IRS lets a partnership undo its election to skip bonus depreciation after a preparer error

Plain-English summary

When a business buys qualifying equipment, § 168(k) normally lets it deduct a big chunk of the cost in the first year ("bonus depreciation"), but a taxpayer can instead elect under § 168(k)(7) not to take that deduction for a whole class of property, and once made that election can only be undone with the IRS's consent. Here a real estate limited partnership, whose sole general partner is a REIT, elected to skip the 50-percent bonus depreciation for its 7-year, 10-year, and qualified improvement property. It made that choice because its tax preparer had wrongly told it that the leftover basis of a demolished building was deductible; with that phantom deduction in place, skipping bonus depreciation kept the REIT's taxable income aligned with its shareholder distributions. A new engagement team later caught the error: under § 280B the demolition cost had to be capitalized to the land, which pushed the REIT's real income up and threatened its ability to meet the 90-percent distribution requirement. The partnership asked the IRS for permission to revoke the election it never would have made. The IRS granted consent under Treas. Reg. § 1.168(k)-1(e)(7)(i), giving the partnership 60 days to revoke by filing a written statement with an amended Form 1065. The IRS expressed no opinion on whether the property actually qualifies for bonus depreciation.

Ruling snapshot

• Question: May the partnership revoke its § 168(k)(7) election not to claim first-year bonus depreciation, which it made based on a preparer's erroneous advice?
• Outcome: Approved (consent to revoke granted; 60 days to file the revocation with an amended return)
• Key authorities: IRC § 168(k)(1), (7); Treas. Reg. § 1.168(k)-1(e)(3), (7); Rev. Proc. 2017-33; § 280B

Full text (IRS public release)

Internal Revenue Service                                      Department of the Treasury
                                                              Washington, DC 20224

Number: 201844006                                             Third Party Communication: None
Release Date: 11/2/2018                                       Date of Communication: Not Applicable
Index Number: 168.36-00
                                                              Person To Contact:
                                                              ------------------------, ID No. ------------------
                                                              ----------------------------------------------------
                                                              Telephone Number:
                                                              ----------------------
----------------------------------------------------          Refer Reply To:
--------------------------------------------                  CC:ITA:7
--------------------------------------                        PLR-106827-18
----------------------------------                            Date:
                                                              August 1, 2018




Re: Request to revoke the election not to deduct the additional first year depreciation

Legend

Taxpayer =          --------------------------------------------
                    -------------------------
Preparer       =    -----------------------
A              =    ------------------------------------------------------------------------------------------------
                    -----------------------------------------------------------------------------------------------
B              =    --------------------------------------------
                    ---------------------------
C              =    --------------
D              =    -----
Year1          =    -------
Year2          =    -------
Date1          =    --------------------------------

Dear ------ -------------:

       This letter ruling responds to a letter dated February 28, 2018, submitted by
Taxpayer requesting the consent of the Commissioner of Internal Revenue to revoke
Taxpayer's election under § 168(k) of the Internal Revenue Code not to deduct the
additional first year depreciation for certain qualified property, that was made on its
federal tax return for the taxable year ended Date1 (the "Year1 taxable year").

      Except as specifically stated otherwise, all references in this letter ruling to
§ 168(k) are treated as a reference to § 168(k) as in effect before the date of the
PLR-106827-18                                2

enactment of the Tax Cuts and Jobs Act, Pub. L. No. 115-97, 131 Stat. 2054 (Dec. 22,
2017).

       FACTS

       Taxpayer represents that the facts are as follows:

         Taxpayer, a limited partnership, files Form 1065, U.S. Return of Partnership
Income, on a calendar year basis. Taxpayer is subject to the TEFRA unified audit and
litigation provisions. Taxpayer's overall method of accounting is an accrual method.
Taxpayer is principally engaged in A.

      Taxpayer's sole general partner is B, a real estate investment trust ("REIT") (as
defined under § 856). B owns approximately C percent of the economic interests and D
percent of the non-economic interests of Taxpayer, and is the Tax Matters Partner of
Taxpayer.

