[Federal Register: August 31, 2006 (Volume 71, Number 169)]
[Rules and Regulations]
[Page 51727-51748]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr31au06-7]
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
[TD 9283]
RIN 1545-BB57
Special Depreciation Allowance
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Final and temporary regulations.
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SUMMARY: This document contains final regulations relating to the
depreciation of property subject to section 168 of the Internal Revenue
Code (MACRS property) and the depreciation of computer software subject
to section 167. Specifically, these final regulations provide guidance
regarding the additional first year depreciation allowance provided by
sections 168(k) and 1400L(b) for certain MACRS property and computer
software. The regulations reflect changes to the law made by the Job
Creation and Worker Assistance Act of 2002, the Jobs and Growth Tax
Relief Reconciliation Act of 2003, the Working Families Tax Relief Act
of 2004, the American Jobs Creation Act of 2004, and the Gulf
Opportunity Zone Act of 2005.
DATES: Effective Dates: These regulations are effective August 31,
2006.
Applicability Dates: For dates of applicability, see Sec. Sec.
1.167(a)-14(e), 1.168(d)-1(d), 1.168(d)-1T(d), 1.168(k)-1(g), 1.169-
3(g), and 1.1400L(b)-1(g).
FOR FURTHER INFORMATION CONTACT: Douglas Kim, (202) 622-3110 (not a
toll-free number).
SUPPLEMENTARY INFORMATION:
[[Page 51728]]
Background
This document contains amendments to 26 CFR part 1. On September 8,
2003, the IRS and Treasury Department published temporary regulations
(TD 9091) in the Federal Register (68 FR 52986) relating to the
additional first year depreciation deduction provisions of sections
168(k) and 1400L(b) of the Internal Revenue Code (Code). On the same
date, the IRS published a notice of proposed rulemaking (REG-157164-02)
cross-referencing the temporary regulations in the Federal Register (68
FR 53008). On March 1, 2004, the temporary regulations (TD 9091) were
amended by the temporary regulations (TD 9115) published by the IRS and
Treasury Department in the Federal Register (69 FR 9529) relating to
the depreciation of property acquired in a like-kind exchange or as a
result of an involuntary conversion, and the notice of proposed
rulemaking (REG-157164-02) was amended by the notice of proposed
rulemaking (REG-106590-00, REG-138499-02) published by the IRS in the
Federal Register (69 FR 9560) cross-referencing TD 9115. No public
hearing was requested or held. Several comments responding to the
notice of proposed rulemaking (REG-157164-02) were received. After
consideration of all the comments, the proposed regulations (REG-
157164-02) as amended by this Treasury decision are adopted as final,
and the corresponding temporary regulations (TD 9091) are removed. The
revisions are discussed below. Additionally, minor changes are made to
the temporary regulations (TD 9115) to reflect the proper cites of the
final regulations.
Section 1400N(d), which was added to the Code by section 101(a) of
the Gulf Opportunity Zone Act of 2005, Public Law 109-135 (119 Stat.
2577), generally allows a 50-percent additional first year depreciation
deduction (GO Zone additional first year depreciation deduction) for
qualified Gulf Opportunity Zone property. Notice 2006-67 (2006-33
I.R.B. 248) provides guidance with respect to the GO Zone additional
first year depreciation deduction. Because Notice 2006-67 contains
citations to the temporary regulations under section 168(k) (TD 9091),
the IRS intends to update Notice 2006-67 to change these citations to
this Treasury decision.
Explanation of Provisions
Section 167 allows as a depreciation deduction a reasonable
allowance for the exhaustion, wear, and tear of property used in a
trade or business or held for the production of income. The
depreciation allowable for tangible, depreciable property placed in
service after 1986 generally is determined under section 168 (MACRS
property). The depreciation allowable for computer software that is
placed in service after August 10, 1993, and is not an amortizable
section 197 intangible is determined under section 167(f)(1).
Section 168(k)(1) allows a 30-percent additional first year
depreciation deduction for qualified property acquired after September
10, 2001, and, in most cases, placed in service before January 1, 2005.
Section 168(k)(4) allows a 50-percent additional first year
depreciation deduction for 50-percent bonus depreciation property
acquired after May 5, 2003, and, in most cases, placed in service
before January 1, 2005. Section 1400L(b) allows a 30-percent additional
first year depreciation deduction for qualified New York Liberty Zone
property (Liberty Zone property) acquired after September 10, 2001, and
placed in service before January 1, 2007 (January 1, 2010, in the case
of qualifying nonresidential real property and residential rental
property).
The final regulations provide the requirements that must be met for
depreciable property to qualify for the additional first year
depreciation deduction provided by sections 168(k) and 1400L(b).
Further, the final regulations instruct taxpayers how to determine the
additional first year depreciation deduction and the amount of
depreciation otherwise allowable for eligible depreciable property.
Unless specifically stated, references to the temporary regulations are
to TD 9091.
Property Eligible for the Additional First Year Depreciation Deduction
The final regulations retain the rules contained in the temporary
regulations providing that depreciable property must meet four
requirements to be qualified property under section 168(k)(2) (property
for which the 30-percent additional first year depreciation deduction
is allowable) or 50-percent bonus depreciation property under section
168(k)(4) (property for which the 50-percent additional first year
depreciation deduction is allowable). These requirements are: (1) The
depreciable property must be of a specified type; (2) the original use
of the depreciable property must commence with the taxpayer after
September 10, 2001, for qualified property or after May 5, 2003, for
50-percent bonus depreciation property; (3) the depreciable property
must be acquired by the taxpayer within a specified time period; and
(4) the depreciable property must be placed in service by a specified
date.
Several commentators questioned whether these requirements must be
met in the year in which the depreciable property is placed in service
by the taxpayer. The statute is clear that additional first year
depreciation is allowed in the taxable year in which qualified property
or 50 percent bonus depreciation property is placed in service by the
taxpayer for use in its trade or business or for production of income.
Therefore, only property that meets all of these requirements in the
year in which placed in service by the taxpayer for use in its trade or
business or for production of income is allowed additional first year
depreciation in the year the property is placed in service by the
taxpayer for use in its trade or business or for production of income.
In response to this comment, the final regulations state more
explicitly that all of the requirements must be met in the first
taxable year in which the property is subject to depreciation by the
taxpayer whether or not depreciation deductions are allowable.
Property of a Specified Type
The final regulations retain the rules contained in the temporary
regulations providing that qualified property or 50-percent bonus
depreciation property must be one of the following: (1) MACRS property
that has a recovery period of 20 years or less; (2) computer software
as defined in, and depreciated under, section 167(f)(1); (3) water
utility property as defined in section 168(e)(5) and depreciated under
section 168; or (4) qualified leasehold improvement property
depreciated under section 168.
The final regulations also retain the rules contained in the
temporary regulations providing that qualified property or 50-percent
bonus depreciation property does not include: (1) Property excluded
from the application of section 168 as a result of section 168(f); (2)
property that is required to be depreciated under the alternative
depreciation system of section 168(g) (ADS); (3) any class of property
for which the taxpayer elects not to deduct the 30-percent or 50-
percent additional first year depreciation; or (4) qualified New York
Liberty Zone leasehold improvement property as defined in section
1400L(c).
Property is required to be depreciated under the ADS if the
property is described under section 168(g)(1)(A) through (D) or if
other provisions of the Code require depreciation for the property to
be determined under the ADS (for example, section 263A(e)(2)(A) or
section 280F(b)(1)). A commentator
[[Page 51729]]
questioned whether depreciable property held by taxpayers that made the
election under section 263A(d)(3) should be excluded from eligibility
for the additional first year depreciation deduction. Section
263A(e)(2)(A) provides that if a taxpayer (or a related person) makes
an election under section 263A(d)(3) (relating to an election not to
apply section 263A to any plant produced in any farming business
carried on by the taxpayer), the ADS applies to all property of the
taxpayer used predominantly in the farming business and placed in
service in any taxable year during which any such election is in
effect. Section 168(k) does not exclude property for which the section
263A(d)(3) election was made from the application of section
168(k)(2)(D)(i), which provides that property required to be
depreciated under the ADS is not qualified property and 50-percent
bonus depreciation property. For this reason, the final regulations do
not adopt the suggestion that depreciable property held by taxpayers
that made the election under section 263A(d)(3) is eligible for the
additional first year depreciation deduction. Another commentator
requested clarification as to whether the reference to ``property
described in section 263A(e)(2)(A)'' in Sec. 1.168(k)-
1T(b)(2)(ii)(A)(2) includes only property held by a taxpayer that has
made an election under section 263A(d)(3). In response to this comment,
the final regulations clarify that if the taxpayer (or a related
person) has made the election under section 263A(d)(3), the property
described in section 263A(e)(2)(A) is not eligible for the additional
first year depreciation deduction.
Original Use
The final regulations clarify and make conforming changes to the
original use rules in the temporary regulations in several respects.
First, a commentator inquired whether the rule providing that the cost
of reconditioned or rebuilt property acquired by the taxpayer does not
satisfy the original use requirement also applies to self-constructed
property. A few commentators inquired whether the 20-percent test for
determining whether property is reconditioned or rebuilt applies to
self-constructed property. The IRS and Treasury Department intended
that these rules apply to the cost of any reconditioned or rebuilt
property, whether the taxpayer originally acquired the property or
self-constructed the property. Accordingly, the final regulations
clarify that the cost of reconditioned or rebuilt property does not
satisfy the original use requirement and that the 20-percent test
applies to acquired or self-constructed property.
Second, Example 2 of Sec. 1.168(k)-1T(b)(3)(v) provides that
property held primarily for sale to customers in the ordinary course of
a person's business (inventory) does not constitute a use for purposes
of the original use requirement. A commentator noted that this rule is
not in the operative rules of the temporary regulations. In response to
this comment, the final regulations make the rule explicit and provide
that if a person initially acquires new property and holds the property
as inventory and a taxpayer subsequently acquires the property from the
person for use primarily in the taxpayer's trade or business or
primarily for the taxpayer's production of income, the taxpayer is
considered the original user of the property. The final regulations
also provide that if a taxpayer initially acquires new property and
holds the property as inventory and then subsequently withdraws the
property from inventory and uses the property primarily in the
taxpayer's trade or business or primarily for the taxpayer's production
of income, the taxpayer is considered the original user of the
property. In both situations, the final regulations provide that the
original use of the property by the taxpayer commences on the date on
which the taxpayer uses the property primarily in the taxpayer's trade
or business or primarily for the taxpayer's production of income.
A commentator questioned whether Example 2 in Sec. 1.168(k)-
1T(b)(3)(v) is the appropriate place to resolve the issue of the tax
treatment of demonstrator automobiles for depreciation and other
purposes when the issue may have a potential broader scope and
significance that may continue to arise long after the additional first
year depreciation under section 168(k) has ceased to be available. The
IRS and Treasury Department believe that this example illustrates only
the concept that if property is held by a person as inventory and then
sold to a taxpayer for use in the taxpayer's trade or business, the
taxpayer is the original user of the property, and, therefore, that
this example is in the appropriate place.
Third, the final regulations retain the special rules contained in
the temporary regulations for certain sale-leaseback transactions and
syndication transactions. A commentator suggested that the title of
Sec. 1.168(k)-1T(b)(3)(iii)(B), ``Syndication transaction,'' should be
changed in the final regulations to reflect that this rule, by its
terms, can apply to any sale of property within three months after the
date on which it is placed in service, regardless of whether that sale
constitutes a syndication. The final regulations adopt this suggestion
and modify the titles of, and make conforming changes to, the
applicable paragraphs. Similar changes also are made to the paragraphs
relating to the placed-in-service date requirement.
Fourth, the final regulations modify the provision in the temporary
regulations to implement section 403(a) of the Working Families Tax
Relief Act of 2004, (Pub. L. 108-311, 118 Stat. 1166) (October 4, 2004)
(WFTRA) and section 337 of the American Jobs Creation Act of 2004 (Pub.
L. 108-357, 118 Stat. 1418) (October 22, 2004) (AJCA). Section 403(a)
of the WFTRA amended section 168(k) by adding the provision in section
168(k)(2)(E)(iii). Section 403(f) of the WFTRA provides that this
amendment is effective as if included in the provisions of the Job
Creation and Worker Assistance Act of 2002 (Pub. L. 107-147, 116 Stat.
21) (March 9, 2002) (JCWAA). Section 337(a) of the AJCA amended the
syndication transaction provision in section 168(k)(2)(E)(iii)(II) by
adding at the end the following: ``(or, in the case of multiple units
of property subject to the same lease, within 3 months after the date
the final unit is placed in service, so long as the period between the
time the first unit is placed in service and the time the last unit is
placed in service does not exceed 12 months).'' Section 337(b) of the
AJCA provides that this amendment is effective for property sold after
June 4, 2004.
Fifth, if property placed in service by a person is sold and leased
back within three months, and a syndication transaction occurs within
three months after the sale-leaseback, a commentator questioned whether
the purchaser of the property in the syndication transaction is
considered the original user of the property and whether the property
is treated as having been placed in service by the purchaser in the
syndication transaction. Pursuant to Sec. Sec. 1.168(k)-
1T(b)(3)(iii)(C) and (5)(ii)(C), the purchaser of the property in the
syndication transaction is considered the original user of the property
and the property is treated as having been placed in service by the
purchaser in the syndication transaction. The final regulations retain
this rule and provide an example illustrating both the original use and
the placed in service aspects of this situation.
