IRS ALLOWS FIX TO DEPRECIATION

This Report is designed to be of general interest. The specific comments and information discussed may not apply to you. Before acting on any matter contained herein, you should consult with your personal legal adviser.

The IRS recently came out with a position very much in favor of Taxpayers: If you messed up and took too little depreciation in a prior year, you may now correct it and take that depreciation now.

Depreciation is a deduction spread over several years for the theoretical wearing out of capital assets. The cost of a capital asset is not deducted on purchase, but instead "capitalized"; its "basis" is deducted over the "useful life" of the asset.

"Basis" is the initial cost reduced by profit rolled over in a tax deferred exchange, plus capital improvements, less depreciation "allowed OR ALLOWABLE."

"Allowed or allowable" means that if depreciation was not taken but should have been claimed, the basis is still reduced and the owner will would be taxed (when selling the asset) as if all depreciation had been properly claimed.

For example, Bob buys a building costing $51,000; he properly allocates $11,000 to land and depreciates the remainder ($39,000) over 39 years, at the rate of $1,000 per year.

Six years later, Bob sells the building (with land) for $51,000, exactly what it cost him. He has profit of $6,000. [$51,000 initial cost, less 6 years of depreciation @ $1,000 per year = $45,000 basis. Sales price of $51,000, less basis of $45,000 = profit of $6,000.

Bob then discovers that he had claimed depreciation of only $100 per year. Bob can amend some of his tax returns to correct the amount claimed; generally, you can amend returns within 3 years of the date of filing. That helps a little. But his profit is still $6,000, as if he had claimed the right amount of depreciation from the beginning.

NOW there is an easy solution: the IRS recently issued Revenue Procedure 96-31, allowing a taxpayer who had previously claimed too little depreciation to file IRS Form 3115 by June, 1997 and catch up and claim the left out amounts on his 1997 return, if he still owns the asset!

• Bob, who actually claimed only $600 of depreciation for the past, can file IRS Form 3115 by June, 1997, and then claim the missed $5,400 of depreciation (as well as his correct current amount) on his 1997 Return.

• Or, Bob might save more by amending the last 3 years (to claim an extra $900 per year) and claiming the remaining $2,700 (as well as his correct 1997 amount) for 1997.

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