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Index Federal Tax Classification Exterior Site Lighting and Electrical Special Purpose / Design Lighting Floor Coverings Land Imporvements Land Preperations Signage Process Piping
FEDERAL TAX CLASSIFICATION Section 168 of the Internal Revenue Code determines the method of calculating depreciation for property placed in service after December 31, 1986. A property can be recognized as recovery property and is depreciated under the Modified Accelerated Cost Recovery System (MACRS). Classes of MACRS properties are determined largely by reference to the class lives prescribed in Revenue Procedure 87-56, 1987-2 C.B. 674 (as clarified and modified by Rev. Proc. 88-22, 1988-1 C.B. 785). The deduction for depreciation of MACRS property is determined by using the applicable:· Method of depreciation, Recovery period, and Convention. There are three methods, eight recovery periods, and three specified conventions. Each applies to a particular property depending largely on the class into which the property falls. According to Revenue Procedure 87-56, Equipment is considered Asset Class#57.0 (Distributive Trades and Services) and depreciated over five years using the 200% declining balance method with a switch to the straight-line method in the first year in which the use of such method results in a larger deduction. Land improvements are considered Asset Class #00.3 (Land Improvements) and depreciated over fifteen years using the 150% declining balance method with as which to the straight-line method in the first year in which the use of such method results in a larger deduction. Non-residential real property associated with these facilities are depreciated over thirty-nine years using the straight-line method. MACRS provides conventions for determining the period of time in which depreciation may be claimed in the year the property is placed in service. Generally, the half-year convention applies to all property except residential rental property and nonresidential real property, which are depreciated using the mid-month convention. The mid-quarter convention must be used, however, for all personal property if the aggregate basis of personal property placed in service during the last three months of the taxable year is more than 40% of the personal property placed in service during the entire year. The relevant property classifications for this project are defined in Revenue Procedure 87-56, reproduced as follows: Asset Class #57.0 (Distributive Trades and Services) 5-Year Property "Includes assets used in wholesale and retail trade, and personal and professional services.” Asset Class #00.3 (Land Improvements) 15-Year Property "Includes improvements directly to or added to land, whether such improvements are section 1245 property or section 1250 property, provided such improvements are depreciable. Examples of such assets might include sidewalks, roads, sewers, fences, landscaping and shrubbery.” Residential Rental Property, 27.5-Year Property All construction costs of the building, shell and permanent fixtures must be depreciated as residential rental property. The relevant tax citations, revenue ruling, and tax court cases which further support the property classifications used for tax depreciation purposes are included elsewhere in this report. Exterior Site Lighting & Electrical Exterior site lighting are assets that qualify as tangible personal property in accordance with Reg. Sec. 1.1245-3(b), as defined by Reg. Sec. 1.48-1(c). In the Senate Finance Committee Report, Revenue Act of 1978, (S. Rep. 95-1263, 1978-3, C.B. 315, 410-423), Congress recognized that “special lighting” which has no more than an incidental relationship to the operation or maintenance of a building constitutes personal property. Congress cited lighting, which illuminates the exterior of a building or store as an example. Although Congress excluded lighting to illuminate a parking area in S. Rep. 95-1263, the court held in Standard Oil Co. v. Commissioner, 77 TC 28 (1981), that exterior parking lighting constituted tangible personal property. The court determined that a pole and lighting fixture attached to a concrete base by four anchor bolts could be easily removed and moved and should not be considered inherently permanent. They applied the criteria in the Whiteco Industries, Inc. v. Commissioner, 65 TC 664(1975, acq., 1980-24 I.R.B. p.5) and found that the pole and lighting fixtures met the six-point test. Tangible personal property includes all tangible property except building, structural components and other inherently permanent items. Rev. Rul. 75-178,1975-1, C.B. 9 states: “that the classification of property as personal or inherently permanent is to be made on the basis of the manner of attachment to the building and how permanently the property is designed to remain in place.” All site lighting fixtures are easily removable and movable, interchangeable, and not permanently attached. Reg. Sec. 1.48-1(e)(2) includes “electric wiring and