[[Page 51730]]
Finally, the final regulations retain the rule contained in the
temporary regulations providing that if, in the ordinary course of its
business, a taxpayer sells fractional interests in qualified property
or 50-percent bonus depreciation property to unrelated third parties,
each first fractional owner of the property is considered as the
original user of its proportionate share of the property. A commentator
questioned whether the rule requiring the sale to be to unrelated third
parties means that the purchasers must be unrelated to the seller, the
purchasers must be unrelated to each other, or both. The IRS and
Treasury Department intended that the purchasers be unrelated to the
seller. Accordingly, the final regulations clarify this point.
A commentator questioned whether there are circumstances when the
placed-in-service year of property is before the taxable year of
original use. Pursuant to Sec. 1.46-3(d)(1)(ii), property is
considered placed in service in the taxable year in which the property
is placed in a condition or state of readiness and availability for a
specifically assigned function, whether in a trade or business, in the
production of income, in a tax-exempt activity, or in a personal
activity. Original use begins when new property is placed in service.
Consequently, the placed-in-service year of new property cannot be
before the taxable year in which original use of the property occurs.
Acquisition of Property
The final regulations modify the acquisition dates in the temporary
regulations to reflect section 405 of the Gulf Opportunity Zone Act of
2005 (Pub. L. 109-135, 119 Stat. 2577) (December 21, 2005) (GOZA).
Section 405(a)(1) of the GOZA amended section 168(k)(4)(B)(ii) to
provide that 50-percent bonus depreciation property is property (I)
acquired by the taxpayer after May 5, 2003, and before January 1, 2005,
but only if no written binding contract for the acquisition of the
property was in effect before May 6, 2003, or (II) acquired by the
taxpayer pursuant to a written binding contract which was entered into
after May 5, 2003, and before January 1, 2005. Section 405(b) provides
that this amendment is effective as if included in section 201 of the
Jobs and Growth Tax Relief and Reconciliation Act of 2003 (Pub. L. 108-
27, 117 Stat. 752) (May 28, 2003).
Binding Contracts
The final regulations also modify in three respects the rules
contained in the temporary regulations defining a binding contract.
First, the temporary regulations provide that if a contract provides
for a full refund of the purchase price in lieu of any damages
allowable by law in the event of breach or cancellation by the seller,
the contract is not considered binding. A commentator suggested that
this rule should apply to a breach or cancellation by the buyer, not
the seller. However, the IRS and Treasury Department believe that this
rule relates to a breach or cancellation by either party. Accordingly,
the final regulations provide that if a contract provides for a full
refund of the purchase price in lieu of any damages allowable by law in
the event of breach or cancellation, the contract is not considered
binding.
Second, with respect to a contract subject to a condition, the
temporary regulations provide that a contract that imposes significant
obligations on the taxpayer or a predecessor will be treated as binding
notwithstanding the fact that insubstantial terms remain to be
negotiated by the parties to the contract. A commentator questioned
whether this rule implies that a contract that imposes significant
obligations will not be treated as binding if substantial terms remain
to be negotiated. The IRS and Treasury Department believe that this
implication was not intended. As a consequence, the final regulations
clarify this rule by providing that a contract that imposes significant
obligations on the taxpayer or a predecessor will be treated as binding
notwithstanding the fact that certain terms remain to be negotiated by
the parties to the contract.
Third, with respect to a supply agreement, a commentator suggested
that the existence of agreed pricing terms should not be relevant in
determining whether or not a supply agreement is a binding contract,
except to the extent that their absence causes the contract not to be
enforceable under local law. The commentator further suggested that if
the existence of pricing terms is considered relevant to the result in
the example of the operative rule and in some of the examples that
illustrate the application of the rule, that requirement should be
stated in the operative rule, and if not relevant, the references to
pricing terms should be deleted. Pricing terms are not relevant in
determining whether a supply agreement is a binding contract for
purposes of these regulations. Accordingly, the final regulations adopt
the suggestion by eliminating the reference to agreed pricing terms in
the example of the operative rule. While the examples that illustrate
the application of the rule continue to contain the agreed price as a
fact, the conclusions in these examples depend upon only whether or not
the quantity and the design specification of the property to be
purchased are specified.
Self-Constructed Property
With respect to self-constructed property, the final regulations
clarify the rules in the temporary regulations in several respects.
First, with respect to property described in section 168(k)(2)(B)
(longer production period property) or section 168(k)(2)(C) (certain
aircraft), the final regulations clarify that if a taxpayer enters into
a written binding contract after September 10, 2001, and before January
1, 2005, with another person to manufacture, construct, or produce such
property and the manufacture, construction, or production begins after
December 31, 2004, the taxpayer has acquired the property pursuant to a
written binding contract entered into after September 10, 2001, and
before January 1, 2005 (for qualified property) or after May 5, 2003,
and before January 1, 2005 (for 50-percent bonus depreciation
property).
Second, a commentator asked whether the rules in the temporary
regulations providing for when construction begins are intended also to
apply to manufacture and production because self-constructed property
can be manufactured, constructed, or produced for purposes of the
additional first year depreciation deduction. The IRS and Treasury
Department intended these rules to apply to manufacture, construction,
or production. Accordingly, the final regulations make this
clarification.
Third, the temporary regulations provide that construction of
property begins when physical work of a significant nature begins and
the determination of when physical work of a significant nature begins
depends on the facts and circumstances. The temporary regulations also
provide that physical work of a significant nature will not be
considered to begin before the taxpayer incurs or pays more than 10
percent of the total cost of the property (excluding the cost of any
land and preliminary activities). Several commentators questioned
whether this 10-percent test is a safe harbor. The preamble to the
temporary regulations (68 FR 52987) states that the 10-percent test is
a safe harbor. Consequently, the final regulations are clarified to
provide that the 10-percent test is a safe harbor. Further, when
another party manufactures, constructs, or produces property for the
taxpayer, the final regulations clarify that the safe harbor test must
be met by the taxpayer. Thus,
[[Page 51731]]
under the final regulations, a taxpayer can determine when manufacture,
construction, or production of the property begins either (1) by using
the 10 percent safe harbor or (2) by using its own facts and
circumstances.
Fourth, the final regulations retain the rules contained in the
temporary regulations relating to components of self-constructed
property. One of these rules is that if the binding contract to acquire
a component is entered into, or the manufacture, construction, or
production of a component begins, after September 10, 2001, for
qualified property, or after May 5, 2003, for 50-percent bonus
depreciation property, and before January 1, 2005, but the manufacture,
construction, or production of the larger self-constructed property
begins after December 31, 2004, the component qualifies for the
additional first year depreciation deduction (assuming all other
requirements are met) but the larger self-constructed property does
not. In the case of a self-constructed component that is to be
incorporated into a larger self-constructed property, some commentators
noted that the applicability of this rule is limited. Specifically, one
commentator stated that if the 10 percent test mentioned in the
preceding paragraph is not a safe harbor test, then the only case in
which self-constructed components could qualify for the additional
first year depreciation deduction is one in which the taxpayer's pre-
January 1, 2005, costs are 10 percent or less of the total cost of the
larger self-constructed property (but more than 10 percent of the total
cost of the component). Another commentator stated that a self-
constructed component that is to be incorporated into a larger self-
constructed property may not be placed in service before the larger
self-constructed property. The IRS and Treasury Department agree that
the rule has limited applicability. The rule applies when the larger
self-constructed property is property that is manufactured,
constructed, or produced by the taxpayer for its own use and that is
described in section 168(k)(2)(B) (longer production period property)
or section 168(k)(2)(C) (certain aircraft) and, therefore, the property
is eligible for the extended placed-in-service date of January 1, 2006.
Disqualified Transactions
The final regulations clarify the disqualified transaction rules in
the temporary regulations to reflect section 403(a) of the WFTRA. This
section amended section 168(k) by adding section 168(k)(2)(E)(iv),
which provides limitations related to users and related parties
(disqualified transactions). Section 168(k)(2)(E)(iv) provides that the
term qualified property does not include any property if: (I) the user
of such property (as of the date on which the property is originally
placed in service) or a person that is related (within the meaning of
section 267(b) or 707(b)) to such user or to the taxpayer had a written
binding contract in effect for the acquisition of the property at any
time on or before September 10, 2001; or (II) in the case of property
manufactured, constructed, or produced for such user's or person's own
use, the manufacture, construction, or production of the property began
at any time on or before September 10, 2001. Section 403(f) of the
WFTRA provides that this amendment is effective as if included in the
provisions of the JCWAA.
Finally, the IRS and Treasury Department decided to add new
examples to illustrate the above rules. Further, in Example 10 of Sec.
1.168(k)-1T(b)(4)(v), a commentator inquired whether the taxpayer (S)
is considered to be self-constructing the property, acquiring the
property, or both. The IRS and Treasury Department intended to have the
taxpayer both self-constructing and acquiring the property. The final
regulations make this clarification.
A commentator questioned whether the result in Example 10 of Sec.
1.168(k)-1T(b)(4)(v) also would apply if before September 11, 2001, a
partnership began construction of a power plant for its own use, then
after September 10, 2001, and before completion of the plant, there is
a technical termination of the partnership under section 708(b)(1)(B),
and then subsequently the new partnership incurred additional
expenditures to complete the construction of the power plant and placed
the power plant in service before January 1, 2005. Assuming the
terminated partnership and the new partnership are not related parties,
the new partnership is considered to have acquired the uncompleted
power plant and completed the construction of the power plant and,
thus, the result in Example 10 of Sec. 1.168(k)-1T(b)(4)(v) will apply
to the new partnership in this case. While the additional first year
depreciation deduction for Liberty Zone property requires the property
to be acquired by purchase, the same result would apply because for
purposes of that requirement, Sec. 1.1400L(b)-1T(c)(5)(ii) treats the
new partnership as acquiring the property by purchase and the final
regulations retain this rule.
Placed-in-Service Date
The final regulations retain the rule contained in the temporary
regulations providing, pursuant to section 168(k)(2)(A)(iv) and section
168(k)(4)(B)(iii), that qualified property or 50-percent bonus
depreciation property is property that is placed in service by the
taxpayer before January 1, 2005. The temporary regulations also provide
that property described in section 168(k)(2)(B) (longer production
period property) must be placed in service before January 1, 2006. The
final regulations modify this extended placed-in-service date
requirement in two respects. First, the final regulations reflect that
the extended placed-in-service date of before January 1, 2006, also
applies to property described in section 168(k)(2)(C) (certain
aircraft), which was added to section 168(k) by section 336 of the
AJCA. Second, the final regulations reflect that the extended placed-
in-service date of before January 1, 2006, is extended for one year to
before January 1, 2007, for property to which Announcement 2006-29
(2006-19 IRB 879) applies. Announcement 2006-29 applies to property
described in section 168(k)(2)(B) or (C) that is either placed in
service by the taxpayer or manufactured by a person in the Gulf
Opportunity (GO) Zone, the Rita GO Zone, or the Wilma GO Zone, provided
the taxpayer was unable to meet the December 31, 2005, placed-in-
service date deadline for such property as a result of Hurricane
Katrina, Hurricane Rita, or Hurricane Wilma.
Qualified Leasehold Improvement Property
The final regulations retain the rules contained in the temporary
regulations relating to qualified leasehold improvement property. The
temporary regulations provide that qualified leasehold improvement
property means any improvement, which is section 1250 property, to an
interior portion of a building that is nonresidential real property if,
among other things, the improvement is made under or pursuant to a
lease by the lessee (or any sublessee) of the interior portion, or by
the lessor of that interior portion. A commentator questioned whether
this rule means an improvement that is permitted or required by a
lease. The IRS and Treasury Department believe that the improvement
must be made under or pursuant to a lease, regardless of whether the
improvement is permitted or required under the lease.
[[Page 51732]]
Computation of Additional First Year Depreciation Deduction and
Otherwise Allowable Depreciation
The final regulations retain the rules contained in the temporary
regulations for determining the amount of the additional first year
depreciation deduction and otherwise allowable depreciation deduction.
In addition, the final regulations clarify that the additional first
year depreciation deduction generally is allowable in the first taxable
year in which the qualified property or 50-percent bonus depreciation
property is placed in service by the taxpayer for use in its trade or
business or for the production of income.
Election Not To Claim Additional First Year Depreciation Deduction
With respect to the election not to claim the additional first year
depreciation deduction, the final regulations retain the rules
contained in the temporary regulations for making this election and for
defining what is a class of property for purposes of the election. For
any class of property that is qualified property, a taxpayer may elect
out of the 30-percent additional first year depreciation deduction for
any class of qualified property. For any class of property that is 50-
percent bonus depreciation property, a taxpayer may elect either to
deduct the 30-percent, instead of the 50-percent, additional first year
depreciation or to deduct no additional first year depreciation. A
commentator asked whether a taxpayer with 50-percent bonus depreciation
property must make two elections to elect not to deduct any additional
first year depreciation. The final regulations clarify that only one
election is needed to elect not to deduct both the 30-percent and 50-
percent additional first year depreciation for 50-percent bonus
depreciation property.
