A provision of the Coronavirus Aid, Relief and Economic Security (CARES) Act has provided a much-anticipated technical amendment regarding “qualified improvement property” (QIP). This provision corrected a flaw in the Tax Cuts and Jobs Act (TCJA) of 2017, and has made QIP eligible for bonus depreciation of 100%, applied retroactively to tax years beginning after December 31, 2017.
Before the passage of the TCJA in 2017, there were several categories of nonresidential real property improvements which were depreciated over a 15-year life, instead of the usual 39-year life for nonresidential real property including qualified leasehold improvements, qualified retail improvement property, and qualified restaurant property. In 2015, Congress added QIP as an additional asset class. At that time, QIP was not given a 15-year depreciable life; instead, it allowed a taxpayer to claim bonus depreciation of 50% in the first year it was placed into service.
QIP is any improvement made to an interior portion of nonresidential real property (residential rental property is specifically excluded), made after the building is first placed in service. Examples of such qualifying improvements include installation or replacement of drywall, ceilings, interior doors, fire protection, mechanical, electrical, and plumbing. Excluded from the definition are improvements attributable to internal structural framework, enlargements to the building, and elevators or escalators.
The intent of the TCJA in 2017 was to eliminate all other categories of 15-year depreciated improvement property, and to insert QIP as the only 15-year improvement property. Additionally, Section 168(k) would be amended to allow 100% bonus depreciation (i.e., fully deductible the year the property is placed into service) for any property with a depreciable life of 20 years or less. Although that was the plan, QIP was not included in the definition of 15-year property in Section 168(e)(3)(E) as the result of an apparent drafting error. As a result, QIP was not “qualified property” entitled to 100% bonus depreciation in Section 168(k)(2)(A). When the drafting error became apparent shortly after the TCJA was adopted, IRS concluded that it did not have authority to correct the inadvertent omission. As a result, QIP continued to be treated as 39-year property and ineligible for bonus depreciation.
The technical amendment included in the CARES Act corrects this error by changing the depreciable life of QIP from 39 years to 15 years, which renders QIP eligible for 100% bonus deprecation under IRC 168(k). QIP is therefore 100% deductible in the year the QIP is placed in service.
This CARES Act fix applies retroactively to January 1, 2018, with the following ramifications:
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