In this age of disposables, the cost of repairs and
maintenance remains a significant expense for many lawn care businesses.
However, the immediate tax deduction for what might appear to be repairs or
maintenance is being increasingly labeled as expenditures for capital
improvements, expenditures that are recoverable only via depreciation
deductions spread over a number of years.
It often seems that the only ones able to tell the
difference between a currently deductible maintenance expense and an
expenditure for capital improvements that is only recoverable over long
depreciation periods is the ever-vigilant Internal Revenue Service. Now,
however, new guidelines released by the IRS may provide some guidance.
Repair or abandon
The expenses incurred to operate a turf, landscape or
lawn care business are the basis for its tax deductions. However, as with
almost all of our tax regulations, the rules governing trade and business
expenses are complex. Is that expenditure for repairs that are fully
deductible on the turf care professional’s annual tax return or must
it be labeled as a capital expenditure that can only be deducted over a
number of years, if at all?
One school of thought says any legitimate business
expenditure that does not create an asset or benefit the business for a
period longer than one year is an expense. Many turf-related business owners and managers believe that normal inspection, cleaning and testing, and the
replacement of parts with comparable and commercially available replacement
parts are routine maintenance.
In the eyes of the IRS, however, those expenditures
are all too often labeled as part of capital improvements, and their cost
recoverable only through depreciation deductions. In fact, any expenditure
that contributes to prolonging the life of equipment, or any business
property, is considered by the IRS to be a capital expense and must be
treated, and deducted over the same period, as the underlying asset.
Although lawmakers created the tax deduction and
restrictions governing immediately deductible business expenses and the
longer write-off periods for capital expenditures, it is the IRS that is
tasked with determining what expenditures qualify in each category.
Capital means permanent to some
Capital expenditures include those for building
improvements or betterments of a long-term nature, machinery, architect’s fees and even the cost of
defending or perfecting title to property.
Generally, a capital expenditure either adds an asset
to the business or increases the value of an existing asset. In other
words, the amounts paid to acquire new property for resale, such as
inventory, or to keep for one or more years, are capital expenditures.
Capital expenditures also include amounts paid to improve equipment or
property already owned.
Whether expenditures are a deductible repair or a
capital improvement often depends on the
context in which the expenditure was made. If an expenditures was, for
instance, made as a part of a general plan of rehabilitation, modernization
or improvement to equipment or other business property, the expenditure
must usually be capitalized even though, standing alone, the expense would
be currently deductible.
Planning not always a capital improvement
In the past, the courts often ruled that capital
improvements and ordinary repairs made simultaneously were capital expenditures. The courts
often drew an analogy between constructing a
new building and rehabilitating an older one. The courts reasoned that
during building construction, expenditures associated with carting away trash, painting windows or even
washing windows could not be, realistically, separated from other building
costs and, thus, must be capitalized.
Generally, repair work done as part of an overall
program of rehabilitation and conditioning should, according to at least
one court, be treated as a cost of acquiring a lease with the new tenant
and must be capitalized. Thus, when ordinary repairs and capital
improvements are made at the same time, the courts may invoke a so-called
“rehabilitation doctrine.” Under this doctrine, the distinction
between repairs and capital improvements may disappear when such
expenditures combine to change an asset’s use, value or life.
New safe harbor guidelines
Under a newly created safe harbor, the maintenance
performed on equipment or business property is generally not considered an
improvement of that unit of property and, therefore, would be currently
deductible. Routine maintenance would be the recurring activities that
a business owner expects to perform as a result of its use of the equipment
or property to keep it in operating condition. The newly proposed IRS rules
allow repairs made at the same time as an improvement, but which do not
directly benefit it or which were made strictly because of the improvement,
to be deducted as repairs.
Using the IRS’s example, a company owning
several trucks decides to replace the existing engines and beds with new
components. All of these costs would have to be capitalized because they
are so-called restoration costs. If the company decides to paint the truck
cabs and replace a broken taillight (both repair costs if made separately),
at the same time the new components are installed, the cost would be a
capital expenditure. They would have to capitalize the cost of painting
(treated as an expense that directly benefits or is incurred because of the
truck restoration). Of course, the company could currently deduct the cost of repairing the broken taillight (treated as an
expense that does not directly benefit and is not incurred because of the
Viva la difference
Among the temporary rules proposed by the IRS is
another safe harbor, one designed to virtually guarantee the immediate
deduction for repairs and maintenance. The new safe harbor applies if, at
the time the equipment or property was placed in service, the lawn care or
landscaping business reasonably expected to perform the activities more
than once during the life of the equipment or business property.
In other words, whether an expense is routine
maintenance would depend on factors such as the recurring nature of the
activity, industry practice, manufacturer’s recommendations, the
taxpayer’s experience and the
taxpayer’s treatment of the activity on its applicable financial
The balancing act
At the heart of our tax system is the principle that a
business’ income for the tax year should only be offset or reduced by
expenses that contribute to earning the income for that tax year. If, for
example, floor space is added to the operation’s business premises,
or a new business vehicle purchased, the business has acquired an asset
that will benefit the operation for a number of years.
On the other hand, if the landscaping business were to
deduct the full cost of that asset in the year it was acquired, income for
that year would be understated—and overstated in all later years that
asset remained part of the business. Thus, instead of permitting immediate
deductions for the cost of equipment, assets or property of a more
permanent nature, the tax rules require such expenditures to be
How confusing is the IRS’s reasoning? Consider an
example offered by the IRS: a small retail shop that suffers storm damage
to some of its roof shingles. Redoing the entire roof with wood shingles
would not have to be capitalized as a betterment to the shop and neither
would redoing the entire roof with asbestos shingles if wood shingles were
not available. However, redoing the entire roof with shingles made of a
lightweight, composite material that is maintenance free, nonabsorptive,
and has a 50-year life and a Class A fire rating, would have to be
capitalized as a betterment to the shop.
For many turf care professionals, the issue of whether
expenditures should be labeled as a business expense or as a capital
expenditure is purely a tax question with the business most often seeking
the immediate expense write-off. What about a new business or one that is
struggling to keep afloat? They may have little incentive to minimize
taxable income and/or maximize current deductions.
In general, maintenance is usually defined as a
periodic expenditure undertaken to preserve or retain an asset’s
operational status for its originally intended use. The expenditure does
not improve or extend the life of the asset or property. A good example of
maintenance is the cost of a tune-up for a business vehicle. An example of
a capital expenditure would be a new motor for that business vehicle.
While far from being simple, the difference between
the costs of maintenance or repairs and capital improvements seemingly
boils down to the impact on the business, its equipment or other business
property. Spelling out a periodic schedule for maintenance and regular
routine repairs can help. Clearly separating routine maintenance or repair
expenditures from a larger plan of rehabilitation or modernization can also
help maximize the current tax deduction for maintenance expenses, if that
will benefit the operation’s tax bill the most.
Mark E. Battersby is a frequent contributor to Turf,
writing on financial and business matters. He resides in Ardmore, Pa.