k)(2), and (k)(3) as paragraphs (l), (l)(1), (l)(2), and (l)(3), respectively. 2. Redesignating paragraph (j) as para- graph (k) and redesignating paragraph (i) as paragraph (j), and adding new paragraph (i). 3. Revising paragraphs (a) through (h) and revising paragraphs (j) through (l)(1); and 4. Adding paragraph (m). The revisions and additions read as fol- lows: §1.168(i)–1 General asset accounts. (a) through (l)(1) [The text of the proposed amendments to §1.168(i)–1(a) through (l)(1) is the same as the text of §1.168(i)–1T(a) through (l)(1) published elsewhere in this issue of the Bulletin]. ***** (m) [The text of the proposed amend- ments to §1.168(i)–1(m) is the same as the text of §1.168(i)–1T(m) published else- where in this issue of the Bulletin]. Par. 12. Section 1.168(i)–7 is added to read as follows: §1.168(i)–7 Accounting for MACRS property. [The text of the proposed amendments to §1.168(i)–7 is the same as the text of §1.168(i)–7T published elsewhere in this issue of the Bulletin]. Par. 13. Section 1.168(i)–8 is added to read as follows: §1.168(i)–8 Dispositions of MACRS property. [The text of the proposed amendments to §1.168(i)–8 is the same as the text of §1.168(i)–8T published elsewhere in this issue of the Bulletin]. Par. 14. Section 1.263(a)–0 is amended by: 1. Revising the section headings to the table of contents for §§1.263(a)–2 and 1.263(a)–3. 2. Adding entries to the table of con- tents for §§1.263(a)–1, 1.263(a)–2, and 1.263(a)–3. The revisions and additions read as fol- lows: §1.263(a)–0 Table of contents. ***** §1.263(a)–1 Capital expenditures; in general. (a) through (g) [The entries in the ta- ble of contents for the proposed amend- ments to §1.263(a)–1(a) through (g) are the same as the entries in the table of contents for §1.263(a)–1T(a) through (g) published elsewhere in this issue of the Bulletin]. §1.263(a)–2 Amounts paid to acquire or produce tangible property. (a) through (k) [The entries in the ta- ble of contents for the proposed amend- ments to §1.263(a)–2(a) through (k) are the same as the entries in the table of contents for §1.263(a)–2T(a) through (k) published elsewhere in this issue of the Bulletin]. 2012–14 I.R.B.720April 2, 2012 §1.263(a)–3 Amounts paid to improve tangible property. (a) through (p) [The entries in the ta- ble of contents for the proposed amend- ments to §1.263(a)–3(a) through (p) are the same as the entries in the table of contents for §1.263(a)–3T(a) through (p) published elsewhere in this issue of the Bulletin]. ***** Par. 15. Section 1.263(a)–1 is revised to read as follows: §1.263(a)–1 Capital expenditures; in general. [The text of the proposed amendments to §1.263(a)–1 is the same as the text of §1.263(a)–1T published elsewhere in this issue of the Bulletin]. Par. 16. Section 1.263(a)–2 is revised to read as follows: §1.263(a)–2 Amounts paid to acquire or produce tangible property. [The text of the proposed amendments to §1.263(a)–2 is the same as the text of §1.263(a)–2T published elsewhere in this issue of the Bulletin]. Par. 17. Section 1.263(a)–3 is revised to read as follows: §1.263(a)–3 Amounts paid to improve tangible property. [The text of the proposed amendments to §1.263(a)–3 is the same as the text of §1.263(a)–3T published elsewhere in this issue of the Bulletin]. Par. 18. Section 1.263(a)–6 is added to read as follows: §1.263(a)–6Electiontodeductor capitalize certain expenditures. [The text of the proposed amendments to §1.263(a)–6 is the same as the text of §1.263(a)–6T published elsewhere in this issue of the Bulletin]. Par. 19. Section 1.263A–1 is amended by: 1. Adding paragraph (b)(14). 