lighting fixtures” as an example of a structural component. Nonetheless, the courts have generally recognized that the list of structural components in Reg.Sec. 1.48-1(e)(2) is neither all-inclusive, nor intended to represent assets, which are structural components under all circumstances. The defining factor in the definition of structural components is the last item listed, “and other components relating to the operation and maintenance of the building.” None of the lighting included in this category relates to the normal operation of general lighting in the building. Accordingly, site lighting qualifies as Asset Class #00.3 (Land Improvements) for tax depreciation purposes. Special Purpose / Decorative Lighting Special purpose and decorative lighting consists of exterior decorative building lighting, emergency battery lights, wall mounted remote head emergency lights, and exit lights. In the Senate Finance Committee Report, Revenue Act of 1978, (S. Rep. 95-1263, 1978-3, C.B. 315, 410-423), Congress recognized that: “special lighting which has no more than an incidental relationship to the operation or maintenance of a building constitutes personal property” In Morrison v. Commissioner, TCM 1986-129, the court reaffirmed congress's decision holding that the taxpayer’s emergency lighting constituted personal property and noted that lighting fixtures and electrical connections that “do not provide basic illumination” and that are “accessory to a business” do not constitute structural components of a building. Again in Metro National Corp. v. Commissioner, TCM 1987-38, 52 TCM 1440, the court concluded that special purpose, security, decorative, and ornamental lighting are tangible personal property. Tangible personal property included all tangible property except building, structural components and other inherently permanent items. Rev. Rul. 75-178,1975-1 C.B. 9 states: “the problem of classification of property as personal or inherently permanent should be made on the basis of the manner of attachment to the land or the structure and how permanently the property is designed to remain in place” The light fixtures in question are easily removable and movable, interchangeable, and not permanently attached to the building. They meet the stringent six-point test developed by the Tax Court in Whiteco Industries Inc. v. Commissioner, 65 TC (1975, Acq., 1980-24 I.R.B. p.5) under which much more permanently affixed have been characterized as tangible personal property.” Reg. Sec. 1.48-1(e)(2) included “electric wiring and lighting fixtures” as an example of a structural component. Nonetheless, the courts have generally recognized that the list of structural components in Reg. Sec. 1.48-1(e)(2) is neither all-inclusive, nor intend to represent assets, which are structural components under all circumstances. The defining factor in the definition of structural components is the last item listed, “and other components relating to the operation and maintenance of the building.” None of the lighting included in this category relates to the normal operation of the building. All of the special and decorative lighting was intended for a purpose other than providing general illumination within the building. Accordingly, the special purpose and decorative lighting qualify as Asset Class#57.0 (Distributive Trades and Services) for tax depreciation purposes. Floor Coverings Vinyl flooring can be found throughout facility. Carpet was specially designated as tangible personal property in Rev. Rul. 67-349, 1967-2, C.B. 48. The Senate Finance committee Report, Revenue Act of 1978, (S. Rep. 95-1263, 1978-3, C.B.315, 410-423), provides additional support stating: “floor coverings which are not an integral part of the floor itself such as floor tile generally installed in a manner to be readily removed (that is it is not cemented, mudded, or otherwise permanently affixed to the building floor but, instead, has adhesives applied which are designed to ease its removal)…are considered tangible personal property and not structural components” In Hospital Corporation of America and Subsidiaries v. Commissioner, 109 TC21, (1997), carpeting and vinyl flooring were determined to be tangible personal property. The court concludes: “Carpeting is not an integral part of the floor and satisfies the criteria for tangible personal property outlined in Whiteco Industries, inc. v. Commissioner, 65 TC 664 (1975, acq., 1980-24 I.R.B. p. 5)…Petitioners have shown that they did not intend for the carpeting to be permanently affixed to the underlying floor”, "applying the Whiteco criteria…vinyl floor coverings are not inherently permanent. We are persuaded that the floor coverings were not intended to be, and were not permanent coverings for the buildings’ floor” Accordingly, the vinyl flooring qualifies as Asset Class #57.0 (Distributive Trades and Services) for tax depreciation purposes.Land Improvements Section 167 the Internal Revenue Service Code Section 167 sets forth the general rule that there shall be allowed as