Know the Difference For Your Income Taxes
Repair or Capital Improvement?
When is a “repair” a repair and when is it a capital improvement for federal and state income tax purposes? This is a question that every small property owner contends with at tax time.
A Big Tax Advantage
The obvious advantage of classifying an expense as a repair is that 100% of its cost goes to reduce your taxable income in that calendar year. In the case of a roof, it is to the owner’s benefit to expense the entire roof cost as a repair, rather than to depreciate it. With roofs and other depreciated business assets, there’s the 15-year depreciation bonus: you can depreciate half the cost of the new roof the first year and the balance over the following 15 years.
Repair vs. Improvement is Not Always Clear Cut
The IRS website, www.irs.gov, provides some basic guidelines on the issue of repair vs. improvement. Improvement means an addition to or partial replacement of property that is a betterment to the property, restores the property, or adapts it to a new or different use.
- Although the high cost of the work performed may also be considered in determining whether an expenditure is capital in nature, cost alone is not the key factor.
An example, cited by the IRS, illustrates the difficulty in determining how to classify some expenses: “You repair a small section of the roof of a rental house. You deduct the cost of the repair as a rental expense. However, if you remove the old roof and replace it with a new one, the expense is an improvement because it restores the property. You must depreciate the cost of the new roof.”
Clearly, sometimes making a determination is a matter of interpretation… Remember to contact your CPA.