2. Revising paragraph (c)(4). 3. Revising paragraph (e)(2)(i)(A). 4. Revising paragraph (e)(3)(ii)(E). 5. Revising paragraph (l). 6. Adding paragraph (m). The additions and revisions read as fol- lows: §1.263A–1 Uniform capitalization of costs. ***** (b) * * * (14) [The text of the proposed amend- ments to §1.263A–1(b)(14) is the same as the text of §1.263A–1T(b)(14) published elsewhere in this issue of the Bulletin]. ***** (c) * * * (4) [The text of the proposed amend- ments to §1.263A–1(c)(4) is the same as the text of §1.263A–1T(c)(4) published elsewhere in this issue of the Bulletin]. ***** (e) * * * (2) * * * (i) * * * (A) [The text of the proposed amendments to §1.263A–1(e)(2)(i)(A) is the same as the text of §1.263A–1T(e)(2)(i)(A) published else- whereinthisissueoftheBulletin]. ***** (3) * * * (ii) * * * (E) [The text of the proposed amendments to §1.263A–1(e)(3)(ii)(E) is the same as the text of §1.263A–1T(e)(3)(ii)(E) published else- whereinthisissueoftheBulletin]. ***** (l) [The text of the proposed amend- ments to §1.263A–1(l) is the same as the text of §1.263A–1T(l) published else- whereinthisissueoftheBulletin]. (m) [The text of the proposed amend- ments to §1.263A–1(m) is the same as the text of §1.263A–1T(m) published else- whereinthisissueoftheBulletin]. Par. 20. Section 1.1016–3 is amended by: 1. Revising paragraphs (a)(1)(ii) and (j)(1). 2. Adding paragraph (j)(3). The addition and revision read as fol- lows: §1.1016–3 Exhaustion, wear and tear, obsolescence, amortization, and depletion for periods since February 13, 1913. (a) * * * (1) * * * (ii) [The text of the proposed amend- ments to §1.1016–3(a)(1)(ii) is the same as the text of §1.1016–3T(a)(1)(ii) published elsewhere in this issue of the Bulletin]. ***** (j) * * * (1) [The text of the proposed amend- ments to §1.1016–3(j)(1) is the same as the text of §1.1016–3T(j)(1) published else- whereinthisissueoftheBulletin]. ***** (3) [The text of the proposed amend- ments to §1.1016–3T(j)(3) is the same as the text of §1.1016–3T(j)(3) published elsewhere in this issue of the Bulletin]. Steven T. Miller, Deputy Commissioner for Services and Enforcement. (Filed by the Office of the Federal Register on December 23, 2011, 8:45 a.m., and published in the issue of the Federal Register for December 27, 2011, F.R. 26678) TEB Voluntary Closing Agreement Program: Relief From Allocation and Accounting Errors for Certain Issuers of Tax-Exempt Student Loan Bonds Announcement 2012–14 SECTION 1. BACKGROUND Some issuers of qualified student loan bonds allocated student loans made or ac- quired with gross proceeds to an issue of bonds (the first bond issue) and subse- quently reallocated the same student loans to other issues. These reallocations were not due to a refunding of the first bond is- sue or the universal cap rule. The issuers did not sell, discharge, or otherwise actu- ally dispose of the student loans. The is- suers were unable to establish the bond is- sues to which the student loans were prop- erly allocable as purpose investments and, as a consequence, the issuers could not es- tablish that the bond issues involved were other than issues of arbitrage bonds. Some of these issuers have approached the IRS about the possibility of entering into closing agreements after the discovery of these types of reallocations with respect to their qualified student loan bonds. This announcement sets forth the terms under which the IRS will enter into a voluntary April 2, 20127212012–14 I.R.B. closing agreement with an issuer of quali- fied student loan bonds that