a depreciation deduction a reasonable allowance for the exhaustion, wear and tear and obsolescence of property used in the trade or business, or of property held for the production of income. Section 167(a)-2 of the Income Tax Regulations provides, in part, that the depreciation allowance does not apply to land apart from the improvement or physical development added to the land, which has a limited period of use and experience exhaustion, wear and tear. With regards to landscaping as a depreciable land improvement, Revenue Ruling 74-265, 1974-1 C.B. 56, indicated that landscaping that would be simultaneously retired with a building would be considered a depreciable land improvement. Other improvements unaffected by the buildings retirement and not subject to other wear and tear would be considered part of the taxpayer’s basis in land. “the landscaping for shrubbery and grass is interrelated to the apartment buildings by reason of the site plan design, and physical layout and construction. The landscaping is not similar to the general site grading but is similar to grading that would be retired if the apartment building were removed. The landscaping is so located as to constitute a primary and integral part of the overall apartment facilities.” The ruling held that landscaping consisting of the perennial shrubbery and ornamental trees immediately adjacent to the buildings is depreciable property Land Preparation Revenue Ruling 65-265, 1965-2, C.B. 52, supports depreciating the costs associated with excavation and grading as part of the cost of the asset for which they are associated. Revenue Ruling 65-265 states: "The cost attributable to excavation, grading, and removing soil necessary for the proper setting of the buildings and paving the roadways are part of the cost of those assets and should be included in the depreciable base for the buildings and roadways…” Revenue Ruling 68-193, 1968-1, C.B. 79, clarified Revenue Ruling 65-265 stating: "The cost paid or incurred for the grading, (and excavation) are depreciable since the grading (and excavation) would be retired, abandoned, or replaced with the depreciable asset with which it is directly associated…” Revenue Ruling 74-265, 1974-1, C.B. 56; and Trailmont Park, Inc. TC Memo 1971-212 further support this position. As a result, the site preparation costs for the paved areas and buildings are essentially part of the cost of construction of these items and should be depreciated as part of the aforementioned items. Accordingly, the land preparation costs related to the land improvements described above qualify as Asset Class #00.3 (Land Improvements) for tax depreciation purposes. Signage Signage includes company identification, parking signs, external & internal identification signs, directories, and room or department nameplates. Identifying devices and signs qualify as tangible personal property in accordance with Reg. Sec. 1.1245-3(b), as defined by Reg. Sec. 1.48-1(c). Reg. Sec. 1.48-1(c) cites as examples of personal property “neon, and other signs.”
Process Piping Process piping includes compressed air and central vacuum system piping. The system consists of pipes, fittings, gaskets, valves, pumps, gauges, brackets and connectors. These items are used only and directly with the manufacturing equipment and were installed specifically for that use. Absent the existence of these items, the manufacturing equipment would be inoperable. The process piping system qualifies as tangible personal property in accordance with Reg. Sec. 1.1245-3(b), as defined by Reg. Sec. 1.48-1(c). In Hospital Corporation of America and Subsidiaries v. Commissioner, the Docket Nos.10663-91, 13074-91, 28588-91, 6351-92, 109TC 21, (1997), the Tax Court reaffirmed its decisions in Scott Paper Co. v. Comm., 74 TC 137 (1980) and Morrison Inc. v. Comr., No. 34300-83, TCM 1986-129, March 31, 1986, stating that it found no material differences between the facts in the instant case and those facts present in those cases. In Morrison Inc. v. Comr., the court focused on the use of the special purpose plumbing and concluded that it did not relate to the operation and maintenance of the building and therefore, could not be a structural component in accordance with Reg. Sec. 1.48-1(e)(2). The court
concluded instead, the special purpose plumbing was part of the Section 1245 property to which is related. In Scott Paper Co., v. Comm., the court indicated that items occurring in unusual circumstances that do not relate to the operation or maintenance of the building should not be considered as structural components even though specifically listed as such in Reg. Sec. 1.48 (e)(2). The court held the critical test to be whether the improvements related to the overall operation or maintenance of the building. The court concluded that the special purpose plumbing should be considered an extension of the Section 1245 property it serves. Accordingly, the process piping system qualifies as Asset Class #57.0
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