       During Year1, Taxpayer placed in service qualified property (as defined in
§ 168(k)(2)). On its timely filed Form 1065 for the Year1 taxable year, Taxpayer made
the election under § 168(k)(7) not to claim the 50-percent additional first year
depreciation deduction for all classes of property, including 7-year property, 10-year
property, and qualified improvement property.

        Taxpayer made this election based on erroneous advice provided by Preparer
that the undepreciated basis of a building that was demolished during the Year1 taxable
year is deductible. Preparer prepared Taxpayer's Year1 Form 1065 and it included
such deduction. Because B's share of Taxpayer's Year1 taxable income was
reasonably in line with its expected distributions to shareholders, claiming the additional
first year depreciation deduction under § 168(k) for the Year1 taxable year would have
reduced B's share of taxable income below its expected distributions, and would also
have required Taxpayer to undertake complex recordkeeping and state tax
modifications. B therefore decided to have Taxpayer make the election not to claim the
additional first year depreciation deduction under § 168(k)(7) for the Year1 taxable year.

       During Year2, Preparer assigned a new engagement team for its account with
Taxpayer. During the review of Taxpayer's Year1 Form 1065 by the new engagement
team, Preparer concluded that the federal income tax treatment of the undepreciated
basis of the demolished building on Taxpayer's Year1 Form 1065 was in error.
Preparer then informed Taxpayer that it could not deduct the undepreciated basis of the
demolished building on Taxpayer's Year1 Form 1065 but must instead capitalize this
amount to the basis of land in accordance with § 280B. Preparer also advised
Taxpayer that B's Year1 share of Taxpayer's taxable income was greater than had been
reported on Taxpayer's Year1 Form 1065. B would be liable for income tax on this
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amount, and the magnitude of this adjustment would put B perilously close to failing the
REIT requirement that it distribute out at least 90 percent of its REIT taxable income.

       Had Taxpayer known the demolition costs were not deductible in Year1,
Taxpayer would not have made the election under § 168(k)(7) not to deduct the
additional first year depreciation for all classes of property and Preparer would not have
advised Taxpayer to make such election based on the REIT taxable income distribution
requirement.

      Neither Taxpayer nor B nor any other partner in Taxpayer has made the election
under § 168(k)(4).

       RULING REQUESTED

        Taxpayer requests consent to revoke its election under § 168(k)(7) not to deduct
the additional first year depreciation for the 7-year property, 10-year property, and
qualified improvement property eligible classes of qualified property that were placed in
service by Taxpayer during the taxable year ended Date1.

       LAW AND ANALYSIS

      Section 168(k)(1) provided a 50-percent additional first year depreciation
deduction for the placed-in-service year for qualified property placed in service before
January 1, 2020 (before January 1, 2021, for qualified property described in
§ 168(k)(2)(B) or (C)).

       Section 4 of Rev. Proc. 2017-33, 2017-19 I.R.B. 1236, provides guidance under
§ 168(k) as amended by § 143(b) of the Protecting Americans from Tax Hikes Act of
2015 (PATH Act), enacted as Division Q of the Consolidated Appropriations Act, 2016,
Pub. L. No. 114-113, 129 Stat. 2242 (Dec. 18, 2015). Pursuant to section 4.01(3) of
Rev. Proc. 2017-33, rules similar to the rules in § 1.168(k)-1of the Income Tax
Regulations for "qualified property" or for "30-percent additional first year depreciation
deduction" apply to § 168(k)(2) and (3). However, in applying § 1.168(k)-1(d)(1)(i), the
computation of the allowable 50-percent additional first year depreciation deduction is
made in accordance with the rules for 50-percent bonus depreciation property and, in
applying § 1.168(k)-1(f)(5)(iii)(A), the rules for 50-percent additional first year
depreciation deduction apply.