are not the sub- ject of an examination. The intent underlying this program is to treat expeditiously all requests for closing agreements which are submitted in accor- dance with this announcement. SECTION 2. TAX EXEMPT BONDS VOLUNTARY CLOSING AGREEMENT PROGRAM (TEB VCAP) .01 Pursuant to the TEB VCAP pro- gram set forth in Notice 2008–31, 2008–1 C.B. 592 (March 17, 2008), the IRS will consider requests from issuers of quali- fied student loan bonds for voluntary clos- ing agreements. Such requests will be processed under the administrative proce- dures described in section 7.2.3 of the In- ternal Revenue Manual (the “IRM”). .02 The closing agreement will provide: (A) The interest on the bonds covered by the agreement (the “Bonds”) will not be includible in gross income of bondholders solely as a result of an action relating to the allocation of student loans as purpose in- vestments that occurred subsequent to the issue date that caused the Bonds to fail to meet certain requirements of §148 of the Internal Revenue Code, as amended (the “Code”). (B) The Issuer represents that as of the date of the closing agreement, the Issuer has discontinued the practice of reallo- cation of qualified student loans from one bond issue to another other than pur- suant to the transferred proceeds rules in § 1.148–9 of the Income Tax Regulations (the “Regulations”) or the universal cap rules in § 1.148–6 of the Regulations. (C) Prior to the IRS’ execution and delivery of the agreement, the Issuer shall cause to be electronically paid to the IRS a settlement amount (the “Settlement Amount”). The Settlement Amount will be an amount equal to the sum of (a) forty percent (40%) of the taxpayer exposure on each issue of the Bonds computed pur- suant to IRM 4.81.6.5.3.1 and (b) based on the Issuer’s existing records, an amount equal to the excessive arbitrage profit (as defined in IRM 4.81.6.5.3.8) on the Bonds from the issue date to the beginning of the first year included in the calculation of taxpayer exposure, calculated as follows: (Step 1) determine the aggregate amount of excess earnings on each issue of the Bonds separately from the issue date to the date the VCAP request was filed, (Step 2) allocate the amount determined for each issue of the Bonds equally to each cal- endar year (including partial years as full calendar years) between the issue date of each issue of the Bonds and the date the VCAP request was filed, and (Step 3) add the amounts resulting from Step 2 from the issue date of each issue of the Bonds to January 1 of the year that is the earli- est year used in computing the taxpayer exposure pursuant to IRM 4.81.6.5.3.1. Payment of the Settlement Amount shall not be made from proceeds of bonds de- scribed in § 103(a) of the Code. (D) The Settlement Amount will not be refundable, subject to credit or offset, or deductible for Federal income tax pur- poses under any circumstance. (E) Payment of the Settlement Amount will eliminate any liability under § 148 of the Code for yield reduction payments or rebate amounts in respect of any stu- dent loans allocable or allocated to the Bonds producing a yield that is materi- ally higher than the yield on the Bonds accrued through the date of this Agree- ment, or accruing thereafter through the date the Bonds are retired, reissued and/or refunded. (F) Because this program does not arise out of an examination, consideration un- der this program does not preclude or im- pede the IRS’ examination of the Issuer, the bondholders, or the Bonds with respect to any matter not addressed in the closing agreement. .03 