If a taxpayer elects not to deduct any additional first year
depreciation for a class of property, another commentator asked whether
the depreciation adjustments under section 56 apply to property
included in such class for purposes of computing the taxpayer's
alternative minimum taxable income. The non-applicability of the
depreciation adjustments under section 56 provided by section
168(k)(2)(G) applies only to qualified property or 50-percent bonus
depreciation property. If a taxpayer elects not to deduct any
additional first year depreciation for a class of property, the
property included in such class is not qualified property or 50-percent
bonus depreciation property. Accordingly, the final regulations provide
that if a taxpayer elects not to deduct any additional first year
depreciation for a class of property, the depreciation adjustments
under section 56 apply to that property for purposes of computing the
taxpayer's alternative minimum taxable income.
The final regulations also include the procedures provided by
section 3.04 of Rev. Proc. 2002-33 (2002-1 C.B. 963) for revoking an
election not to deduct the additional first year depreciation for a
class of property. These procedures provide that this election is
revocable only with the prior written consent of the Commissioner of
Internal Revenue and, to seek the Commissioner's consent, the taxpayer
must submit a request for a letter ruling. However, the final
regulations also provide an automatic 6-month extension from the due
date of the taxpayer's Federal tax return (excluding extensions) for
the placed-in-service year to revoke the election, provided the
taxpayer timely filed its Federal tax return for the placed-in-service
year.
Liberty Zone Property
Generally, the requirements for determining the eligibility of
property for the additional first year depreciation deduction for
Liberty Zone property provided by section 1400L(b) are similar to the
requirements for the 30-percent additional first year depreciation
deduction for qualified property provided by section 168(k)(1) in the
final regulations. The final regulations made several changes to the
temporary regulations with respect to the Liberty Zone property, which
are discussed below.
The final regulations retain the rule contained in the temporary
regulations providing that Liberty Zone property includes the same
property that is described as qualified property or 50-percent bonus
depreciation property for purposes of section 168(k). In addition,
Liberty Zone property includes nonresidential real property or
residential rental property to the extent such property rehabilitates
real property damaged, or replaces real property destroyed or
condemned, as a result of the terrorist attacks of September 11, 2001.
Real property is considered to have been destroyed or condemned only if
an entire building or structure was destroyed or condemned as a result
of the terrorist attacks of September 11, 2001. Property is treated as
replacing destroyed or condemned property if, as part of an integrated
plan, the property replaces real property that is included in a
continuous area that includes real property destroyed or condemned. A
commentator noted that the temporary regulations simply reiterate the
statute but do not define the word continuous. The IRS and Treasury
Department believe that the common meaning of continuous applies.
The temporary regulations define real property as a building or its
structural components, or other tangible real property except: (1)
Property described in section 1245(a)(3)(B) (relating to depreciable
property used as an integral part of a specified activity or as a
specified facility); (2) property described in section 1245(a)(3)(D)
(relating to a single purpose agricultural or horticultural structure);
and (3) property described in section 1245(a)(3)(E) (relating to
storage facility used in connection with the distribution of petroleum
or any primary product of petroleum). A commentator suggested that
these exclusions to the definition of real property should be deleted
in the final regulations. As a result of this definition,
nonresidential real property or residential rental property that
rehabilitates or replaces any of the excluded properties that were
damaged, destroyed, or condemned, is not eligible for the Liberty Zone
additional first year depreciation deduction. For this reason, the IRS
and Treasury Department agree. Accordingly, the final regulations
provide that real property is a building or its structural components,
or other tangible real property.
The temporary regulations provide that Liberty Zone property does
not include property that is described as qualified property or 50-
percent bonus depreciation property for purposes of section 168(k), or
property that is described in Sec. 1.168(k)-1T(b)(2)(ii). The property
described in Sec. 1.168(k)-1T(b)(2)(ii) is property that is: (1)
Described in section 168(f); (2) required to be depreciated under the
alternative depreciation system; (3) included in any class of property
for which the taxpayer elects out of the additional first year
depreciation deduction under section 168(k); or (4) qualified Liberty
Zone leasehold improvement property. Instead of providing a cross-
reference to Sec. 1.168(k)-1(b)(2)(ii), the final regulations list the
property that is described in Sec. 1.168(k)-1(b)(2)(ii) with one
modification to the exclusion for property that is included in any
class of property for which the taxpayer elects out of the additional
first year depreciation deduction under section 168(k). In this regard,
a commentator stated that while section 1400L(b)(2)(C)(iv) provides
that the election out rules for purposes of section 1400L(b) are to be
similar to the election out rules under section 168(k), section
1400L(b)(2)(C)(iv) does not mean
[[Page 51733]]
that the same election must be made with respect to both sections
168(k) and 1400L(b). Accordingly, the commentator suggested that a
taxpayer be permitted to elect not to apply section 168(k) to its
property of a particular class of property to the extent that such
property is not located within the Liberty Zone, while still being
entitled to the benefits of section 1400L(b) for its property of the
same class that is located within the Liberty Zone. The IRS and
Treasury Department agree with this suggestion. Accordingly, the final
regulations make clear that Liberty Zone property is not property
included in any class of property for which the taxpayer elects out of
the additional first year depreciation deduction under section
1400L(b).
The final regulations retain the rule contained in the temporary
regulations providing that Liberty Zone property is property that is
acquired by the taxpayer by purchase after September 10, 2001, but only
if no written binding contract for the acquisition of the property was
in effect before September 10, 2001. The term by purchase is defined in
section 179(d) and Sec. 1.179-4(c). The final regulations also retain
the rule contained in the temporary regulations providing that the new
partnership resulting from a technical termination under section
708(b)(1)(B) or a transferee in section 168(i)(7) transactions is
deemed to acquire the depreciable property by purchase. A commentator
suggested that the rule should apply only if the old transferor
partnership had itself acquired the property by purchase, as the mere
existence of a technical termination does not provide sufficient reason
to deem the statutory purchase requirement to have been met. The final
regulations do not adopt this suggestion. The rule is the result of the
rules provided in the temporary regulations regarding the additional
first year depreciation deduction under sections 168(k) and 1400L(b)
that allow the new partnership resulting from a technical termination
to be entitled to the additional first year depreciation deduction for
eligible property that was placed in service by the terminated
partnership during the taxable year of termination. As a result, the
IRS and Treasury Department determined that the rule should not be
changed.
The final regulations also retain the rules contained in the
temporary regulations for electing not to deduct the Liberty Zone
additional first year depreciation deduction for a class of property.
In addition, the final regulations for this election include provisions
similar to those previously discussed relating to the alternative
minimum tax and the revocation of the election with respect to the
election not to deduct the additional first year depreciation deduction
under section 168(k).
Special Rules
Similar to the temporary regulations, the final regulations provide
special rules for the following situations: (1) Qualified property, 50-
percent bonus depreciation property, or Liberty Zone property placed in
service and disposed of in the same taxable year; (2) redetermination
of basis of qualified property, 50-percent bonus depreciation property,
or Liberty Zone property; (3) recapture of additional first year
depreciation for purposes of section 1245 and section 1250; (4) a
certified pollution control facility that is qualified property, 50-
percent bonus depreciation property, or Liberty Zone property; (5)
like-kind exchanges and involuntary conversions of qualified property,
50-percent bonus depreciation property, or Liberty Zone property; (6) a
change in use of qualified property, 50-percent bonus depreciation
property, or Liberty Zone property; (7) the computation of earnings and
profits; (8) the increase in the limitation of the amount of
depreciation for passenger automobiles; and (9) the step-up in basis
due to a section 754 election. For some of these situations, the final
regulations modify or clarify the rules contained in the temporary
regulations. In addition, the final regulations provide rules for two
new situations: the rehabilitation credit under section 47 and the
computation of depreciation for purposes of section 514(a)(3).
Property Placed in Service and Disposed of in the Same Taxable Year
With respect to qualified property, 50-percent bonus depreciation
property, or Liberty Zone property placed in service and disposed of in
the same taxable year, the final regulations retain the rules contained
in the temporary regulations. In general, the regulations provide that
the additional first year depreciation deduction is not allowed. If
qualified property or 50-percent bonus depreciation property is placed
in service and disposed of by a taxpayer in the same taxable year and
then, in a subsequent taxable year, is reacquired and again placed in
service by the taxpayer, a commentator inquired whether the additional
first year depreciation deduction is allowable in the subsequent
taxable year. Because the property is used property in the subsequent
taxable year, the additional first year depreciation deduction is not
allowable for the property in the subsequent taxable year. Accordingly,
in this situation, the final regulations clarify that the additional
first year depreciation deduction is not allowable for the property in
the subsequent taxable year.
The temporary regulations provide two exceptions to the general
rule. First, the additional first year depreciation deduction is
allowable for qualified property, 50-percent bonus depreciation
property, or Liberty Zone property placed in service by a terminated
partnership in the same taxable year in which a technical termination
of the partnership occurs. In this case, the new partnership, and not
the terminated partnership, claims the additional first year
depreciation deduction. Second, the additional first year depreciation
deduction is allowable for qualified property, 50-percent bonus
depreciation property, or Liberty Zone property placed in service by a
transferor in the same taxable year in which the property is
transferred in a transaction described in section 168(i)(7). In this
case, the additional first year depreciation deduction for the
transferor's taxable year in which the property is placed in service is
allocated between the transferor and the transferee on a monthly basis.
The allocation shall be made in accordance with the rules in Sec.
1.168(d)-1(b)(7)(ii) for allocating the depreciation deduction between
the transferor and the transferee. If the transferee has a different
taxable year than the transferor, a commentator questioned whether the
allocation of the additional first year depreciation deduction would be
made between the transferor and the transferee in accordance with the
above rules. Because the allocation rules in Sec. 1.168(d)-1(b)(7)(ii)
cover this situation, the IRS and Treasury Department did not modify
the rule in the final regulations.
Redetermination of Basis
The final regulations also retain the rules contained in the
temporary regulations with respect to a redetermination of basis of
qualified property, 50-percent bonus depreciation property, or Liberty
Zone property (for example, due to a contingent purchase price or a
discharge of indebtedness). These rules apply to a redetermination of
the unadjusted depreciable basis of the property occurring before
January 1, 2005 (January 1, 2006, for the extended placed-in-service
date property) for qualified property or 50-percent bonus depreciation
property, or before January 1, 2007 (January 1, 2010, in the case of
nonresidential real property and
[[Page 51734]]
residential rental property) for Liberty Zone property. A commentator
suggested that the rules should be expanded to include redeterminations
of basis occurring on or after these dates. The commentator pointed out
that the rule results in additional first year depreciation not being
allowable for additional purchase price paid on or after January 1,
2005, with respect to qualified property or 50-percent bonus
depreciation property acquired before 2005. The final regulations do
not adopt this suggestion. While the current rule may be unfavorable
when, for example, a redetermination of basis results in an increase of
basis on or after January 1, 2005, for qualified property or 50-percent
bonus depreciation property acquired before 2005, the current rule may
be favorable when, for example, a redetermination of basis results in a
decrease of basis on or after January 1, 2005, with respect to
qualified property or 50-percent bonus depreciation property acquired
before 2005. Further, the IRS and Treasury Department limited the rules
to redeterminations occurring before the dates mentioned above to be
consistent with the dates on which property must be placed in service
to be eligible for the additional first year depreciation deduction.
For this reason, the IRS and Treasury Department determined not to
change the rule in the final regulations.
In the case of a redetermination of basis that results in a
decrease in basis, a commentator noted that the operative rule provides
that the taxpayer includes in the taxpayer's income the excess
additional first year depreciation deduction previously claimed for the
qualified property, the 50-percent bonus depreciation property, or the
Liberty Zone property but the example illustrating the application of
this rule allows the taxpayer to reduce current year depreciation
deductions by the amount of the excess additional first year
depreciation deduction previously claimed for the qualified property,
the 50-percent bonus depreciation property, or Liberty Zone property.
Because the IRS and Treasury Department recognize that the lump-sum
inclusion in income approach provided in the operative rule of the
temporary regulation may adversely affect real estate investment trusts
and similar entities, the final regulations provide that the excess
additional first year depreciation deduction offsets the amount
otherwise allowable for depreciation for the taxable year. Even if the
amount of the offset exceeds the amount otherwise allowable for
depreciation for the taxable year, the taxpayer takes into account a
negative depreciation deduction in computing taxable income.
The final regulations retain the rule contained in the temporary
regulations providing that, for purposes of the redetermination of
basis rules: (1) an increase in basis occurs in the taxable year an
amount is taken into account under section 461; and (2) a decrease in
basis occurs in the taxable year an amount is taken into account under
section 451. A commentator questioned whether because the event in
question is giving rise to a basis adjustment, rather than to an item
of income or deduction, it is appropriate for the rule to tie the
timing of the adjustment to accounting method rules concerning the
timing of income and deductions. The commentator also noted that one
apparent effect of applying the accounting method rules is to override
the basis reduction rule of section 1017(a) as illustrated in Example 2
of Sec. 1.168(k)-1T(f)(2)(iv). The IRS and Treasury Department did not
intend to change the section 1017(a) rules. While the IRS and Treasury
Department continue to believe that the current rule is appropriate,
the final regulations have been modified for cases in which the Code,
the regulations under the Code, or other published guidance expressly
provides an exception to such rule (for example, section 1017(a)).
