United States: Placed In Service: When Tax Breaks May Apply To Retail Properties

Last Updated: August 1 2016
Article by Justin L. Sylvan

The date that property is "placed in service" comes into play in several potentially beneficial federal income tax provisions, including those related to certain deductions and types of depreciation. In one Louisiana case, a taxpayer believed that a building could be "placed in service" before it actually opened its doors for business. The IRS disagreed, but the federal district court sided with the taxpayer.

GO Zone Deduction

The taxpayer in the case, Stine LLC v. U.S., was a retailer that owned two buildings inside the Gulf Opportunity Zone (GO Zone). Certain GO Zone property were eligible for a 50% additional first-year depreciation deduction in the taxable year that the property was placed in service. The deduction was available only if the taxpayer's original use of the property began on or after August 28, 2005, and the property was placed in service on or before December 31, 2008. Although the retail stores were not yet open to the public on December 31, 2008, they had been issued certificates of occupancy. The certificates allowed personnel to install and stock equipment, shelving, racks and merchandise.

In its 2008 tax returns, the taxpayer claimed a GO Zone depreciation deduction. The depreciation created a loss for the year, so the taxpayer carried back the losses to the 2003–2005 tax years. The taxpayer received a refund from the IRS for those years. The IRS subsequently disallowed the GO Zone deduction and assessed the taxpayer taxes owed for 2003–2005 and 2008. The taxpayer paid those amounts under protest and sued for a refund of $2.1 million.

State of Readiness

The IRS argued that the buildings were not placed in service by December 31, 2008, because they were not open for business. The taxpayer countered that the buildings were substantially complete and, therefore, ready and available for their intended use of storing and housing equipment, racks, shelving and merchandise.

Federal tax regulations state that property is placed in service when it is "first placed in a condition or state of readiness and availability for a specifically assigned function." The regulations specifically address the case of a building intended to house machinery and equipment and constructed, reconstructed or erected by or for the taxpayer and the taxpayer's use. In such a situation, the building is placed in service on the date the construction, reconstruction or erection is substantially complete and the building is in a condition or state of readiness and availability.

Available for Use

In addition, proposed Treasury Regulation Section 1.168-2(e)(3) provides that a building will be considered placed in service "only when a significant portion is made available for use in a finished condition (that is, when a certificate of occupancy is issued with respect to such portion)." And, the IRS Audit Technique Guide for Rehabilitation Tax Credits states that a certificate of occupancy is one means of verifying the placed-in-service date for the entire building or part thereof.

The federal district court (whose ruling does not set precedent for other district courts) found that the IRS failed to cite any controlling legal authority to show that "placed in service" equates to "open for business." The taxpayer, on the other hand, provided undisputed evidence of the buildings' state of readiness. According to the court, the buildings "had been issued certificates of occupancy" and were ready "to receive shelving, racks, and merchandise." Thus, the court concluded, the buildings met the definition of "placed in service" and that a refund, therefore, was in order.

The Bottom Line

With placed-in-service requirements affecting the applicability of a number of tax-reducing provisions, this ruling could bode well for the bottom lines of taxpayers who operate in the real estate arena. Your tax advisor can help you determine whether your properties may qualify for various credits and deductions.

Sidebar: IRS Extends Construction Deadline on Credits

In response to enactment of the Tax Increase Prevention Act of 2014 (TIPA), the IRS has updated its guidance on the "continuous construction" requirement for the renewable electricity production tax credit (PTC) and the energy investment tax credit (ITC). TIPA extended the date by which construction of a qualified facility must begin to be eligible for the PTC or ITC to January 1, 2015.

Previous guidance provided that a taxpayer may establish the beginning of construction by either starting significant physical work or paying or incurring 5% or more of the facility's total cost. Both methods require continuous progress toward completion once construction has begun. Under the earlier guidance, this requirement is satisfied if a facility is placed in service before January 1, 2016. The new guidance extends the placed-in-service date to January 1, 2017. If a taxpayer began construction before January 1, 2015, and places the facility in service before January 1, 2017, the continuous construction requirement is satisfied.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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Justin L. Sylvan
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