Tax News

CCH (cch.taxgroup.com) reports:

  Certain leasehold improvements made by a partnership to a hotel property owned by a city were substitutes for rent and were deductible under Code Sec. 162. The express language of the lease agreements and the surrounding circumstances evidenced the parties' intention that the improvements be substitutes for rent.

  The government's argument that rent credits should be limited in duration and amount was not supported by case law and was inconsistent with the intent of the parties to the lease. Further, the taxpayer's transfer of the improvements to the lessor was not illusory because the benefits and burdens surrounding the eligible improvements shifted from the taxpayer to the city in the year the improvements were transferred and credited against rent. Moreover, the rent credit arrangement had a subjective business purpose and had objective economic substance. The negotiation of the lease agreements to include rent credits provided the taxpayer with a significant benefit independent of any tax considerations in that the taxpayer was able to make necessary improvements to the hotel and reduce its rent on the basis of its cash outlay for the improvements. Further, the record reflected that the parties to the lease had valid business reasons for choosing the rent credit structure over other alternatives.

  The taxpayer's method of accounting for the improvements made in lieu of rent clearly reflected income; the IRS's determination to the contrary was an abuse of discretion. Although treating the cost of improvements as a rent expense, rather than depreciating the costs, enabled the taxpayer to increase its current deductions and reduce its taxable income in the year of the rent credit, the taxpayer consistently accounted for the improvements using an approved accounting method. Moreover, the taxpayer's change from depreciating to deducting the cost of an eligible improvement in the year in which it received a rent credit for the improvement was not a change in accounting method. When the taxpayer received a rent credit for the cost of an eligible improvement, the depreciable interest in the improvement was transferred to the lessor and the taxpayer treated that transfer as the deemed sale of the eligible improvement. By recognizing gain to the extent that the rent credit exceeded the depreciated basis in the improvement, the taxpayer effectively recaptured any depreciation it had previously claimed on that improvement. Because there was no chance of accounting method, the IRS's proposed adjustment under
Code Sec. 481 was improper.

Hopkins Partners, TC Memo. 2009-107, Dec. 57,823(M)

Other References:

 
Code Sec. 162

  CCH Reference - 2009FED ¶8630.42

  CCH Reference - 2009FED ¶8754.218

 
Code Sec. 446

  CCH Reference - 2009FED ¶20,620.208

  CCH Reference - 2009FED ¶20,620.239

 
Code Sec. 481

  CCH Reference - 2009FED ¶22,277.38

  Tax Research Consultant

  CCH Reference - TRC REAL: 12,302

  CCH Reference - TRC SALES: 42,254

  CCH Reference - TRC ACCTNG: 200

  CCH Reference - TRC ACCTNG: 21,050