Therefore, Example 2 of Sec. 1.168(k)-1(f)(2)(iv) in the final
regulations reflects the basis adjustment rules of section 1017(a).
Like-Kind Exchanges and Involuntary Conversions
With respect to MACRS property or computer software acquired in a
like-kind exchange under section 1031 or as a result of an involuntary
conversion under section 1033, the final regulations change the rules
contained in the temporary regulations (TD 9091 as amended by TD 9115)
in several respects. First, the final regulations modify the scope of
this provision to include property described in section 168(k)(2)(C)
(certain aircraft), which was added to section 168(k) by section 336 of
the AJCA, and to include property to which Announcement 2006-29 (2006-
19 IRB 879) applies if the time of replacement is after September 10,
2001, and before January 1, 2007. As previously noted, Announcement
2006-29 applies to property described in section 168(k)(2)(B) or (C)
that is either placed in service by the taxpayer or manufactured by a
person in the Gulf Opportunity (GO) Zone, the Rita GO Zone, or the
Wilma GO Zone, provided the taxpayer was unable to meet the December
31, 2005, placed-in-service date deadline for such property as a result
of Hurricane Katrina, Hurricane Rita, or Hurricane Wilma. Similar
changes also are made to the paragraph relating to the computation of
the additional first year depreciation deduction for MACRS property or
computer software acquired in a like-kind exchange or as a result of an
involuntary conversion.
A commentator inquired whether the rules should be expanded to
include exchanged or involuntarily converted property that is subject
to former section 168 (the accelerated cost recovery system or ACRS) or
that is pre-1981 depreciation property. The current rules apply only to
exchanged or involuntarily converted property that is MACRS property in
order to conform with Sec. 1.168(i)-6T (relating to depreciation of
property acquired in like-kind exchanges or as a result of involuntary
conversions). Accordingly, the IRS and Treasury Department believe that
this issue is outside the scope of these regulations and should be
addressed when the temporary regulations under Sec. 1.168(i)-6T are
finalized.
Second, the temporary regulations define the time of replacement as
the later of when the acquired MACRS property or acquired computer
software is placed in service, or the time of disposition of the
exchanged or involuntarily converted property. A commentator expressed
concern that in the case of an involuntary conversion under section
1033, the final regulations may confer an unintended benefit in the
case of taxpayers who acquired property prior to September 11, 2001, in
order to replace property that was ultimately requisitioned or
condemned after September 10, 2001, but as to which the threat or
imminence of condemnation existed prior to that date. The IRS and
Treasury Department acknowledge that the rule confers a benefit under
such circumstances, but continue to believe that the rule is
appropriate. Additionally, the IRS and Treasury Department decided to
provide rules in the final regulations to address how the additional
first year depreciation deduction is treated when Sec. 1.168(i)-
6T(d)(4) applies. Section 1.168(i)-6T(d)(4) applies when, in an
involuntary conversion, a taxpayer acquires and places in service
acquired MACRS property before the time of disposition of the
involuntarily converted MACRS property. If the time of disposition of
the involuntarily converted MACRS property is after December 31, 2004,
or, in the case of property described in section 168(k)(2)(B) or (C),
after December 31, 2005 (or after December 31, 2006, in the
[[Page 51735]]
case of property described in section 168(k)(2)(B) or (C) to which
Announcement 2006-29 applies), the final regulations provide that the
time of replacement is when the acquired MACRS property is placed in
service, provided the threat or imminence of requisition or
condemnation of the converted property existed prior to January 1,
2005, or, in the case of property described in section 168(k)(2)(B) or
(C), existed before January 1, 2006 (or existed before January 1, 2007,
in the case of property described in section 168(k)(2)(B) or (C) to
which Announcement 2006-29 applies). In this case, the final
regulations also modify the income inclusion rule in Sec. 1.168(i)-
6T(d)(4) to allow the additional first year depreciation deduction on
the remaining carryover basis of the acquired MACRS property that is
qualified property, 50-percent bonus depreciation property, or Liberty
Zone property.
Third, the final regulations clarify the rules contained in the
temporary regulations relating to the computation of the additional
first year depreciation deduction for property described in section
168(k)(2)(B) (longer production period property) and for alternative
minimum tax purposes. In both cases, the temporary regulations provide
a cross-reference to Sec. 1.168(k)-1T(d) (computation of depreciation
deduction for qualified property or 50-percent bonus depreciation
property). A commentator suggested that the purpose of the reference to
Sec. 1.168(k)-1T(d) should be clarified. The final regulations adopt
this suggestion by deleting the cross-reference and providing rules for
computing the additional first year depreciation deduction for property
described in section 168(k)(2)(B) (longer production period property)
and for alternative minimum tax purposes.
Also, a commentator questioned whether the rule that the additional
first year depreciation is calculated separately with respect to the
carryover basis and the excess basis is appropriate, and suggested that
the rule should be simplified by eliminating the requirement of
separate calculations. The IRS and Treasury Department believe that the
rule is appropriate because it conforms with Sec. 1.168(i)-6T, which
requires separate calculations of depreciation for the carryover basis
and the excess basis.
Fourth, the final regulations clarify the rules contained in the
temporary regulations relating to exchanged or involuntarily converted
MACRS property or exchanged or involuntarily converted computer
software that is placed in service and disposed of in an exchange or
involuntary conversion in the same taxable year. In this case, the
temporary regulations provide that the additional first year
depreciation deduction is not allowable for the exchanged or
involuntarily converted MACRS property or the exchanged or
involuntarily converted computer software if the MACRS property or
computer software is placed in service and disposed of in an exchange
or involuntary conversion in the same taxable year. A commentator
suggested that the final regulations clarify that the reference in the
above rule to the MACRS property or computer software that is placed in
service and disposed of in the same taxable year is the exchanged or
involuntarily converted MACRS property or exchanged or involuntarily
converted computer software. The final regulations adopt this
suggestion.
Finally, a new example is added and the facts in several of the
examples are clarified to reflect that the acquired property must be
new property in order to meet the original use requirement and,
therefore, qualify for the additional first year depreciation
deduction.
Change in Use
The final regulations retain the rules contained in the temporary
regulations providing when the use of qualified property, 50-percent
bonus depreciation property, or Liberty Zone property changes in the
hands of the same taxpayer during the placed-in-service year or a
subsequent taxable year. One of these rules provide that if property is
acquired by a taxpayer for personal use and, during a subsequent
taxable year, is converted by the taxpayer from personal use to
business or income-producing use, the additional first year
depreciation deduction is allowable for the property in the taxable
year the property is converted to business or income-producing use
(assuming all the requirements for the additional first year
depreciation deduction are met). Another rule provides that if
depreciable property is not qualified property, 50-percent bonus
depreciation property, or Liberty Zone property in the placed-in-
service year, the additional first year depreciation deduction is not
allowable for the property even if a change in the use of the property
subsequent to the placed-in-service year results in the property being
qualified property, 50-percent bonus depreciation property, or Liberty
Zone property in the taxable year of the change in use. A commentator
questioned whether these two rules are inconsistent. The commentator
further noted that under Sec. 1.167(a)-11(e)(1)(i), property that is
ready for use in a personal activity is considered to be placed in
service. The IRS and Treasury Department do not believe that the two
rules are inconsistent. Property is eligible for the additional first
year depreciation deduction if in the first year in which the property
is subject to depreciation, the property meets all the requirements to
qualify for the additional first year depreciation deduction. In the
case of property that changes from personal use to a business or
income-producing use, the first year such property is subject to
depreciation is the year of conversion to business or income-producing
use. But in the case of property that changes from a depreciable use
not eligible for the additional first year depreciation deduction to a
depreciable use that is eligible for the additional first year
depreciation deduction, such property did not meet the requirements to
qualify for the additional first year depreciation deduction in the
first year in which the property is subject to depreciation.
Earnings and Profits
The final regulations retain the rule contained in the temporary
regulations providing that the additional first year depreciation
deduction is not allowable for purposes of computing earnings and
profits. A commentator suggested that because this provision interprets
section 312(k), the regulations under section 312 should include a
cross-reference to the regulations under section 168(k). The IRS and
Treasury Department agree and, accordingly, the final regulations adopt
this suggestion.
280F(a)(1) Limitation
The final regulations also retain the rules contained in the
temporary regulations providing the increase in the limitation under
section 280F(a)(1) of the amount of depreciation for certain passenger
automobiles that are qualified property or 50-percent bonus
depreciation property. A commentator had three inquiries about this
increase in the limitation under section 280F(a)(1). First, the
commentator asked whether the increase in the limitation can be taken
as a section 179 expense. The increase in the limitation under section
280F(a)(1) that is provided in the final regulations may be taken as a
section 179 expense. Second, the commentator asked whether the increase
in the limitation of amount of depreciation for certain passenger
automobiles needs to be prorated in a short taxable year. Because the
additional first year depreciation
[[Page 51736]]
deduction is not prorated for a short taxable year, the increase in the
limitation under section 280F(a)(1) that is provided in the final
regulations also is not prorated. Third, when calculating depreciation
for an asset with less than 100 percent business use, the commentator
asked whether the business use percentage is applied to the increase in
the limitation of amount of depreciation for certain passenger
automobiles. If a taxpayer's business use of the automobile is less
than 100 percent, the business use percentage is applied to the
automobile's depreciation deduction, including the additional first
year depreciation deduction, for the taxable year. The IRS and Treasury
Department believe that these issues are outside the scope of these
regulations and, accordingly, the final regulations do not address
these issues.
Section 754 Election
Finally, the final regulations retain the rules contained in the
temporary regulations relating to any increase in basis of qualified
property, 50-percent bonus depreciation property, or Liberty Zone
property due to a section 754 election. Under these rules, such
increase in basis generally is not eligible for the additional first
year depreciation deduction. However, if qualified property, 50-percent
bonus depreciation property, or Liberty Zone property is placed in
service by a partnership in the taxable year the partnership terminates
under section 708(b)(1)(B), any increase of basis of the qualified
property, 50-percent bonus depreciation property, or Liberty Zone
property due to a section 754 election is eligible for the additional
first year depreciation deduction. A commentator requested that we
expand this terminating partnership rule to any increase in basis due
to a section 754 election that arises before or during the placed-in-
service year of the property. The IRS and Treasury Department decided
not to do so. The rule for a termination of a partnership under section
708(b)(1)(B) was made to be consistent with the special rule allowing
the new partnership, instead of the terminated partnership, to claim
the additional first year depreciation deduction for property placed in
service during the taxable year of termination and contributed by the
terminated partnership to a new partnership. The IRS and Treasury
Department believe that these rules should not be expanded to cover any
other situations.
A commentator also suggested that we clarify the regulation to
provide that any increase in basis due to a section 754 election that
arises before or during the year in which the qualified property, 50-
percent bonus depreciation property, or Liberty Zone property is placed
in service will be taken into account for the additional first year
depreciation deduction. The IRS and Treasury Department did not adopt
this suggestion in the final regulations. The additional first year
depreciation deduction rules provide for the accelerated recovery of a
taxpayer's cost of qualified property, 50-percent bonus depreciation
property, or Liberty Zone property. Many basis increases resulting from
a section 754 election bear no relation whatsoever to the cost of
qualified property, 50-percent bonus depreciation property, or Liberty
Zone property. For example, if a partnership with a section 754
election in effect made a liquidating distribution of high-basis
property to a partner with low basis in his partnership interest, the
basis of the partnership's undistributed property would be increased
under section 734(b) by an amount equal to the decrease in basis to the
distributed property under section 732(b). The amount of the section
734(b) basis increase allocable to qualified property under section 755
would have no correlation to the taxpayer's cost of the property. The
IRS and Treasury Department believe that the rules regarding any basis
increase due to a section 754 election should remain limited to those
provided in the temporary regulations.
Rehabilitation Credit
Several commentators asked whether property that is qualified
property, 50-percent bonus depreciation property, or Liberty Zone
property qualifies for the rehabilitation credit under section 47.
Section 47 allows a rehabilitation credit for qualified rehabilitation
expenditures for certain buildings. Section 47(c)(2) defines the term
qualified rehabilitation expenditure as meaning, in general, any amount
properly chargeable to capital account for property for which
depreciation is allowable under section 168 and that is nonresidential
real property, residential rental property, real property that has a
class life of more than 12.5 years, or an addition or improvement
thereof. However, a qualified rehabilitation expenditure does not
include any expenditure with respect to which the taxpayer does not use
the straight line method over a recovery period determined under
section 168(c) or (g). Because the additional first year depreciation
deduction is not a straight line method, the IRS and Treasury
Department have decided to provide in the final regulations that if
qualified rehabilitation expenditures (as defined in section 47(c)(2)
and Sec. 1.48-12(c)) are qualified property, 50-percent bonus
depreciation property, or Liberty Zone property, the taxpayer may claim
the additional first year depreciation deduction for the unadjusted
depreciable basis of the qualified rehabilitation expenditures and may
claim the rehabilitation credit (provided the requirements of section
47 are met) for the remaining basis of the qualified rehabilitation
expenditures (unadjusted depreciable basis less the additional first
year depreciation deduction allowed or allowable, whichever is greater)
provided the taxpayer depreciates the remaining adjusted depreciable
basis of such expenditures using the straight line method over a
recovery period determined under section 168(c) or (g). The taxpayer
may also claim the rehabilitation credit for the portion of the basis
of the qualified rehabilitated building that is attributable to the
qualified rehabilitation expenditures if the taxpayer elects not to
deduct the additional first year depreciation for the class of property
that includes the qualified rehabilitated expenditures.
