On April 20, 2017, the Internal Revenue Service (IRS) issued Revenue Procedure 2017-33 to provide guidance on certain changes to Section 179 and Sections 168(k) and (j) made by the Protecting Americans from Tax Hikes (PATH) Act of 2015. The PATH Act changes specifically addressed in Revenue Procedure 2017-33 include:

i. Making permanent the treatment of qualified real property as Section 179 property under Section 179(f)

ii. Making permanent the permission granted under Section 179(c)(2) to revoke, without IRS consent, any election made under Section 179

iii. Allowing certain air conditioning or heating units to be eligible as Section 179 property under Section 179(d)(1)

iv. Extending the placed-in-service date for property to qualify for the additional first-year depreciation deduction under Section 168(k) (bonus depreciation)

v. Modifying the definition of qualified property under Section 168(k)(2) to include qualified improvement property (QIP)

vi. Adding Section 168(k)(5), which allows a taxpayer to elect to deduct bonus depreciation for certain plants bearing fruits and nuts before those plants are placed in service

vii. Adding Section 168(k)(6), which provides a phase down of the bonus depreciation deduction percentage for future tax years

viii. Adding Section 168(k)(7), which allows a taxpayer to elect not to deduct bonus depreciation for any class of property placed in service after January 1, 2016

ix. Adding new Section 168(j)(8), which allows a taxpayer to elect not to apply Section 168(j) for any class of property that qualifies as Indian Reservation property

Revenue Procedure 2017-33 does not provide guidance on the extension and modification of the Section 168(k)(4) election to increase the alternative minimum tax (AMT) credit limitation in lieu of claiming bonus depreciation, but does state that Treasury and the IRS anticipate issuing guidance on Section 168(k)(4) in a separate revenue procedure. Further, there are certain PATH Act modifications to Section 179 and Section 168 that are described in the background section of Revenue Procedure 2017-33 (Section 2), but for which no additional guidance is provided within the Revenue Procedure. The following discussion only focuses on the PATH Act modifications for which Revenue Procedure 2017-33 provides additional guidance.

Summary of certain PATH Act modifications to Sections 179 and 168 and the related guidance provided by Revenue Procedure 2017-33

Section 179 modifications

The PATH Act amended Section 179(f) by making permanent the treatment of qualified real property as Section 179 property if the taxpayer elects to apply Section 179(f). The PATH Act further amended Section 179(f) by striking the rules that subjected qualified real property to lower expensing limitations and prevented taxpayers from carrying forward Section 179 deductions that were subject to the Section 179 taxable income limitation. Revenue Procedure 2017-33 clarifies that the previously referenced PATH Act amendments effectively allow taxpayers to treat qualified real property as Section 179 property when applying the general expensing limitations, phase-out amounts, and carryover rules of Section 179. Such amendments apply to tax years beginning after December 31, 2015.

The PATH Act also amended Section 179(d)(1) to include certain air-conditioners or heating units in the definition of Section 179 property. Such amendment applies to tax years beginning after 2015. Revenue Procedure 2017-33 provides examples of types of air conditioning and heating units that may qualify as Section 179 property under the general definition, such as portable air conditioners and heaters that are Section 1245 property; however, it also clarifies that components of a central air conditioning or heating system of a building would not qualify unless the component meets the definition of qualified real property and the taxpayer elects to apply Section 179(f).

Finally, the PATH Act amended Section 179(c)(2) to make permanent the ability to revoke a Section 179 election without the Commissioner's consent. Such amendment applies to tax years beginning after 2014. As a result, taxpayers were uncertain as to whether a Section 179 election for tax years beginning after 2014 could be made on an amended return without consent. Revenue Procedure 2017-33 provides rules for making such an election until Treasury amends Reg. Section 1.179-5(c).

Extension and modification of bonus depreciation under Section 168(k)

The PATH Act extended bonus depreciation under Section 168(k) for eligible property that is acquired and placed in service during 2015 through 2019. Bonus depreciation is set at 50% for property placed in service during 2015, 2016, and 2017 but decreases to 40% in 2018 and 30% in 2019 before being entirely phased out in 2020. The decrease to 40%, then 30%, then 0% occurs in 2019, 2020, and 2021, respectively, for long production period property and certain aircraft, although special acquisition date and placed-in-service date rules exist for determining which bonus depreciation rate to apply to such property. For example, property acquired during 2018 and placed in service during 2019 is subject to a 40% rate while property acquired during 2019 and placed in service during 2019 is subject to a 30% rate. Revenue Procedure 2017-33 provides tables to summarize the phase-out percentage for each tax year and to illustrate how the phase-out applies to long production period property and certain aircraft based on when the property was either acquired or acquired under a written contract and subsequently placed in service.

Additionally, the PATH Act modified the election out of bonus depreciation by replacing Section 168(k)(2)(D)(iii) with Section 168(k)(7) (applicable for property placed in service after January 1, 2016). Although the election out under Section 168(k)(7) is similar to the election out under former Section 168(k)(2)(D)(iii), there is one notable difference. That is, the bonus eligible property for which the election is being made retains its character as "qualified property." Revenue Procedure 2017-33 clarifies that, as a result of such difference, property subject to an election out under Section 168(k)(7) is not subject to the AMT depreciation adjustments under Section 56 (i.e., the requirement to compute depreciation using the 150% declining balance method for property that is otherwise subject to the 200% declining balance method). Revenue Procedure 2017-33 further clarifies how the election out of bonus depreciation applies for fiscal-year taxpayers with a tax year spanning 2015 and 2016. It states that an election out of bonus depreciation is made under Section 168(k)(2)(D)(iii) as in effect before the enactment of the PATH Act for property placed in service in calendar year 2015 and under Section 168(k)(7) for property placed in service in calendar year 2016. Notably, as discussed earlier, this will have implications on how AMT adjustments are computed for such property.

