Are you considering updating part of your restaurant or retail space and not sure of the tax implications? Well, there is a new tax election out there, however, its requirements can be rather daunting.

The IRS developed a new Safe Harbor election for a select few restaurateurs and retailers. This accounting method allows for these restaurateurs and retailers to deduct 75% of the expenses incurred while only capitalizing and depreciating the remaining 25%.

First, a little background: Depending on the depreciation rules in effect at the time, a capital improvement to a restaurant or retail space would be depreciated over 15 or 39 years. Equipment, on the other hand, can qualify for immediate expensing or is depreciated over five years. The depreciation rules can cause a mismatch in the timing of when cash is spent on an improvement versus when you receive the tax deduction.

Although this new method may allow for some accelerated tax benefits, there are a number of requirements that need to be met and a laundry list of exclusions.

Safe Harbor Requirements

• Must have Applicable Financial Statements (i.e., audited statements, statements filed with the SEC or statements filed with another state or federal entity);
• Must file Form 3115 to elect the Safe Harbor method;
• Capitalized costs (25%) need to be tracked in a new General Asset Account; and
• If partial disposition losses were taken in prior years, those returns must be amended.

Exclusions from Safe Harbor

• Costs incurred related to the initial acquisition of a new property;
• Initial build-out for a newly leased property;
• Material additions to a qualified building, including HVAC systems, plumbing systems, electrical systems, escalators, elevators, fire-protection and alarm systems, security systems, gas distribution systems and other structural components;
• Adapting more than 20% of the total square footage to a new or different use; and
• Any remodel-refresh that will shut down operations for more than 21 consecutive days.

While there are potential benefits to be had, the qualifications are quite stringent and limit the number of businesses that can take advantage of this new Safe Harbor election.

If you have any questions, please contact Tom Pierce at [email protected], or call him at 312.670.7444. Visit ORBA.com to learn more about our Restaurant Group.