Depreciation Under Section 514(a)(3)
Finally, a few commentators questioned whether a tax-exempt partner
in a partnership that has debt-financed property may take advantage of
the additional first year depreciation deduction. In computing under
section 512 the unrelated business taxable income for any taxable year,
section 514 provides the rules for determining the amount of unrelated
business taxable income related to debt-financed property. Under
section 514(a)(3), the deductions allowable with respect to each debt-
financed property is the sum of the deductions under chapter 1 of the
Code that are directly connected with the debt-financed property or the
income therefrom, except that if the debt-financed property is
depreciable property, the allowance must be computed only by use of the
straight-line method. The final regulations provide that the additional
first year depreciation deduction is not allowable for purposes of
section 514(a)(3).
Changes in Method of Accounting
The IRS and Treasury Department intend to issue administrative
guidance providing procedures for automatic consent for taxpayers that
wish to seek a change in method of accounting to comply with these
final regulations.
Effective Date
In general, the final regulations apply to qualified property or
Liberty Zone
[[Page 51737]]
property acquired by a taxpayer after September 10, 2001, and for 50-
percent bonus depreciation property acquired by a taxpayer after May 5,
2003. Modifications to Sec. 1.168(k)-1(b)(3)(iii)(B) and (5)(ii)(B)
relating to syndication and other lease transactions that provide a
special rule for multiple units of property subject to the same lease
apply to property sold after June 4, 2004.
Special Analyses
It has been determined that this Treasury decision is not a
significant regulatory action as defined in Executive Order 12866.
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
these regulations do not impose on small entities a collection of
information requirement, the Regulatory Flexibility Act (5 U.S.C.
chapter 6) does not apply. Therefore, a Regulatory Flexibility Analysis
is not required. Pursuant to section 7805(f) of the Code, the notice of
proposed rulemaking was previously submitted to the Chief Counsel for
Advocacy of the Small Business Administration for comment on its impact
on small business.
Drafting Information
The principal author of these regulations is Douglas H. Kim, Office
of Associate Chief Counsel (Passthroughs and Special Industries).
However, other personnel from the IRS and Treasury Department
participated in their development.
List of Subjects in 26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
Adoption of Amendments to the Regulations
0
Accordingly, 26 CFR part 1 is amended as follows:
PART 1--INCOME TAXES
0
Paragraph 1. The authority for part 1 continues to read, in part, as
follows:
Authority: 26 U.S.C. 7805 * * *
0
Par. 2. Section 1.48-12 is amended by adding a new sentence at the end
of paragraph (a)(2)(i) and adding a new sentence at the end of
paragraph (c)(8)(i) to read as follows:
Sec. 1.48-12 Qualified rehabilitated building; expenditures incurred
after December 31, 1981.
(a) * * *
(2) * * *
(i) * * * The last sentence of paragraph (c)(8)(i) of this section
applies to qualified rehabilitation expenditures that are qualified
property under section 168(k)(2) or qualified New York Liberty Zone
property under section 1400L(b) acquired by a taxpayer after September
10, 2001, and to qualified rehabilitation expenditures that are 50
percent bonus depreciation property under section 168(k)(4) acquired by
a taxpayer after May 5, 2003.
* * * * *
(c) * * *
(8) * * *
(i) * * * However, see Sec. 1.168(k)-1(f)(10) if the qualified
rehabilitation expenditures are qualified property or 50-percent bonus
depreciation property under section 168(k) and see Sec. 1.1400L(b)-
1(f)(9) if the qualified rehabilitation expenditures are qualified New
York Liberty Zone property under section 1400L(b).
* * * * *
0
Par. 3. Section 1.167(a)-14 is amended by revising paragraphs (b)(1),
(e)(2), and (e)(3) to read as follows:
Sec. 1.167(a)-14 Treatment of certain intangible property excluded
from section 197.
* * * * *
(b) * * * (1) In general. The amount of the deduction for computer
software described in section 167(f)(1) and Sec. 1.197-2(c)(4) is
determined by amortizing the cost or other basis of the computer
software using the straight line method described in Sec. 1.167(b)-1
(except that its salvage value is treated as zero) and an amortization
period of 36 months beginning on the first day of the month that the
computer software is placed in service. Before determining the
amortization deduction allowable under this paragraph (b), the cost or
other basis of computer software that is section 179 property, as
defined in section 179(d)(1)(A)(ii), must be reduced for any portion of
the basis the taxpayer properly elects to treat as an expense under
section 179. In addition, the cost or other basis of computer software
that is qualified property under section 168(k)(2) or Sec. 1.168(k)-1,
50-percent bonus depreciation property under section 168(k)(4) or Sec.
1.168(k)-1, or qualified New York Liberty Zone property under section
1400L(b) or Sec. 1.1400L(b)-1, must be reduced by the amount of the
additional first year depreciation deduction allowed or allowable,
whichever is greater, under section 168(k) or section 1400L(b) for the
computer software. If costs for developing computer software that the
taxpayer properly elects to defer under section 174(b) result in the
development of property subject to the allowance for depreciation under
section 167, the rules of this paragraph (b) will apply to the
unrecovered costs. In addition, this paragraph (b) applies to the cost
of separately acquired computer software if the cost to acquire the
software is separately stated and the cost is required to be
capitalized under section 263(a).
* * * * *
(e) * * *
(2) Change in method of accounting. See Sec. 1.197-2(l)(4) for
rules relating to changes in method of accounting for property to which
Sec. 1.167(a)-14 applies. However, see Sec. 1.168(k)-1(g)(4) or
1.1400L(b)-1(g)(4) for rules relating to changes in method of
accounting for computer software to which the third sentence in Sec.
1.167(a)-14(b)(1) applies.
(3) Qualified property, 50-percent bonus depreciation property,
qualified New York Liberty Zone property, or section 179 property. This
section also applies to computer software that is qualified property
under section 168(k)(2) or qualified New York Liberty Zone property
under section 1400L(b) acquired by a taxpayer after September 10, 2001,
and to computer software that is 50-percent bonus depreciation property
under section 168(k)(4) acquired by a taxpayer after May 5, 2003. This
section also applies to computer software that is section 179 property
placed in service by a taxpayer in a taxable year beginning after 2002
and before 2010.
Sec. 1.167(a)-14T [Removed]
0
Par. 4. Section 1.167(a)-14T is removed.
0
Par. 5. Section 1.168(d)-1 is amended by revising paragraph (d)(2) to
read as follows:
Sec. 1.168(d)-1 Applicable conventions--half-year and mid-quarter
convention.
* * * * *
(d) * * *
(2) Qualified property, 50-percent bonus depreciation property, or
qualified New York Liberty Zone property. This section also applies to
qualified property under section 168(k)(2) or qualified New York
Liberty Zone property under section 1400L(b) acquired by a taxpayer
after September 10, 2001, and to 50-percent bonus depreciation property
under section 168(k)(4) acquired by a taxpayer after May 5, 2003.
* * * * *
0
Par. 6. In Sec. 1.168(d)-1T, paragraphs (b)(3)(ii) and (d)(2) are
amended as follows:
[[Page 51738]]
0
1. The last sentence in paragraph (b)(3)(ii) is amended by removing the
language ``Sec. 1.168(k)-1T(f)(1)'' and adding ``Sec. 1.168(k)-
1(f)(1)'' in its place.
0
2. The last sentence in paragraph (b)(3)(ii) is amended by removing the
language ``Sec. 1.1400L(b)-1T(f)(1)'' and adding ``Sec. 1.1400L(b)-
1(f)(1)'' in its place.
0
3. Paragraph (d)(2) is revised.
The revision reads as follows:
Sec. 1.168(d)-1T Applicable conventions--half-year and mid-quarter
conventions (temporary).
* * * * *
(d) * * *
(2) Qualified property, 50-percent bonus depreciation property, or
qualified New York Liberty Zone property. For further guidance, see
Sec. 1.168(d)-1(d)(2).
* * * * *
0
Par. 7. Section 1.168(i)-6T is amended by adding a new sentence at the
end of paragraph (d)(4) to read as follows:
Sec. 1.168(i)-6T Like-kind exchanges and involuntary conversions
(temporary).
* * * * *
(d) * * *
(4) * * * However, see Sec. 1.168(k)-1(f)(5)(v) for replacement
MACRS property that is qualified property or 50-percent bonus
depreciation property and Sec. 1.1400L(b)-1(f)(5) for replacement
MACRS property that is qualified New York Liberty Zone property.
* * * * *
0
Par. 8. Section 1.168(k)-0T is redesignated as Sec. 1.168(k)-0 and
newly designated Sec. 1.168(k)-0 is amended as follows:
0
1. The word ``temporary'' is removed from the section heading.
0
2. The introductory text and the table of contents heading are revised.
0
3. The entries for Sec. 1.168(k)-1(b)(3)(ii)(A) and (B) are added.
0
4. The entries for Sec. 1.168(k)-1(b)(3)(iii), (iii)(B), and (iii)(C)
are revised.
0
5. The entry for Sec. 1.168(k)-1(b)(4)(iii)(B) is revised.
0
6. The entries for Sec. 1.168(k)-1(b)(4)(iii)(B)(1) and (2) are added.
0
7. The entries for Sec. 1.168(k)-1(b)(5)(ii), (ii)(B), and (ii)(C) are
revised.
0
8. The entry for Sec. 1.168(k)-1(b)(5)(v) is added.
0
9. The entries for Sec. 1.168(k)-1(e)(6), (7), (7)(i), and (7)(ii) are
added.
0
10. The entries for Sec. 1.168(k)-1(f)(5)(iii)(C) and (D) are added.
0
11. The entry for Sec. 1.168(k)-1(f)(5)(v) is redesignated as Sec.
1.168(k)-1(f)(5)(vi).
0
12. The entries for Sec. 1.168(k)-1(f)(5)(v), (v)(A), and (v)(B) are
added.
0
13. The entries for Sec. 1.168(k)-1(f)(10) and (11) are added.
0
14. The entries for Sec. 1.168(k)-1(g)(5) and (6) are added.
The additions and revisions read as follows:
Sec. 1.168(k)-0 Table of contents.
This section lists the headings that appear in Sec. 1.168(k)-1.
Sec. 1.168(k)-1 Additional first year depreciation deduction.
* * * * *
(b) * * *
(3) * * *
(ii) * * *
(A) Personal use to business or income-producing use.
(B) Inventory to business or income-producing use.
(iii) Sale-leaseback, syndication, and certain other
transactions.
* * * * *
(B) Syndication transaction and certain other transactions.
(C) Sale-leaseback transaction followed by a syndication
transaction and certain other transactions.
* * * * *
(4) * * *
(iii) * * *
(B) When does manufacture, construction, or production begin.
(1) In general.
(2) Safe harbor.
* * * * *
(5) * * *
(ii) Sale-leaseback, syndication, and certain other
transactions. * * *
(B) Syndication transaction and certain other transactions.
(C) Sale-leaseback transaction followed by a syndication
transaction and certain other transactions.
* * * * *
(v) Example.
* * * * *
(e) * * *
(6) Alternative minimum tax.
(7) Revocation.
(i) In general.
(ii) Automatic 6-month extension.
* * * * *
(f) * * *
(5) * * *
(iii) * * *
(C) Property having a longer production period.
(D) Alternative minimum tax.
* * * * *
(v) Acquired MACRS property or acquired computer software that
is acquired and placed in service before disposition of
involuntarily converted MACRS property or involuntarily converted
computer software.
(A) Time of replacement.
(B) Depreciation of acquired MACRS property or acquired computer
software.
* * * * *
(10) Coordination with section 47.
(11) Coordination with section 514(a)(3).
(g) * * *
(5) Revisions to paragraphs (b)(3)(ii)(B) and (b)(5)(ii)(B).
(6) Rehabilitation credit.
0
Par. 9. Section 1.168(k)-1T is redesignated as Sec. 1.168(k)-1 and
newly designated Sec. 1.168(k)-1 is amended as follows:
0
1. The word ``temporary'' is removed from the section heading.
0
2. Paragraph (a)(2)(iii) is revised.
0
3. Paragraph (a)(2)(iv) is amended by removing the language ``Sec.
1.168(k)-1T(a)(2)(iii)'' and adding ``Sec. 1.168(k)-1(a)(2)(iii)'' in
its place.
0
4. Paragraph (b)(1) is revised.
0
5. Paragraph (b)(2)(i)(A) is amended by removing the language ``Sec.
1.168(k)-1T(a)(2)(ii)'' and adding ``Sec. 1.168(k)-1(a)(2)(ii)'' in
its place.
