Tax Optimization for M&D Plant, Property and Equipment

Welcome to On the Shop Floor, a Weaver Beyond the Numbers podcast. I'm Colby Horn. This is Curtis Dixon, and we're gonna be your host for today's episode. Today, joining us is Ralph Ferrales. He's a director of tax, and he leads our fixed asset advisory services. And he's gonna help us start discussing a little bit of plant property equipment for our m and d industry. Ralph, welcome to the podcast. Thank you. Had it in the shop floor. Thanks. Happy to be here. How was the travel down from New York? It was, uneventful and, nice to be in warmer weather. You brought a little bit of that cold with us and a little bit of storm, but we, we needed it. We needed it. We won't give you a hard time for the Jets and the Giants and where our Cowboys are, but regardless, we're happy. Let's not talk about football on today's podcast. Fair enough. Fair enough. Alright. Well, let's let's get this started. What is fixed asset advisory services, Ralph? So fixed asset advisory services is part of our strategic tax services, group, and it's, basically, STS is a group of folks that are subject matter experts in certain areas of tax. And fixed asset advisory deals mostly with tangible property, capitalization, cost recovery. So for clients that that are capital intensive, fixed asset advisory helps our clients, with some of those, challenges, issues, and and questions. Awesome. Awesome. I know one thing that comes up quite a bit with, you know, our MND type clients is gap versus tax treatment. When should they be the same? When do they have to be the same? When can they be different? I know, obviously, from a tax standpoint, generally wanting to expense faster, right, get that deduction quicker. So Right. What are some of the gap versus tax reporting differences and options that we have that our clients can benefit from? Yeah. And that that's a great question, and that's actually a question that comes up all the time. On the gap side, there's a lot more flexibility, that that taxpayers have. You can choose what useful life you have for your assets. You can pretty much set up your capitalization policy the way it makes sense for your business. For tax, it's a little bit different. For tax, we have rules that the IRS prescribes. Right? So the methods, the conventions, the recovery periods are very specific to the asset. There's also placed in service requirements. Gap's a little bit different than that. I know we're we might touch upon it, a little bit later in the podcast, but there's differences in when, assets are placed in service for gap, for example, economic performance when they're ready and available for their intended purposes, for tax. So it's a little bit different, and, oftentimes, clients struggle because administratively, it might be easier to follow book. Yeah. Just have one method. Just have one method. But from a economic perspective, from a a tax perspective, sometimes it makes sense to look at them differently. Yeah. We're leaving deductions on the table. Are we taking advantage of the time value of money? That's right. All of those type things. That's right. So there can be a lot of nuance. And just because we've been doing it this way or Gap's doing it this way, is that really what's most beneficial? Is that really the right way to do it? That's that's absolutely right. In regard to expenses and what should be capitalized, especially in the repairs and maintenance side, knowing how relevant that is in the the MD and R space, What does that look like, and do we also have to follow GAAP? Do we have some ability to do things differently on the tax side of things? No. That's and that's an a a great question that, comes up often. And, again, we had the twenty thirteen tangible property repair regs, which you both probably remember. And there are very specific rules for tax, whether something's a betterment to a unit of property, a restoration or a renovation to a unit of property, or whether it's adapting it to a different use, those are typically the criteria for capitalizing an expenditure for tax purposes. On the contrary, now if you have, a repair that fits none of those three, you can make the argument that it it could be expenses or repair. Obviously, for book, it depends on your capitalization policy and what you do there. So there are definitely differences between how we treat an expenditure for tax and for book when it comes to repairs. Yeah. In my head, I always think of bar betterment, adaptation, restoration. Can't always explain all the three so well, but Bar, if it's bar. That's right. We know we got it. Yeah. Now there's there are, those same tangible property repair regs did make it, a little bit easier for taxpayers to follow book. There are some elections, and and one of the most popular ones is the de minimis election, where if you have a de minimis, threshold for book purposes, you can follow that for tax purposes if it's under a certain amount. So there are, ways to keep following book, but there's definitely some expenditures where you have to look at it differently. I know we see it quite a bit. We wanna keep things simple for our clients, but at the same time, I don't wanna leave money on the table. Yeah. Exactly. And, obviously, we're we're trying to help educate them and and give them the best advice as possible. Right. So one thing that I'm hearing a lot or at least in discussions with, my clients and maybe to better describe it as Acquire to Retire method. Could you maybe expand on that and what it is and and and benefits of it? Sure. So in our fixed asset advisory practice, we like to look at the life cycle of an asset. Right? Not just what happens on the tax side. We also like to see what happens on the book side and, frankly, how an asset becomes an asset. So it's one of the ways in which we advise our clients is all the way from when somebody on the factory floor actually fills out a purchase order and gets a piece of equipment in, or it could be a a portion of a building. It could be anything that you purchase all the way through to what happens to that asset along the way. How does it become an asset, in the ERP system on the book side? What happens to it on the tax side? How do we treat repairs? How do we treat those improvements? And then all the way through to when that asset is retired. How do we dispose of it? Gain calculations, things of that sort. So it's really a holistic way of of looking at what happens to an asset, that life cycle of an asset. And, we help our clients with pretty much throughout that whole life cycle, with processes, capitalization policies, and, really how to treat that asset throughout its throughout its life. And I guess along those same lines, knowing that the bonus depreciation rules are shifting, I think that Acquire to Retire with, okay. We spent more money. Right? We're buying more assets. That's right. Some of it may be, along the lines of real property or real property related, and are we taking things