Most tax professionals know by now that under The Protecting Americans from Tax Hikes (PATH) Act of 2015, the rules for eligibility as Qualified Leasehold Improvements (QLI), Qualified Restaurant Property, and Qualified Retail Property with a 15 year recovery period are now permanent. Additionally, the PATH Act has extended, modified, and will eventually phase out bonus depreciation. However, one of the least discussed provisions that will have a broad impact on all real estate owners is a brand new category of building improvements that significantly increases the likelihood real property capital expenditures are eligible for bonus depreciation.
Qualified Improvement Property (QIP) is defined as any improvement to an interior portion of a building that is nonresidential real property as long as that improvement is placed in service after the building was first placed in service by any taxpayer (Section 168(k)(3)). The QIP provisions are effective for property placed in service after December 31, 2015. Similar to Qualified Leasehold Improvements, QIP specifically excludes expenditures for (1) the enlargement of a building, (2) elevators or escalators, or (3) the internal structural framework of a building. Qualified Improvement Property is not eligible for Section 179 unless it also meets the definition of a Qualified Leasehold Improvement, Qualified Retail Improvement, or Qualified Restaurant Property.
Differences with Qualified Leasehold Improvements
The QIP definition is similar to that of Qualified Leasehold Improvements; however, there are subtle but distinct differences to note. For one, Qualified Improvement Property does not have the Qualified Leasehold Improvements requirement that a building must have been placed in service at least three years prior to the expenditure. Further, QIP is not restricted to expenditures pursuant to a lease between non-related parties.
Interior
components such as common area improvements in multi-tenant
buildings, interior improvements in an owner occupied building, or tenant
improvements in a building less than three-years old may be eligible for bonus
depreciation as QIP even though they have 39-year recovery periods.
Interaction with other Qualified Property
Improvements that meet the criteria for QIP can also meet the criteria for Qualified Leasehold Improvements and Qualified Retail Improvement Property. Since the PATH Act removed the exclusion of Qualified Retail Improvement Property from bonus eligibility, it is more advantageous to use the 15 year recovery period offered by this category. For Qualified Restaurant Property however, bonus depreciation is limited to only those improvements that also meet the definition of QIP.
New
restaurant improvements to the exterior of a building, such as HVAC units,
windows, façade work, or roofing, are still excluded from bonus depreciation.
Therefore, for restaurant improvements, taxpayers should consider engaging a
cost segregation study to to separate 15-year improvements eligible for bonus
depreciation from 15-year improvements that are not eligible.
Cost Segregation is a tax strategy that identifies and classifies
assets and costs for federal tax purposes. Certain assets within the 39
year depreciable life can be classified as personal property or land
improvements with a 5, 7, or 15 year rate of depreciation using
accelerated methods. For more information on this topic, register for my webinar: Introduction to Cost Segregation on Thursday, June 30th. This one hour introductory course will provide
background information, depreciation rules, and how a cost segregation
study is performed.
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