0
6. Paragraphs (b)(2)(ii)(A)(2), (b)(3)(i), and (b)(3)(ii) are revised.
0
7. The heading of paragraph (b)(3)(iii) is revised.
0
8. Paragraphs (b)(3)(iii)(B) and (C) are revised.
0
9. The first and second sentences of paragraph (b)(3)(iv) are revised.
0
10. Paragraph (b)(3)(v) is amended by revising the fourth sentence in
Example 4 and by adding new Example 5.
0
11. Paragraph (b)(4)(i)(B) is revised.
0
12. The last sentences of paragraphs (b)(4)(ii)(A), (B), and (D) are
revised.
0
13. Paragraph (b)(4)(iii)(A) is amended by adding a new sentence at the
end.
0
14. Paragraphs (b)(4)(iii)(B) and (b)(4)(iv)(A) are revised.
0
15. Paragraph (b)(4)(v) is amended by revising the third sentence in
Example 10, by adding a sentence at the end of Example 11, and by
adding Examples 12, 13, and 14.
0
16. Paragraph (b)(5)(i) is revised.
0
17. The heading of paragraph (b)(5)(ii) is revised.
0
18. Paragraphs (b)(5)(ii)(B) and (C) are revised.
0
19. Paragraph (b)(5)(v) is added.
0
20. Paragraph (d)(1)(i) is revised.
0
21. Paragraph (d)(1)(ii) is amended by removing the language ``Sec.
1.168(k)-1T(a)(2)(iii)'' and adding ``Sec. 1.168(k)-1(a)(2)(iii)'' in
its place.
0
22. Paragraphs (d)(1)(iii) and (e)(1)(ii)(B) are revised.
0
23. Paragraphs (e)(6) and (e)(7) are added.
0
24. Paragraph (f)(1)(i) is amended by adding a new sentence at the end.
0
25. The introductory text of paragraph (f)(2) is revised.
0
26. Paragraph (f)(2)(ii) and the introductory text of paragraph
(f)(2)(iii) are revised.
0
27. Paragraph (f)(2)(iv) is amended by revising Example 2.
0
28. Paragraph (f)(5)(i) is revised.
0
29. Paragraphs (f)(5)(ii)(F) and (f)(5)(ii)(J)(2) are revised.
[[Page 51739]]
0
30. Paragraphs (f)(5)(ii)(K) and (L) are added.
0
31. Paragraph (f)(5)(iii)(A) is revised.
0
32. The last sentence of paragraph (f)(5)(iii)(B) is revised.
0
33. Paragraphs (f)(5)(iii)(C) and (D) are added.
0
34. Paragraph (f)(5)(v) is redesignated as paragraph (f)(5)(vi) and
newly designated paragraph (f)(5)(vi) is amended by revising paragraph
(i) in Examples 1, 3, 4, and 5, and by adding new Example 6.
0
35. New paragraph (f)(5)(v) is added.
0
36. Paragraphs (f)(10) and (11) are added.
0
37. Paragraph (g)(1) is revised.
0
38. The last sentence in paragraph (g)(3)(ii) is removed.
0
39. Paragraphs (g)(5) and (6) are added.
The additions and revisions read as follows:
Sec. 1.168(k)-1 Additional first year depreciation deduction.
(a) * * *
(2) * * *
(iii) Unadjusted depreciable basis is the basis of property for
purposes of section 1011 without regard to any adjustments described in
section 1016(a)(2) and (3). This basis reflects the reduction in basis
for the percentage of the taxpayer's use of property for the taxable
year other than in the taxpayer's trade or business (or for the
production of income), for any portion of the basis the taxpayer
properly elects to treat as an expense under section 179 or section
179C, and for any adjustments to basis provided by other provisions of
the Internal Revenue Code and the regulations thereunder (other than
section 1016(a)(2) and (3)) (for example, a reduction in basis by the
amount of the disabled access credit pursuant to section 44(d)(7)). For
property subject to a lease, see section 167(c)(2).
* * * * *
(b) Qualified property or 50-percent bonus depreciation property--
(1) In general. Qualified property or 50-percent bonus depreciation
property is depreciable property that meets all the following
requirements in the first taxable year in which the property is subject
to depreciation by the taxpayer whether or not depreciation deductions
for the property are allowable:
(i) The requirements in Sec. 1.168(k)-1(b)(2) (description of
property);
(ii) The requirements in Sec. 1.168(k)-1(b)(3) (original use);
(iii) The requirements in Sec. 1.168(k)-1(b)(4) (acquisition of
property); and
(iv) The requirements in Sec. 1.168(k)-1(b)(5) (placed-in-service
date).
(2) * * *
(ii) * * *
(A) * * *
(2) Required to be depreciated under the alternative depreciation
system of section 168(g) pursuant to section 168(g)(1)(A) through (D)
or other provisions of the Internal Revenue Code (for example, property
described in section 263A(e)(2)(A) if the taxpayer (or any related
person as defined in section 263A(e)(2)(B)) has made an election under
section 263A(d)(3), or property described in section 280F(b)(1)).
* * * * *
(3) * * *
(i) In general. For purposes of the 30-percent additional first
year depreciation deduction, depreciable property will meet the
requirements of this paragraph (b)(3) if the original use of the
property commences with the taxpayer after September 10, 2001. For
purposes of the 50-percent additional first year depreciation
deduction, depreciable property will meet the requirements of this
paragraph (b)(3) if the original use of the property commences with the
taxpayer after May 5, 2003. Except as provided in paragraphs
(b)(3)(iii) and (iv) of this section, original use means the first use
to which the property is put, whether or not that use corresponds to
the use of the property by the taxpayer. Thus, additional capital
expenditures incurred by a taxpayer to recondition or rebuild property
acquired or owned by the taxpayer satisfies the original use
requirement. However, the cost of reconditioned or rebuilt property
does not satisfy the original use requirement. The question of whether
property is reconditioned or rebuilt property is a question of fact.
For purposes of this paragraph (b)(3)(i), property that contains used
parts will not be treated as reconditioned or rebuilt if the cost of
the used parts is not more than 20 percent of the total cost of the
property, whether acquired or self-constructed.
(ii) Conversion to business or income-producing use--(A) Personal
use to business or income-producing use. If a taxpayer initially
acquires new property for personal use and subsequently uses the
property in the taxpayer's trade or business or for the taxpayer's
production of income, the taxpayer is considered the original user of
the property. If a person initially acquires new property for personal
use and a taxpayer subsequently acquires the property from the person
for use in the taxpayer's trade or business or for the taxpayer's
production of income, the taxpayer is not considered the original user
of the property.
(B) Inventory to business or income-producing use. If a taxpayer
initially acquires new property and holds the property primarily for
sale to customers in the ordinary course of the taxpayer's business and
subsequently withdraws the property from inventory and uses the
property primarily in the taxpayer's trade or business or primarily for
the taxpayer's production of income, the taxpayer is considered the
original user of the property. If a person initially acquires new
property and holds the property primarily for sale to customers in the
ordinary course of the person's business and a taxpayer subsequently
acquires the property from the person for use primarily in the
taxpayer's trade or business or primarily for the taxpayer's production
of income, the taxpayer is considered the original user of the
property. For purposes of this paragraph (b)(3)(ii)(B), the original
use of the property by the taxpayer commences on the date on which the
taxpayer uses the property primarily in the taxpayer's trade or
business or primarily for the taxpayer's production of income.
(iii) Sale-leaseback, syndication, and certain other transactions.
* * *
(B) Syndication transaction and certain other transactions. If new
property is originally placed in service by a lessor (including by
operation of paragraph (b)(5)(ii)(A) of this section) after September
10, 2001 (for qualified property), or after May 5, 2003 (for 50-percent
bonus depreciation property), and is sold by the lessor or any
subsequent purchaser within three months after the date the property
was originally placed in service by the lessor (or, in the case of
multiple units of property subject to the same lease, within three
months after the date the final unit is placed in service, so long as
the period between the time the first unit is placed in service and the
time the last unit is placed in service does not exceed 12 months), and
the user of the property after the last sale during the three-month
period remains the same as when the property was originally placed in
service by the lessor, the purchaser of the property in the last sale
during the three-month period is considered the original user of the
property.
(C) Sale-leaseback transaction followed by a syndication
transaction and certain other transactions. If a sale-leaseback
transaction that satisfies the requirements in paragraph (b)(3)(iii)(A)
of this section is followed by a transaction that satisfies the
requirements in paragraph (b)(3)(iii)(B) of this section, the original
user of the property is determined in accordance with paragraph
(b)(3)(iii)(B) of this section.
[[Page 51740]]
(iv) Fractional interests in property. If, in the ordinary course
of its business, a taxpayer sells fractional interests in property to
third parties unrelated to the taxpayer, each first fractional owner of
the property is considered as the original user of its proportionate
share of the property. Furthermore, if the taxpayer uses the property
before all of the fractional interests of the property are sold but the
property continues to be held primarily for sale by the taxpayer, the
original use of any fractional interest sold to a third party unrelated
to the taxpayer subsequent to the taxpayer's use of the property begins
with the first purchaser of that fractional interest. * * *
(v) * * *
Example 4. * * * On June 1, 2003, G sells to I, an unrelated
party to G, the remaining unsold \3/8\ fractional interests in the
aircraft. * * *
Example 5. On September 1, 2001, JJ, an equipment dealer, buys
new tractors that are held by JJ primarily for sale to customers in
the ordinary course of its business. On October 15, 2001, JJ
withdraws the tractors from inventory and begins to use the tractors
primarily for producing rental income. The holding of the tractors
by JJ as inventory does not constitute a ``use'' for purposes of the
original use requirement and, therefore, the original use of the
tractors commences with JJ on October 15, 2001, for purposes of
paragraph (b)(3) of this section. However, the tractors are not
eligible for the additional first year depreciation deduction
because JJ acquired the tractors before September 11, 2001.
(4) * * *
(i) * * *
(B) 50-percent bonus depreciation property. For purposes of the 50-
percent additional first year depreciation deduction, depreciable
property will meet the requirements of this paragraph (b)(4) if the
property is--
(1) Acquired by the taxpayer after May 5, 2003, and before January
1, 2005, but only if no written binding contract for the acquisition of
the property was in effect before May 6, 2003; or
(2) Acquired by the taxpayer pursuant to a written binding contract
that was entered into after May 5, 2003, and before January 1, 2005.
(ii) * * *
(A) * * * If the contract provided for a full refund of the
purchase price in lieu of any damages allowable by law in the event of
breach or cancellation, the contract is not considered binding.
(B) * * * A contract that imposes significant obligations on the
taxpayer or a predecessor will be treated as binding notwithstanding
the fact that certain terms remain to be negotiated by the parties to
the contract.
* * * * *
(D) * * * For example, if the provisions of a supply or similar
agreement state the design specifications of the property to be
purchased, a purchase order under the agreement for a specific number
of assets is treated as a binding contract.
* * * * *
(iii) * * *
(A) * * * If a taxpayer enters into a written binding contract (as
defined in paragraph (b)(4)(ii) of this section) after September 10,
2001, and before January 1, 2005, with another person to manufacture,
construct, or produce property described in section 168(k)(2)(B)
(longer production period property) or section 168(k)(2)(C) (certain
aircraft) and the manufacture, construction, or production of this
property begins after December 31, 2004, the acquisition rule in
paragraph (b)(4)(i)(A)(2) or (b)(4)(i)(B)(2) of this section is met.
(B) When does manufacture, construction, or production begin--(1)
In general. For purposes of paragraph (b)(4)(iii) of this section,
manufacture, construction, or production of property begins when
physical work of a significant nature begins. Physical work does not
include preliminary activities such as planning or designing, securing
financing, exploring, or researching. The determination of when
physical work of a significant nature begins depends on the facts and
circumstances. For example, if a retail motor fuels outlet or other
facility is to be constructed on-site, construction begins when
physical work of a significant nature commences at the site; that is,
when work begins on the excavation for footings, pouring the pads for
the outlet, or the driving of foundation pilings into the ground.
Preliminary work, such as clearing a site, test drilling to determine
soil condition, or excavation to change the contour of the land (as
distinguished from excavation for footings) does not constitute the
beginning of construction. However, if a retail motor fuels outlet or
other facility is to be assembled on-site from modular units
manufactured off-site and delivered to the site where the outlet will
be used, manufacturing begins when physical work of a significant
nature commences at the off-site location.
(2) Safe harbor. For purposes of paragraph (b)(4)(iii)(B)(1) of
this section, a taxpayer may choose to determine when physical work of
a significant nature begins in accordance with this paragraph
(b)(4)(iii)(B)(2). Physical work of a significant nature will not be
considered to begin before the taxpayer incurs (in the case of an
accrual basis taxpayer) or pays (in the case of a cash basis taxpayer)
more than 10 percent of the total cost of the property (excluding the
cost of any land and preliminary activities such as planning or
designing, securing financing, exploring, or researching). When
property is manufactured, constructed, or produced for the taxpayer by
another person, this safe harbor test must be satisfied by the
taxpayer. For example, if a retail motor fuels outlet or other facility
is to be constructed for an accrual basis taxpayer by another person
for the total cost of $200,000 (excluding the cost of any land and
preliminary activities such as planning or designing, securing
financing, exploring, or researching), construction is deemed to begin
for purposes of this paragraph (b)(4)(iii)(B)(2) when the taxpayer has
incurred more than 10 percent (more than $20,000) of the total cost of
the property. A taxpayer chooses to apply this paragraph
(b)(4)(iii)(B)(2) by filing an income tax return for the placed-in-
service year of the property that determines when physical work of a
significant nature begins consistent with this paragraph
(b)(4)(iii)(B)(2).