An Issuer requesting a settlement under TEB VCAP must request a settle- ment with respect to all of the outstanding qualified student loan bond issues (1) from which it reallocated student loans made or acquired with gross proceeds of the issue to another issue other than due to the trans- ferred proceeds or universal cap rules and (2) to which it reallocated those loans. .04 The Issuer must submit the TEB VCAP request no later than July 31, 2012, under the operating procedures described in IRM 7.2.3. .05 Generally, within 60 days of the re- ceipt of a complete TEB VCAP request, the IRS will process the request and send a closing agreement to the issuer for its ex- ecution. An issuer must submit payment of the Settlement Amount, in accordance with the closing agreement, prior to return- ing the executed closing agreement to the IRS. SECTION 3. DRAFTING INFORMATION The principal author of this an- nouncement is Mark S. Westergard of the IRS Office of Tax Exempt Bonds. For further information regarding this announcement, contact Mark Westergard at (802) 859–1003 (not a toll-free call). 2012–14 I.R.B.722April 2, 2012 Definition of Terms Revenue rulings and revenue procedures (hereinafter referred to as “rulings”) that have an effect on previous rulings use the following defined terms to describe the ef- fect: Amplifieddescribes a situation where no change is being made in a prior pub- lished position, but the prior position is be- ingextendedtoapplytoavariationofthe fact situation set forth therein. Thus, if an earlier ruling held that a principle ap- plied to A, and the new ruling holds that the same principle also applies to B, the earlier ruling is amplified. (Compare withmodi- fied,below). Clarifiedis used in those instances where the language in a prior ruling is be- ing made clear because the language has caused, or may cause, some confusion. It is not used where a position in a prior ruling is being changed. Distinguisheddescribes a situation where a ruling mentions a previously pub- lished ruling and points out an essential difference between them. Modifiedis used where the substance of a previously published position is being changed. Thus, if a prior ruling held that a principle applied to A but not to B, and the new ruling holds that it applies to both A and B, the prior ruling is modified because it corrects a published position. (Compare withamplifiedandclarified, above). Obsoleteddescribes a previously pub- lished ruling that is not considered deter- minative with respect to future transac- tions. This term is most commonly used in a ruling that lists previously published rul- ings that are obsoleted because of changes in laws or regulations. A ruling may also be obsoleted because the substance has been included in regulations subsequently adopted. Revokeddescribes situations where the position in the previously published ruling is not correct and the correct position is beingstatedinanewruling. Supersededdescribes a situation where the new ruling does nothing more than re- state the substance and situation of a previ- ously published ruling (or rulings). Thus, the term is used to republish under the 1986 Code and regulations the same po- sition published under the 1939 Code and regulations. The term is also used when it is desired to republish in a single rul- ing a series of situations, names, etc., that were previously published over a period of time in separate rulings. If the new rul- ing does more than restate the substance of a prior ruling, a combination of terms is used. For example,modifiedandsu- persededdescribes a