Finally, Revenue Procedure 2017-33 provides rules for making the election to claim bonus depreciation for certain plants bearing fruit and nuts.

Bonus eligibility of qualified improvement property under Section 168(k)(3)

The PATH Act expanded the definition of qualified property under Section 168(k)(2) to include qualified improvement property. Qualified improvement property is defined in Section 168(k)(3) as any improvement to an interior portion of a building that is non-residential real property if the improvement is placed in service after the date the building was first placed in service. It does not, however, include any improvement for which the expenditure is attributable to the enlargement of the building, any elevator or escalator, or the internal structural framework of the building. Accordingly, certain 39-year improvement property placed in service on or after January 1, 2016, may now be eligible for bonus depreciation.

Revenue Procedure 2017-33 provides examples illustrating what is considered to be qualified improvement property for purposes of Section 168(k). The Revenue Procedure describes two scenarios related to the construction of a new building for which the initial construction plans did not include a private restroom for the business owner. Both scenarios result in the private restroom being placed in service one day after the building itself is placed in service. In one example, the private restroom is constructed under a separate contract from the original building contract; in the other example, the original building contract is amended to include the private restroom. In both examples, the assets in the private restroom that are Section 1250 property are qualified improvement property because, along with meeting the other requirements of Section 168(k)(3), they are placed in service at least one day after the building was placed in service.

Revenue Procedure 2017-33 also highlights the fact that the placed-in-service date requirement for qualified improvement property is specific to the property and not the taxpayer (i.e., the term "first placed in service" means the first time the building is placed in service by any person, regardless of whether that person is the taxpayer or another person).

Extension and modification of accelerated depreciation qualified Indian reservation property under Section 168(j)

The PATH Act extended accelerated depreciation (via reduced recovery periods) for qualified Indian reservation property to property placed in service during 2015 or 2016. It also added Section 168(j)(8), which allows a taxpayer to elect out of this accelerated depreciation.

Revenue Procedure 2017-33 provides the time and manner for making the election out of accelerated depreciation for qualified Indian reservation property, stating that the election must be made on a timely filed (including extensions) tax return for the year in which the property was placed in service. If a taxpayer did not make the election out, but determined depreciation on its timely filed tax return by using the recovery period provided in Section 168(c) instead of in Section 168(j)(2), the taxpayer is deemed to have elected out of Section 168(j).

Implications

Section 179

Revenue Procedure 2017-33 provides desired clarification on certain, generally favorable, PATH Act modifications to Section 179. Taxpayers will now have a better understanding of what constitutes air conditioning and heating units for purposes of Section 179. The revision to include air conditioning and heating units continues to be taxpayer-favorable, with the caveat that, if the units are not tangible personal property but are a component of qualified real property, they can still be qualified Section 179 property if the taxpayer makes the Section 179(f) election.

Although the PATH Act did not discuss making Section 179 elections by amended return without the Commissioner's consent, Revenue Procedure 2017-33 provides welcomed guidance for making such elections while taxpayers wait for Treasury and the IRS to make the necessary amendments to Reg. Section 1.179-5.

Section 168(k) — Bonus depreciation generally

The phase-out of bonus depreciation highlights the importance of placing bonus-eligible property into service as early as possible to take advantage of the higher bonus depreciation rates. Taxpayers with long production period property and certain aircraft will be affected by Revenue Procedure 2017-33's clarification of how the phase-out applies when the property is acquired in one year but placed in service in another year. This issue will become a large focus in future years as the phase-out begins to affect the bonus depreciation computation.

Taxpayers, particularly those with fiscal years starting in 2015 and ending in 2016, should also be aware of the effect an election out of bonus depreciation under Section 168(k)(7) will have on their AMT computations. In short, an AMT adjustment will not be required for bonus eligible property placed in service on or after January 1, 2016, regardless of whether the taxpayer claims or elects out of bonus depreciation under Section 168(k)(7).

Qualified improvement property

The examples of qualified improvement property provided in Revenue Procedure 2017-33 confirm the broad definition of the new class of property. The examples emphasize that an improvement placed in service just one day after the building is placed in service can be qualified improvement property (thus placing high importance on the determination as to when the original building is placed in service under the "ready and available for its specifically assigned function" standard).

The examples also clarify how the method of contracting for an improvement generally does not affect whether property is treated as qualified improvement property. For instance, the examples show that it does not matter whether the original contract is amended or a new contract is executed for the improvement, but the fact that the improvement was not originally contemplated appears to be dispositive. This is evidenced by the specification that the initial construction plans did not include the improvement (here a private restroom). Additionally, a leasing example specifies that the contract to construct the exterior and certain portions of the interior of a building is separate and apart from the leasing agreement entered into months later that provides for additional interior improvements that are considered to be qualified improvement property.

Even with these helpful and largely taxpayer-favorable examples, we anticipate that qualified improvement property will continue to be an area of focus. Revenue Procedure 2017-33 does not provide any discussion on what is not considered qualified improvement property other than a largely unhelpful example indicating that a brand new qualified restaurant property building is not considered qualified improvement property.

Qualified Indian reservation property

Before Revenue Procedure 2017-33, it was unclear whether there could be a deemed election out of Section 168(j) or whether, without a timely election out under Section 168(j)(8), computing depreciation on otherwise qualified Indian reservation property using a recovery period other than what is provided in Section 168(j)(2), would be an impermissible method of accounting. It is now clear that taxpayers can have a deemed election out of this depreciation method.

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