* * * * *
(iv) Disqualified transactions--(A) In general. Property does not
satisfy the requirements of this paragraph (b)(4) if the user of the
property as of the date on which the property was originally placed in
service (including by operation of paragraphs (b)(5)(ii), (iii), and
(iv) of this section), or a related party to the user or to the
taxpayer, acquired, or had a written binding contract (as defined in
paragraph (b)(4)(ii) of this section) in effect for the acquisition of
the property at any time before September 11, 2001 (for qualified
property), or before May 6, 2003 (for 50-percent bonus depreciation
property). In addition, property manufactured, constructed, or produced
for the use by the user of the property or by a related party to the
user or to the taxpayer does not satisfy the requirements of this
paragraph (b)(4) if the manufacture, construction, or production of the
property for the user or the related party began at any time before
September 11, 2001 (for qualified property), or before May 6, 2003 (for
50-percent bonus depreciation property).
* * * * *
(v) * * *
Example 10. * * * Between May 6, 2003, and June 30, 2003, S, a
calendar-year taxpayer, began construction, and incurred another
$1,200,000 to complete the construction, of the power plant and, on
August 1, 2003, S placed the power plant in service. * * *
[[Page 51741]]
Example 11. * * * In addition, the sale-leaseback rules in
paragraphs (b)(3)(iii)(A) and (b)(5)(ii)(A) of this section do not
apply because the equipment was originally placed in service by T
before September 11, 2001.
Example 12. On July 1, 2001, KK began constructing property for
its own use. KK placed this property in service on September 15,
2001. On October 15, 2001, KK sells the property to LL, an unrelated
party, and leases the property back from LL in a sale-leaseback
transaction. Pursuant to paragraph (b)(4)(iv) of this section, the
property does not qualify for the additional first year depreciation
deduction because the property was constructed for KK, the user of
the property, and that construction began prior to September 11,
2001.
Example 13. On June 1, 2004, MM decided to construct property
described in section 168(k)(2)(B) for its own use. However, one of
the component parts of the property had to be manufactured by
another person for MM. On August 15, 2004, MM entered into a written
binding contract with NN to acquire this component part of the
property for $100,000. The manufacture of the component part
commenced on September 1, 2004, and MM received the completed
component part on February 1, 2005. The cost of this component part
is 9 percent of the total cost of the property to be constructed by
MM. MM began constructing the property described in section
168(k)(2)(B) on January 15, 2005, and placed this property
(including all component parts) in service on November 1, 2005.
Pursuant to paragraph (b)(4)(iii)(C)(2) of this section, the self-
constructed component part of $100,000 manufactured by NN for MM is
eligible for the additional first year depreciation deduction
(assuming all other requirements are met) because the manufacturing
of the component part began after September 10, 2001, and before
January 1, 2005, and the property described in section 168(k)(2)(B),
the larger self-constructed property, was placed in service by MM
before January 1, 2006. However, pursuant to paragraph
(b)(4)(iii)(A) of this section, the cost of the property described
in section 168(k)(2)(B) (excluding the cost of the self-constructed
component part of $100,000 manufactured by NN for MM) is not
eligible for the additional first year depreciation deduction
because construction of the property began after December 31, 2004.
Example 14. On December 1, 2004, OO entered into a written
binding contract (as defined in paragraph (b)(4)(ii) of this
section) with PP to manufacture an aircraft described in section
168(k)(2)(C) for use in OO's trade or business. PP begins to
manufacture the aircraft on February 1, 2005. OO places the aircraft
in service on August 1, 2005. Pursuant to paragraph (b)(4)(iii)(A)
of this section, the aircraft meets the requirements of paragraph
(b)(4)(i)(B)(2) of this section because the aircraft was acquired by
OO pursuant to a written binding contract entered into after May 5,
2003, and before January 1, 2005.
(5) Placed-in-service date--(i) In general. Depreciable property
will meet the requirements of this paragraph (b)(5) if the property is
placed in service by the taxpayer for use in its trade or business or
for production of income before January 1, 2005, or, in the case of
property described in section 168(k)(2)(B) or (C), is placed in service
by the taxpayer for use in its trade or business or for production of
income before January 1, 2006 (or placed in service by the taxpayer for
use in its trade or business or for production of income before January
1, 2007, in the case of property described in section 168(k)(2)(B) or
(C) to which section 105 of the Gulf Opportunity Zone Act of 2005 (Pub.
L. 109-135, 119 Stat. 2577) applies (for further guidance, see
Announcement 2006-29 (2006-19 I.R.B. 879) and Sec.
601.601(d)(2)(ii)(b) of this chapter)).
(ii) Sale-leaseback, syndication, and certain other transactions. *
* *
(B) Syndication transaction and certain other transactions. If
qualified property is originally placed in service after September 10,
2001, or 50-percent bonus depreciation property is originally placed in
service after May 5, 2003, by a lessor (including by operation of
paragraph (b)(5)(ii)(A) of this section) and is sold by the lessor or
any subsequent purchaser within three months after the date the
property was originally placed in service by the lessor (or, in the
case of multiple units of property subject to the same lease, within
three months after the date the final unit is placed in service, so
long as the period between the time the first unit is placed in service
and the time the last unit is placed in service does not exceed 12
months), and the user of the property after the last sale during this
three-month period remains the same as when the property was originally
placed in service by the lessor, the property is treated as originally
placed in service by the purchaser of the property in the last sale
during the three-month period but not earlier than the date of the last
sale.
(C) Sale-leaseback transaction followed by a syndication
transaction and certain other transactions. If a sale-leaseback
transaction that satisfies the requirements in paragraph (b)(5)(ii)(A)
of this section is followed by a transaction that satisfies the
requirements in paragraph (b)(5)(ii)(B) of this section, the placed-in-
service date of the property is determined in accordance with paragraph
(b)(5)(ii)(B) of this section.
* * * * *
(v) Example. The application of this paragraph (b)(5) is
illustrated by the following example:
Example. On September 15, 2004, QQ acquired and placed in
service new equipment. This equipment is not described in section
168(k)(2)(B) or (C). On December 1, 2004, QQ sells the equipment to
RR and leases the equipment back from RR in a sale-leaseback
transaction. On February 15, 2005, RR sells the equipment to TT
subject to the lease with QQ. As of February 15, 2005, QQ is still
the user of the equipment. The sale-leaseback transaction of
December 1, 2004, between QQ and RR satisfies the requirements of
paragraph (b)(5)(ii)(A) of this section. The sale transaction of
February 15, 2005, between RR and TT satisfies the requirements of
paragraph (b)(5)(ii)(B) of this section. Consequently, pursuant to
paragraph (b)(5)(ii)(C) of this section, the equipment is treated as
originally placed in service by TT on February 15, 2005. Further,
pursuant to paragraph (b)(3)(iii)(C) of this section, TT is
considered the original user of the equipment. Accordingly, the
equipment is not eligible for the additional first year depreciation
deduction.
* * * * *
(d) * * *
(1) * * * (i) In general. Except as provided in paragraph (f) of
this section, the additional first year depreciation deduction is
allowable in the first taxable year in which the qualified property or
50-percent bonus depreciation property is placed in service by the
taxpayer for use in its trade or business or for the production of
income. Except as provided in paragraph (f)(5) of this section, the
allowable additional first year depreciation deduction for qualified
property is determined by multiplying the unadjusted depreciable basis
(as defined in Sec. 1.168(k)-1(a)(2)(iii)) of the qualified property
by 30 percent. Except as provided in paragraph (f)(5) of this section,
the allowable additional first year depreciation deduction for 50-
percent bonus depreciation property is determined by multiplying the
unadjusted depreciable basis (as defined in Sec. 1.168(k)-
1(a)(2)(iii)) of the 50-percent bonus depreciation property by 50
percent. Except as provided in paragraph (f)(1) of this section, the
30-percent or 50-percent additional first year depreciation deduction
is not affected by a taxable year of less than 12 months. See paragraph
(f)(1) of this section for qualified property or 50-percent bonus
depreciation property placed in service and disposed of in the same
taxable year. See paragraph (f)(5) of this section for qualified
property or 50-percent bonus depreciation property acquired in a like-
kind exchange or as a result of an involuntary conversion.
* * * * *
(iii) Alternative minimum tax. The 30-percent or 50-percent
additional first year depreciation deduction is allowed for alternative
minimum tax purposes for the taxable year in which the qualified
property or the 50-percent
[[Page 51742]]
bonus depreciation property is placed in service by the taxpayer. In
general, the 30-percent or 50-percent additional first year
depreciation deduction for alternative minimum tax purposes is based on
the unadjusted depreciable basis of the property for alternative
minimum tax purposes. However, see paragraph (f)(5)(iii)(D) of this
section for qualified property or 50-percent bonus depreciation
property acquired in a like-kind exchange or as a result of an
involuntary conversion.
* * * * *
(e) * * *
(1) * * *
(ii) * * *
(B) Not to deduct both the 30-percent and the 50-percent additional
first year depreciation. If this election is made, no additional first
year depreciation deduction is allowable for the class of property.
* * * * *
(6) Alternative minimum tax. If a taxpayer makes an election
specified in paragraph (e)(1) of this section for a class of property,
the depreciation adjustments under section 56 and the regulations under
section 56 apply to the property to which that election applies for
purposes of computing the taxpayer's alternative minimum taxable
income.
(7) Revocation of election--(i) In general. Except as provided in
paragraph (e)(7)(ii) of this section, an election specified in
paragraph (e)(1) of this section, 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.
(ii) Automatic 6-month extension. If a taxpayer made an election
specified in paragraph (e)(1) of this section for a class of property,
an automatic extension of 6 months from the due date of the taxpayer's
Federal tax return (excluding extensions) for the placed-in-service
year of the class of property is granted to revoke that election,
provided the taxpayer timely filed the taxpayer's Federal tax return
for the placed-in-service year of the class of property and, within
this 6-month extension period, the taxpayer (and all taxpayers whose
tax liability would be affected by the election) files an amended
Federal tax return for the placed-in-service year of the class of
property in a manner that is consistent with the revocation of the
election.
(f) * * *
(1) * * *
(i) * * * Also if qualified property or 50-percent bonus
depreciation property is placed in service and disposed of during the
same taxable year and then reacquired and again placed in service in a
subsequent taxable year, the additional first year depreciation
deduction is not allowable for the property in the subsequent taxable
year.