situation where the substance of a previously published ruling is being changed in part and is continued without change in part and it is desired to restate the valid portion of the previously published ruling in a new ruling that is self contained. In this case, the previously pub- lished ruling is first modified and then, as modified, is superseded. Supplementedis used in situations in which a list, such as a list of the names of countries, is published in a ruling and that list is expanded by adding further names in subsequent rulings. After the original rul- ing has been supplemented several times, a new ruling may be published that includes the list in the original ruling and the ad- ditions, and supersedes all prior rulings in the series. Suspendedis used in rare situations to show that the previous published rulings will not be applied pending some future action such as the issuance of new or amended regulations, the outcome of cases in litigation, or the outcome of a Service study. Abbreviations The fol lowing abbreviations in current use and for merly used will appear in material publis hedintheBulletin. A—Individual. Acq.—A cquiescence. B—Individual. BE—Beneficiary. BK—Bank . B.T.A.—Board of Tax Appeals. C—Individual. C.B.—Cu mulative Bulletin. CFR—Code of Federal Regulations. CI—City. COOP—Coo perative. Ct.D.—Court Decision. CY—County. D—Decede nt. DC—Dummy Corporation. DE—Donee. Del. Order —Delegation Order. DISC—Domestic International Sales Corporation. DR—Donor. E—Estate. EE—Employee. E.O.—Executive Order. ER—Emp loyer. ERISA—Employee Retirement Income Security Act. EX—Executor. F—Fiduc iary. FC—Foreign Country. FICA—Federal Insurance Contributions Act. FISC—Fo reign International Sales Company. FPH—Foreign Personal Holding Company. F.R.—Federal Register. FUTA—Fed eral Unemployment Tax Act. FX—Foreign corporation. G.C.M.—Chief Counsel’s Memorandum. GE—Grante e. GP—General Partner. GR—Grantor. IC—Insura nce Company. I.R.B.—Internal Revenue Bulletin. LE—Lessee. LP—Limited Partner. LR—Lessor. M—Minor. Nonacq.—No nacquiescence. O—Organization. P—Parent Corporation. PHC—Persona l Holding Company. PO—Possession of the U.S. PR—Partner. PRS—Pa rtnership. PTE—Prohibited Transaction Exemption. Pub. L.—Public Law. REIT—Re al Estate Investment Trust. Rev. Proc.—Revenue Procedure. Rev. Rul.—Revenue Ruling. S—Subsi diary. S.P.R.—Statement of Procedural Rules. Stat.—Statutes at Large. T—Target Corporation. T.C.—Tax Court. T.D.—Treasury Decision. TFE—Trans feree. TFR—Transferor. T.I.R.—Technical Information Release. TP—Taxpay er. TR—Trust. TT—Trustee. U.S.C.—Uni ted States Code. X—Corporation. Y—Corporation. Z—Corporat ion. April 2, 2012i2012–14 I.R.B. Numerical Finding List 1 Bulletins 2012–1 through 2012–14 Announcements: 2012-1, 2012-1 I.R.B.249 2012-2, 2012-2 I.R.B.285 2012-3, 2012-4 I.R.B.335 2012-4, 2012-4 I.R.B.335 2012-5, 2012-5 I.R.B.348 2012-6, 2012-6 I.R.B.366 2012-7, 2012-6 I.R.B.367 2012-8, 2012-7 I.R.B.373 2012-9, 2012-7 I.R.B.377 2012-11, 2012-13 I.R.B.611 2012-12, 2012-12 I.R.B.562 2012-14, 2012-14 I.R.B.721 Notices: 2012-1, 2012-2 I.R.B.260 2012-3, 2012-3 I.R.B.289 2012-4, 2012-3 I.R.B.290 2012-5, 2012-3 I.R.B.291 2012-6, 2012-3 I.R.B.293 2012-7, 2012-4 I.R.B.308 2012-8, 2012-4 I.R.B.309 2012-9, 2012-4 I.R.B.315 2012-10, 2012-5 I.R.B.343 2012-11, 2012-5 I.R.B.346 2012-12, 2012-6 I.R.B.365 2012-13, 2012-9 I.R.B.421 2012-14, 2012-8 I.R.B.411 2012-15, 2012-9 I.R.B.424 2012-16, 2012-9 I.R.B.427 2012-17, 2012-9 I.R.B.430 2012-18, 2012-10 I.R.B.438 2012-19, 2012-10 I.R.B.440 2012-20, 2012-13 I.R.B.574 2012-21, 2012-10 I.R.B.450 2012-22, 