       Section 168(k)(7) provides that a taxpayer may make an election not to deduct
the additional first year depreciation for any class of property placed in service during
the taxable year and an election under § 168(k)(7) may be revoked only with the
consent of the Secretary.
PLR-106827-18                                 4

       Section 4.04(1) of Rev. Proc. 2017-33 provides that the rules for making the
election under § 168(k)(7) not to deduct the additional first year depreciation (the
§ 168(k)(7) election) are similar to the rules for making such election under
§ 168(k)(2)(D)(iii) as in effect before the enactment of the PATH Act. As a result, the
§ 168(k)(7) election applies to all qualified property that is in the same class of property
and placed in service in the same taxable year. If the § 168(k)(7) election is made for a
class of property that is qualified property placed in service during the taxable year, no
additional first year depreciation deduction is allowable for that property and
§ 168(k)(2)(F) does not apply to that property.

       Section 4.04(2) of Rev. Proc. 2017-33 provides that, in general, rules similar to
the rules in § 1.168(k)-1(e)(2), (3), (5), and (7) apply for purposes of § 168(k)(7).

       Section 1.168(k)-1(e)(2) defines the term "class of property" as meaning, among
other things, each class of property described in § 168(e) (for example, 5-year
property). As a result of the amendments to § 168(k) by § 143(b) of the PATH Act, the
term "class of property" also includes qualified improvement property as defined in
§ 168(k)(3) and depreciated under § 168.

       Section 1.168(k)-1(e)(3)(i) provides that the election not to deduct additional first
year depreciation must be made by the due date (including extensions) of the federal
tax return for the taxable year in which the property is placed in service by the taxpayer.

        Section 1.168(k)-1(e)(7)(i) provides that an election not to deduct the additional
first year depreciation for a class of property that is qualified property, once made, may
be revoked only with the written consent of the Commissioner of Internal Revenue. To
seek the Commissioner's consent, the taxpayer must submit a request for a letter ruling.

       CONCLUSION

       Based solely on the facts and representations submitted, we conclude that a
revocation of Taxpayer's election not to deduct any additional first year depreciation
under § 168(k)(1) for 7-year property, 10-year property, and qualified improvement
property eligible classes of qualified property that were placed in service by Taxpayer in
the taxable year ended Date1, is permitted under § 1.168(k)-1(e)(7)(i). Accordingly,
Taxpayer is granted 60 calendar days from the date of this letter to revoke such
election. The revocation must be made in a written statement that is filed with
Taxpayer's amended Form 1065 for the taxable year ended Date1.

       A copy of this letter ruling must be attached to such amended return. A copy is
enclosed for that purpose. Alternatively, a taxpayer filing its federal tax return
electronically may satisfy this requirement by attaching a statement to the return that
provides the date and control number of the letter ruling.
PLR-106827-18                                 5

        Except as specifically ruled upon above, no opinion is expressed or implied
concerning the tax consequences of the facts described above under any other
provisions of the Code (including other subsections of § 168). Specifically, no opinion is
expressed or implied on (1) whether any item of depreciable property placed in service
by Taxpayer in the taxable year ended Date1, is eligible for the 50-percent additional
first year depreciation deduction under § 168(k), (2) whether Taxpayer's classification of
any item of depreciable property under § 168(e) or Rev. Proc. 87-56, 1987-2 C.B. 674,
is correct, or (3) whether Taxpayer's qualified improvement property meets the
requirements of § 168(k)(3) and section 4.02 of Rev. Proc. 2017-33.

      In accordance with the power of attorney, we are sending a copy of this letter to
Taxpayer's authorized representatives. We are also sending a copy of this letter to the
appropriate operating division director.

      This letter ruling is directed only to the taxpayer requesting it. Section 6110(k)(3)
provides that it may not be used or cited as precedent.

                                                  Sincerely,

                                                  Kathleen Reed

                                                  KATHLEEN REED
                                                  Chief, Branch 7
                                                  Office of Associate Chief Counsel
                                                  (Income Tax and Accounting)