* * * * *
(2) Redetermination of basis. If the unadjusted depreciable basis
(as defined in Sec. 1.168(k)-1(a)(2)(iii)) of qualified property or
50-percent bonus depreciation property is redetermined (for example,
due to contingent purchase price or discharge of indebtedness) before
January 1, 2005, or, in the case of property described in section
168(k)(2)(B) or (C), is redetermined before January 1, 2006 (or
redetermined before January 1, 2007, in the case of property described
in section 168(k)(2)(B) or (C) to which section 105 of the Gulf
Opportunity Zone Act of 2005 (Pub. L, 109-135, 119 Stat. 2577) applies
(for further guidance, see Announcement 2006-29 (2006-19 I.R.B. 879)
and Sec. 601.601(d)(2)(ii)(b) of this chapter)), the additional first
year depreciation deduction allowable for the qualified property or the
50-percent bonus depreciation property is redetermined as follows:
* * * * *
(ii) Decrease in basis. For the taxable year in which a decrease in
basis of qualified property or 50-percent bonus depreciation property
occurs, the taxpayer shall reduce the total amount otherwise allowable
as a depreciation deduction for all of the taxpayer's depreciable
property by the excess additional first year depreciation deduction
previously claimed for the qualified property or the 50-percent bonus
depreciation property. If, for such taxable year, the excess additional
first year depreciation deduction exceeds the total amount otherwise
allowable as a depreciation deduction for all of the taxpayer's
depreciable property, the taxpayer shall take into account a negative
depreciation deduction in computing taxable income. The excess
additional first year depreciation deduction for qualified property is
determined by multiplying the amount of the decrease in basis for this
property by 30 percent. The excess additional first year depreciation
deduction for 50-percent bonus depreciation property is determined by
multiplying the amount of the decrease in basis for this property by 50
percent. For purposes of this paragraph (f)(2)(ii), the 30-percent
additional first year depreciation deduction applies to the decrease in
basis if the underlying property is qualified property and the 50-
percent additional first year depreciation deduction applies to the
decrease in basis if the underlying property is 50-percent bonus
depreciation property. Also, if the taxpayer establishes by adequate
records or other sufficient evidence that the taxpayer claimed less
than the additional first year depreciation deduction allowable for the
qualified property or the 50-percent bonus depreciation property before
the decrease in basis or if the taxpayer claimed more than the
additional first year depreciation deduction allowable for the
qualified property or the 50-percent bonus depreciation property before
the decrease in basis, the excess additional first year depreciation
deduction is determined by multiplying the amount of the decrease in
basis by the additional first year depreciation deduction percentage
actually claimed by the taxpayer for the qualified property or the 50-
percent bonus depreciation property, as applicable, before the decrease
in basis. To determine the amount to reduce the total amount otherwise
allowable as a depreciation deduction for all of the taxpayer's
depreciable property for the excess depreciation previously claimed
(other than the additional first year depreciation deduction) resulting
from the decrease in basis of the qualified property or the 50-percent
bonus depreciation property, the amount of the decrease in basis of the
qualified property or the 50-percent bonus depreciation property must
be adjusted by the excess additional first year depreciation deduction
that reduced the total amount otherwise allowable as a depreciation
deduction (as determined under this paragraph) and the remaining
decrease in basis of--
(A) Qualified property or 50-percent bonus depreciation property
(except for computer software described in paragraph (b)(2)(i)(B) of
this section) reduces the amount otherwise allowable as a depreciation
deduction over the recovery period of the qualified property or the 50-
percent bonus depreciation property, as applicable, remaining as of the
beginning of the taxable year in which the decrease in basis occurs,
and using the same depreciation method and convention of the qualified
property or 50-percent bonus depreciation property, as applicable, that
applies in the taxable year in which the decrease in basis occurs. If,
for any taxable year, the reduction to the amount otherwise allowable
as a depreciation deduction (as determined under this paragraph
(f)(2)(ii)(A)) exceeds the total amount otherwise allowable as a
depreciation
[[Page 51743]]
deduction for all of the taxpayer's depreciable property, the taxpayer
shall take into account a negative depreciation deduction in computing
taxable income; and
(B) Computer software (as defined in paragraph (b)(2)(i)(B) of this
section) that is qualified property or 50-percent bonus depreciation
property reduces the amount otherwise allowable as a depreciation
deduction over the remainder of the 36-month period (the useful life
under section 167(f)(1)) as of the beginning of the first day of the
month in which the decrease in basis occurs. If, for any taxable year,
the reduction to the amount otherwise allowable as a depreciation
deduction (as determined under this paragraph (f)(2)(ii)(B)) exceeds
the total amount otherwise allowable as a depreciation deduction for
all of the taxpayer's depreciable property, the taxpayer shall take
into account a negative depreciation deduction in computing taxable
income.
(iii) Definition. Except as otherwise expressly provided by the
Internal Revenue Code (for example, section 1017(a)), the regulations
under the Internal Revenue Code, or other guidance published in the
Internal Revenue Bulletin (see Sec. 601.601(d)(2)(ii)(b) of this
chapter), for purposes of this paragraph (f)(2):
* * * * *
(iv) * * *
Example 2. (i) On May 15, 2002, DD, a calendar-year taxpayer,
purchased and placed in service qualified property that is 5-year
property at a cost of $400,000. To purchase the property, DD
borrowed $250,000 from Bank2. On May 15, 2003, Bank2 forgives
$50,000 of the indebtedness. DD makes the election provided in
section 108(b)(5) to apply any portion of the reduction under
section 1017 to the basis of the depreciable property of the
taxpayer. DD depreciates the 5-year property placed in service in
2002 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.
(ii) For 2002, DD is allowed a 30-percent additional first year
depreciation deduction of $120,000 (the unadjusted depreciable basis
of $400,000 multiplied by .30). In addition, DD's depreciation
deduction allowable for 2002 for the remaining adjusted depreciable
basis of $280,000 (the unadjusted depreciable basis of $400,000
reduced by the additional first year depreciation deduction of
$120,000) is $56,000 (the remaining adjusted depreciable basis of
$280,000 multiplied by the annual depreciation rate of .20 for
recovery year 1).
(iii) For 2003, DD's deduction for the remaining adjusted
depreciable basis of $280,000 is $89,600 (the remaining adjusted
depreciable basis of $280,000 multiplied by the annual depreciation
rate .32 for recovery year 2). Although Bank2 forgave the
indebtedness in 2003, the basis of the property is reduced on
January 1, 2004, pursuant to sections 108(b)(5) and 1017(a) under
which basis is reduced at the beginning of the taxable year
following the taxable year in which the discharge of indebtedness
occurs.
(iv) For 2004, DD's deduction for the remaining adjusted
depreciable basis of $280,000 is $53,760 (the remaining adjusted
depreciable basis of $280,000 multiplied by the annual depreciation
rate .192 for recovery year 3). However, pursuant to paragraph
(f)(2)(ii) of this section, DD must reduce the amount otherwise
allowable as a depreciation deduction for 2004 by the excess
depreciation previously claimed for the $50,000 decrease in basis of
the qualified property. Consequently, DD must reduce the amount of
depreciation otherwise allowable for 2004 by the excess additional
first year depreciation of $15,000 (the decrease in basis of $50,000
multiplied by .30). Also, DD must reduce the amount of depreciation
otherwise allowable for 2004 by the excess depreciation attributable
to the remaining decrease in basis of $35,000 (the decrease in basis
of $50,000 reduced by the excess additional first year depreciation
of $15,000). The reduction in the amount of depreciation otherwise
allowable for 2004 for the remaining decrease in basis of $35,000 is
$19,999 (the remaining decrease in basis of $35,000 multiplied by
.5714, which is equal to 1/remaining recovery period of 3.5 years at
January 1, 2004, multiplied by 2). Accordingly, assuming the
qualified property is the only depreciable property owned by DD, for
2004, DD's total depreciation deduction allowable for the qualified
property is $18,761 ($53,760 minus $15,000 minus $19,999).
* * * * *
(5) * * * (i) Scope. The rules of this paragraph (f)(5) apply to
acquired MACRS property or acquired computer software that is qualified
property or 50-percent bonus depreciation property at the time of
replacement provided the time of replacement is after September 10,
2001, and before January 1, 2005, or, in the case of acquired MACRS
property or acquired computer software that is qualified property, or
50-percent bonus depreciation property, described in section
168(k)(2)(B) or (C), the time of replacement is after September 10,
2001, and before January 1, 2006 (or the time of replacement is after
September 10, 2001, and before January 1, 2007, in the case of property
described in section 168(k)(2)(B) or (C) to which section 105 of the
Gulf Opportunity Zone Act of 2005 (Pub. L. 109-135, 119 Stat. 2577)
applies (for further guidance, see Announcement 2006-29 (2006-19 I.R.B.
879) and Sec. 601.601(d)(2)(ii)(b) of this chapter)).
(ii) * * *
(F) Except as provided in paragraph (f)(5)(v) of this section, the
time of replacement is the later of--
(1) When the acquired MACRS property or acquired computer software
is placed in service; or
(2) The time of disposition of the exchanged or involuntarily
converted property.
* * * * *
(J) * * *
(2) Any portion of the basis the taxpayer properly elects to treat
as an expense under section 179 or section 179C;
* * * * *
(K) Year of disposition is the taxable year that includes the time
of disposition.
(L) Year of replacement is the taxable year that includes the time
of replacement.
(iii) * * * (A) In general. Assuming all other requirements of
section 168(k) and this section are met, the remaining carryover basis
for the year of replacement and the remaining excess basis, if any, for
the year of replacement for the acquired MACRS property or the acquired
computer software, as applicable, are eligible for the additional first
year depreciation deduction. The 30-percent additional first year
depreciation deduction applies to the remaining carryover basis and the
remaining excess basis, if any, of the acquired MACRS property or the
acquired computer software if the time of replacement is after
September 10, 2001, and before May 6, 2003, or if the taxpayer made the
election provided in paragraph (e)(1)(ii)(A) of this section. The 50-
percent additional first year depreciation deduction applies to the
remaining carryover basis and the remaining excess basis, if any, of
the acquired MACRS property or the acquired computer software if the
time of replacement is after May 5, 2003, and before January 1, 2005,
or, in the case of acquired MACRS property or acquired computer
software that is 50-percent bonus depreciation property described in
section 168(k)(2)(B) or (C), the time of replacement is after May 5,
2003, and before January 1, 2006 (or the time of replacement is after
May 5, 2003, and before January 1, 2007, in the case of 50-percent
bonus depreciation property described in section 168(k)(2)(B) or (C) to
which section 105 of the Gulf Opportunity Zone Act of 2005 (Pub. L.
109-135, 119 Stat. 2577) applies (for further guidance, see
Announcement 2006-29 (2006-19 I.R.B. 879) and Sec.
601.601(d)(2)(ii)(b) of this chapter)). The additional first year
depreciation deduction is computed
[[Page 51744]]
separately for the remaining carryover basis and the remaining excess
basis.
(B) * * * However, the additional first year depreciation deduction
is not allowable for the exchanged or involuntarily converted MACRS
property or the exchanged or involuntarily converted computer software
if the exchanged or involuntarily converted MACRS property or the
exchanged or involuntarily converted computer software, as applicable,
is placed in service and disposed of in an exchange or involuntary
conversion in the same taxable year.
(C) Property having a longer production period. For purposes of
paragraph (f)(5)(iii)(A) of this section, the total of the remaining
carryover basis and the remaining excess basis, if any, of the acquired
MACRS property that is qualified property or 50-percent bonus
depreciation property described in section 168(k)(2)(B) is limited to
the total of the property's remaining carryover basis and remaining
excess basis, if any, attributable to the property's manufacture,
construction, or production after September 10, 2001 (for qualified
property), or May 5, 2003 (for 50-percent bonus depreciation property),
and before January 1, 2005.
(D) Alternative minimum tax. The 30-percent or 50-percent
additional first year depreciation deduction is allowed for alternative
minimum tax purposes for the year of replacement of acquired MACRS
property or acquired computer software that is qualified property or
50-percent bonus depreciation property. The 30-percent or 50-percent
additional first year depreciation deduction for alternative minimum
tax purposes is based on the remaining carryover basis and the
remaining excess basis, if any, of the acquired MACRS property or the
acquired computer software for alternative minimum tax purposes.
* * * * *
(v) Acquired MACRS property or acquired computer software that is
acquired and placed in service before disposition of involuntarily
converted MACRS property or involuntarily converted computer software.
If, in an involuntary conversion, a taxpayer acquires and places in
service the acquired MACRS property or the acquired computer software
before the time of disposition of the involuntarily converted MACRS
property or the involuntarily converted computer software and the time
of disposition of the involuntarily converted MACRS property or the
involuntarily converted computer software is after December 31, 2004,
or, in the case of property described in section 168(k)(2)(B) or (C),
after December 31, 2005 (or after December 31, 2006, in the case of
property described in section 168(k)(2)(B) or (C) to which section 105
of the Gulf Opportunity Zone Act of 2005 (Pub. L. 109-135, 119 Stat.
2577) applies (for further guidance, see Announcement 2006-29 (2006-19
I.R.B. 879) and Sec. 601.601(d)(2)(ii)(b) of this chapter)), then--
(A) Time of replacement. The time of replacement for purposes of
this paragraph (f)(5) is when the acquired MACRS property or acquired
computer software is placed in service by the taxpayer, provided the
threat or imminence of requisition or condemnation of the involuntarily
converted MACRS property or involuntarily converted computer software
existed before January 1, 2005, or, in the case of property described
in section 168(k)(2)(B) or (C), existed before January 1, 2006 (or
existed before January 1, 2007, in the case of property described in
section 168(k)(2)(B) or (C) to which section 105 of the Gulf
Opportunity Zone Act of 2005 (Pub. L. 109-135, 119 Stat. 2577) applies
(for further guidance, see Announcement 2006-29 (2006-19 I.R.B. 879)
and Sec. 601.601(d)(2)(ii)(b) of this chapter)); and
(B) Depreciation of acquired MACRS property or acquired computer
software. The taxpayer depreciates the acquired MACRS property or
acquired computer software in accordance with paragraph (d) of this
section. However, at the time of disposition of the involuntarily
converted MACRS property, the taxpayer determines the exchanged basis
(as defined in Sec. 1.168(i)-6T(b)(7)) and the excess basis (as
defined in Sec. 1.168(i)-6T(b)(8)) of the acquired MACRS property and
begins to depreciate the depreciable exchanged basis (as defined in
Sec. 1.168(i)-6T(b)(9)) of the acquired MACRS property in accordance
with Sec. 1.168(i)-6T(c). The depreciable excess basis (as defined in
Sec. 1.168(i)-6T(b)(10)) of the acquired MACRS property continues to
be depreciated by the taxpayer in accordance with the first sentence of
this paragraph. Further, in the year of disposition of the
involuntarily converted MACRS property, the taxpayer must include in
taxable income the excess of the depreciation deductions allowable,
including the additional first year depreciation deduction allowable,
on the unadjusted depreciable basis of the acquired MACRS property over
the additional first year depreciation deduction that would have been
allowable to the taxpayer on the remaining carryover basis of the
acquired MACRS property at the time of replacement (as defined in
paragraph (f)(5)(v)(A) of this section) plus the depreciation
deductions that would have been allowable, including the additional
first year depreciation deductio