2012-13 I.R.B.576 2012-23, 2012-11 I.R.B.483 2012-24, 2012-13 I.R.B.578 Proposed Regulations: REG-168745-03, 2012-14 I.R.B.718 REG-109369-10, 2012-9 I.R.B.434 REG-110980-10, 2012-13 I.R.B.581 REG-113770-10, 2012-13 I.R.B.587 REG-113903-10, 2012-11 I.R.B.486 REG-120282-10, 2012-11 I.R.B.487 REG-130302-10, 2012-8 I.R.B.412 REG-149625-10, 2012-2 I.R.B.279 REG-102988-11, 2012-4 I.R.B.326 REG-115809-11, 2012-13 I.R.B.598 REG-124627-11, 2012-8 I.R.B.417 REG-130777-11, 2012-5 I.R.B.347 Proposed Regulations— Continued: REG-135071-11, 2012-12 I.R.B.561 REG-145474-11, 2012-11 I.R.B.495 Revenue Procedures: 2012-1, 2012-1 I.R.B.1 2012-2, 2012-1 I.R.B.92 2012-3, 2012-1 I.R.B.113 2012-4, 2012-1 I.R.B.125 2012-5, 2012-1 I.R.B.169 2012-6, 2012-1 I.R.B.197 2012-7, 2012-1 I.R.B.232 2012-8, 2012-1 I.R.B.235 2012-9, 2012-2 I.R.B.261 2012-10, 2012-2 I.R.B.273 2012-11, 2012-7 I.R.B.368 2012-12, 2012-2 I.R.B.275 2012-13, 2012-3 I.R.B.295 2012-14, 2012-3 I.R.B.296 2012-15, 2012-7 I.R.B.369 2012-16, 2012-10 I.R.B.452 2012-17, 2012-10 I.R.B.453 2012-18, 2012-10 I.R.B.455 2012-19, 2012-14 I.R.B.689 2012-20, 2012-14 I.R.B.700 2012-21, 2012-11 I.R.B.484 2012-23, 2012-14 I.R.B.712 Revenue Rulings: 2012-1, 2012-2 I.R.B.255 2012-2, 2012-3 I.R.B.286 2012-3, 2012-8 I.R.B.383 2012-4, 2012-8 I.R.B.386 2012-5, 2012-5 I.R.B.337 2012-6, 2012-6 I.R.B.349 2012-7, 2012-6 I.R.B.362 2012-8, 2012-13 I.R.B.563 2012-9, 2012-11 I.R.B.475 2012-10, 2012-14 I.R.B.614 2012-11, 2012-14 I.R.B.686 Treasury Decisions: 9559, 2012-2 I.R.B.252 9560, 2012-4 I.R.B.299 9561, 2012-5 I.R.B.341 9562, 2012-5 I.R.B.339 9563, 2012-6 I.R.B.354 9564, 2012-14 I.R.B.614 9565, 2012-8 I.R.B.378 9566, 2012-8 I.R.B.389 9567, 2012-8 I.R.B.395 9568, 2012-12 I.R.B.499 9569, 2012-11 I.R.B.465 9570, 2012-11 I.R.B.477 9571, 2012-11 I.R.B.468 9572, 2012-11 I.R.B.471 Treasury Decisions— Continued: 9573, 2012-12 I.R.B.498 9574, 2012-12 I.R.B.559 1 A cumulative list of all revenue rulings, revenue procedures, Treasury decisions, etc., published in Internal Revenue Bulletins 2011–27 through 2011–52 is in Internal Revenue Bulletin 2011–52, dated December 27, 2011. 2012–14 I.R.B.iiApril 2, 2012 Finding List of Current Actions on Previously Published Items 1 Bulletins 2012–1 through 2012–14 Announcements: 2002-44 Supplemented by Notice 2012-13, 2012-9 I.R.B.421 2010-19 Obsoleted by Ann. 2012-12, 2012-12 I.R.B.562 2011-63 Corrected by Ann. 2012-9, 2012-7 I.R.B.377 Notices: 2006-87 Superseded by Notice 2012-19, 2012-10 I.R.B.440 2006-99 Superseded in part by Notice 2012-20, 2012-13 I.R.B.574 2007-25 Superseded by Notice 2012-19, 2012-10 I.R.B.440 2007-77 Superseded by Notice 2012-19, 2012-10 I.R.B.440 2008-107 Superseded by Notice 2012-19, 2012-10 I.R.B.440 2010-27 Superseded by Notice 2012-19, 2012-10 I.R.B.440 2010-88 As modified by Ann. 2011-40, is superseded by Notice 2012-1, 2012-2 I.R.B.260 2011-8 Superseded by Notice 2012-19, 2012-10 I.R.B.440 2011-28 Superseded by Notice 2012-9, 2012-4 I.R.B.315 Proposed Regulations: REG-208274-86 Withdrawn by Ann. 2012-11, 2012-13 I.R.B.611 Revenue Procedures: 2000-43 Amplified, modified and superseded by Rev. Proc. 2012-18, 2012-10 I.R.B.455 2003-61 Superseded by Notice 2012-8, 2012-4 I.R.B.309 2007-44 Modified by Ann. 2012-3, 2012-4 I.R.B.335 2011-1 Superseded by Rev. Proc. 2012-1, 2012-1 I.R.B.1 2011-2 Superseded by Rev. Proc. 2012-2, 2012-1 I.R.B.92 2011-3 Superseded by Rev. Proc. 2012-3, 2012-1 I.R.B.113 2011-4 Superseded by Rev. Proc. 2012-4, 2012-1 I.R.B.125 2011-5 Superseded by Rev. Proc. 2012-5, 2012-1 I.R.B.169 2011-6 Superseded by Rev. Proc. 2012-6, 2012-1 I.R.B.197 2011-7 