Step 1 – Determine The Unit of Property
The first step in determining whether an expenditure can be deducted as an expense, or must be capitalized, is to determine the Unit of Property (UOP) to which the expenditure relates. The final Tangible Property Regulations provide the rules for determining the appropriate UOP based on the type of tangible property. In general, a UOP is made up of all of the components that are functionally interdependent. Buildings have been given their own unique rules. Each building is a single UOP, comprised of the building, its structural components and 9 specifically defined building systems.
Once you have determined the UOP, you are then able to apply the improvement standards.
Step 2 – Apply Improvement Standards for Determining Capitalization or Repair and Maintenance
The final regulations require that, for all expenditures, the improvement standards are applied to the Unit of Property or to any of the enumerated Building Systems determined by the IRS. The Building Systems include; (1) Heating, Ventilation, and Air Conditioning (HVAC); (2) Plumbing Systems; (3) Electrical Systems; (4) All Escalators; (5) All Elevators; (6) Fire Protection and Alarm Systems; (7) Security Systems; Gas Distribution Systems; and (9) any other systems identified in published guidance.
If the expenditure results in a Betterment to the Unit of Property, results in Restoration of the Unit of Property, or results in the Adaptation of the Unit of Property to a new or different use, the expenditure must be capitalized. For more information on the Improvement Standards click here: http://www.irs.gov/irb/2013-43_IRB/ar05.html#d0e716
Expenditures that do not result in a Betterment, Restoration, or Adaptation to the Unit of Property can generally be EXPENSED.
Problem: How to determine the baseline costs of the building structure and its building systems.
Solution: The new M&E Building Systems Reports are included within our final cost segregation portfolios. They provide both Summary and Detail level breakout of the building structure and building systems. Making the determination of capitalization or expense a breeze.