The U.S. Congress occasionally makes mistakes. A drafting error in the Tax Cuts and Jobs Act of 2017 caused qualified improvement property (QIP) to be incorrectly assigned a 39-year depreciation recovery period. Richard Shevak, leader of CohnReznick's National Tax Office, noted that the legislative history shows Congress intended to give QIP a 15-year recovery period.

A 15-year recovery period would have allowed taxpayers to benefit from bonus depreciation, which allows for the full deduction of improvement costs in the year the asset is placed in service. Assets with a 39-year life, however, are not eligible for bonus depreciation.

As originally intended, this provision was supposed to be a valuable incentive. Any company improving its property—whether reconfiguring office space, updating a restaurant dining area, or modernizing store lighting—would receive more favorable tax treatment for its investment.

However, the statute contained a drafting error that locked QIP into a 39-year depreciation period, preventing taxpayers from claiming bonus depreciation and losing the economic incentive Congress originally intended.

Earlier this year, Congress corrected this error through the CARES Act (the massive stimulus bill in response to the pandemic), making QIP eligible for a 15-year depreciation period and applying the relief retroactively.

"Taxpayers can now apply this treatment retroactively to 2018," said Shevak. "QIP they placed in service in 2018 or 2019 now qualifies for a 15-year depreciation period, allowing them to elect 100% bonus depreciation."

This means businesses can go back and amend prior filings and potentially receive tax refunds.

Sharon Kay
Courtesy of Grant Thornton

Awareness of this correction varies. The original drafting error was nicknamed the "retail glitch," which may have led CFOs outside the retail industry to underestimate or overlook the subsequent change, said Sharon Kay, a partner at Grant Thornton and leader of its accounting methods and periods practice.

The correction applies far beyond retail, covering all industries that own real property and make qualified improvements. "So, I think there may be many businesses in various industries that haven't realized they have an opportunity to get more favorable treatment for these qualified improvements," Kay said.

Ignoring the change "is not an option"

The IRS has issued guidance on the revised legislation, most notablyRevenue Procedure 2020-25。

Caleb Cordonnier, a senior manager at Grant Thornton, said this procedure indicates taxpayers can generally file amended returns or file Form 3115 to change their accounting method to take advantage of the benefit.

Caleb Cordonnier
Courtesy of Grant Thornton

Given the widespread financial and operational disruptions caused by the pandemic, many organizations' accounting and tax staff may already be at full capacity. If an organization has a relatively small amount of QIP placed in service after 2017, a CFO might be inclined to overlook the new benefit.

Cordonnier said ignoring the correction would likely lead to a higher tax compliance burden.

"Whether it's amending returns or filing a change, this is going to be a favorable change," he said. "And the IRS has made it clear in formal procedures and public speeches that they don't think 'doing nothing' is an appropriate way to handle or not handle this change."

A potentially complex decision

The decision between "amending returns" or "filing a change" is more complex than it appears on the surface.

Connie Cheng Cunningham, a tax managing director at BDO, said some companies will face a fairly straightforward decision, while others are still grappling with the interaction between this change and other CARES Act changes, such as net operating loss (NOL) carrybacks and interest expense rules.

"We're seeing ripple effects," said Cunningham, citing a hypothetical case of a company that made a $400,000 QIP investment in 2018. They have already filed their 2018 return, treating the QIP as originally intended, as 39-year property not eligible for immediate expensing.

"Now I'm preparing the 2019 tax return," she said. "Should I try to correct in the 2019 filing what happened in 2018, or should I go back and amend the old 2018 return? These decisions should be considered in light of all the other provisions adjusted by the CARES Act."

Cunningham believes there is no "one-size-fits-all" answer for clients. Instead, she advises clients to file extensions to gain more time for analysis and to model the potential impact of each option on affected areas. "If I choose option A over option B, what impact does this have on other provisions affected by qualified improvement property depreciation, and which option yields the best outcome?" she asked.

Kay also cautioned against making QIP treatment decisions in isolation, as claiming additional depreciation can affect numerous other tax provisions, including local, state, and international filings. Organizations with multiple locations and significant QIP costs may face substantial changes in depreciation expense that could offset other favorable provisions.

"You don't want to do the analysis in a vacuum, or you could have unintended consequences in other areas of the tax return," she said.