Superseded by Rev. Proc. 2012-7, 2012-1 I.R.B.232 2011-8 Superseded by Rev. Proc. 2012-8, 2012-1 I.R.B.235 2011-9 Superseded by Rev. Proc. 2012-9, 2012-2 I.R.B.261 2011-10 Superseded by Rev. Proc. 2012-10, 2012-2 I.R.B.273 2011-14 Modified and clarified by Rev. Proc. 2012-19, 2012-14 I.R.B.689 Rev. Proc. 2012-20, 2012-14 I.R.B.700 2011-37 Obsoleted in part by Rev. Proc. 2012-16, 2012-10 I.R.B.452 2011-40 Corrected by Ann. 2012-6, 2012-6 I.R.B.366 Revenue Procedures— Continued: 2011-49 Modified by Ann. 2012-3, 2012-4 I.R.B.335 2011-50 Corrected by Ann. 2012-6, 2012-6 I.R.B.366 2011-51 Corrected by Ann. 2012-6, 2012-6 I.R.B.366 2012-8 Corrected by Ann. 2012-7, 2012-6 I.R.B.367 Revenue Rulings: 92-19 Supplemented in part by Rev. Rul. 2012-6, 2012-6 I.R.B.349 2008-40 Modified by Notice 2012-6, 2012-3 I.R.B.293 2011-1 Modified by Notice 2012-6, 2012-3 I.R.B.293 Treasury Decision: 9517 Corrected by Ann. 2012-4, 2012-4 I.R.B.335 Ann. 2012-5, 2012-5 I.R.B.348 1 A cumulative list of current actions on previously published items in Internal Revenue Bulletins 2011–27 through 2011–52 is in Internal Revenue Bulletin 2011–52, dated December 27, 2011. April 2, 2012iii2012–14 I.R.B. Internal Revenue Service W ashington,DC20224 Official Business Penalty for Private Use, $300 INTERNAL REVENUE BULLETIN The Introduction at the beginning of this issue describes the purpose and content of this publication. The weekly Internal Revenue Bulletin is sold on a yearly subscription basis by the Superintendent of Documents. Current subscribers are notified by the Superin- tendent of Documents when their subscriptions must be renewed. CUMULATIVE BULLETINS The contents of this weekly Bulletin are consolidated semiannually into a permanent, indexed, Cumulative Bulletin. These are sold on a single copy basis andare notincluded as part of the subscription to the Internal Revenue Bulletin. Subscribers to the weekly Bulletin are notified when copies of the Cumulative Bulletin are available. Certain issues of Cumulative Bulletins are out of print and are not available. Persons desiring available Cumulative Bulletins, which are listed on the reverse, may purchase them from the Superintendent of Documents. ACCESS THE INTERNAL REVENUE BULLETIN ON THE INTERNET You may view the Internal Revenue Bulletin on the Internet at www.irs.gov. Select Businesses. Under Businesses Topics, select More Topics. Then select Internal Revenue Bulletins. INTERNAL REVENUE BULLETINS ON CD-ROM Internal Revenue Bulletins are available annually as part ofPublication 1796 (Tax Products CD-ROM). The CD-ROM can be purchased from National Technical Information Service (NTIS) on the Internet at www.irs.gov/cdorders (discount for online orders) or by calling 1-877-233-6767. The first release is available in mid-December and the final release is available in late January. HOW TO ORDER Check the publications and/or subscription(s) desired on the reverse, complete the order blank, enclose the proper remittance, detach entire page, and mail to the Superintendent of Documents, P.O. Box 979050, St. Louis, MO 63197–9000. Please allow two to six weeks, plus mailing time, for delivery. WE WELCOME COMMENTS ABOUT THE INTERNAL REVENUE BU LLETIN If you have comments concerning the format or production of the Internal Revenue Bulletin or suggestions for improving it, we would be p leased to hear from you. You can email us your suggestions or comments through the IRS Internet Home Page (www.irs.gov) or write t o the IRS Bulletin Unit, SE:W:CAR:MP:T:T:SP, Washington, DC 20224.
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