off the books that have basis that can give us deduction? So I I feel like and and it'll read me if I'm wrong, but going into a new environment from a tax deduction standpoint, acquired to retire is becoming even more important because you're leaving deductions on the books potentially. That's right. No. That's right. You really wanna take a look, again, the the the textbook differences. And what we see a lot of too is, sometimes our clients' ERP systems, are very inflexible when it when it comes to tax. Right? So, again, just because you're doing something on the book side doesn't necessarily mean you're doing it correctly or efficiently on the tax side. So you could definitely leave some deductions on the table, that you could otherwise take. Which is why we have these experts that can actually look at things and understand things and Get our get our clients some benefits out of it. I I love it. Right. And that and, you know, and and just, managing fixed assets. Our manufacturing and distribution clients have a lot of assets. They're capital intensive. So that management of fixed assets is is very important. Right? How are you managing that? What system are you using? What platform are you using to do that? And, again, it's not always advantageous to use your ERP for tax. That's something that I found throughout my career. Oftentimes, an ERP system meant for GAAP and for books is not very good, right, at keeping track of tax. Exactly. I mean, my clients never complain personally, so I don't I don't I don't know what you're talking about there. But Well, we couldn't have you on today without at least briefly talking about cost segregation. This is not a real estate podcast, but it still does come up with our clients and, you know, their warehouses and stuff they're doing. So can you briefly talk and maybe talk also about, like, when is the best time to do that? Sure. Because I I do have a lot of clients that end up reaching out later on down the line and maybe don't understand what the cost seg the point of it is or when they should do it. So if you could maybe address that. Sure. So simply put, cost segregation has been around for a long time. It's still really basic blocking and tackling. I think any client out there that is, either purchasing real property or, building real property should look at cost segregation. Simply put, cost segregation is looking at real property. Right? That's depreciated over a long life for tax, usually thirty nine, years straight line, and seeing if we can identify components or assets within that real property that we can shorten the life on, right, that we can accelerate, that recovery period. And oftentimes, you get bonus depreciation even though that's starting to phase down a little bit, but you also get accelerated depreciation, just from makers. Right? Either two hundred percent declining balance or a hundred fifty percent declining balance. So, from a cash tax savings opportunity, it's definitely something that we recommend to all our clients to look at because there's usually some savings there. It reduces taxable income. It gives you some granularity and visibility into what you actually purchased or built, which is an intangible of cost segregation. Yeah. That's that's that's a great point. Right. Instead of having just one line item called building, all of a sudden, now you're breaking it out and really having some good visibility into what you into what you own in that, in that structure. Now as far Colby, you asked as far as, you know, when's the right time to do it. I typically like to say as early as possible. Right? So my background and, you know, most of the folks that that work on our team that do this type of work are engineers by background. So I'm a mechanical engineer. I'm also an enrolled agent. Right? So I understand the tax world. Mhmm. And I like to go in really during the design phase. Right? So if a client is designing a building that they wanna build out or, frankly, even if they're in discussions on purchasing a building, acquiring, we should be in there talking through, hey. What are the tax advantages of doing certain things or looking at certain assets? Right. So pre physical Any physical assets even being ready as far as that? Before the shovel's in the ground. The other advantage to that too is you have contractors that are still there and willing to help you, during the construction phase. And as we all know, you know, once you have a contractor leave your house, if you're doing a kitchen renovation and the contractor leaves Yeah. You're done. Right? You're not getting that contractor back. So, it's always more advantageous to have the contractor there, to have the architect available. Now having said that, we do a lot of cost segregations where it's not, where it doesn't happen contemporaneously with the construction. Right? It comes after the fact. And one of the nice things about cost seg is that in most cases, it's an automatic method change. Right? So there's no need to go back and amend a tax return. So it keeps it easy from our standpoint. Keeps it easy from the tax preparer standpoint. So we can file a form thirty one fifteen. There's a section four eighty one a adjustment. If the building was was purchased or, constructed in a prior year, you catch up those missed, depreciation deductions in the current year, and you file that form thirty one fifteen, and there's no need for for amending returns. So that's that's an important note. Yeah. Clients love not having to amend and open yourself up to additional scrutiny by the state or the IRS. Not that we don't all love the IRS, of course. I know they're listening some somewhere here. One other question I have, I well, I guess, to really sure. Section one seventy nine d and not expensing fixed assets under section one seventy nine, but section one seventy nine cap d. Can you just briefly I know we do see that from time to time with our clients. We do. Tell us what that is? Sure. So section one seventy nine cap d is the energy efficient commercial building deduction. It's been around for a while, but as part of the inflation reduction act, it became permanent. Right? So instead of it being extended every year the way congress used to do it and still does for many of of the tax provisions, this now has become permanent. And what it allows clients is to, get a deduction, so it's not a credit. It's a deduction on, three portions of a building. Right? So you have the building envelope, which basically entails the the walls, you know, slab, roofing, doors, windows. You have the HVAC, heating, ventilation, air conditioning, and you have the lighting. So if you achieve a certain percentage of energy efficiency, right, above a certain threshold, you can get a deduction, up to five dollars, and, it's inflation adjusted, but up to five dollars if you meet prevailing wage and apprenticeship requirements, after twenty twenty three. So it's, actually a a, you know, a very, lucrative deduction if you can, comply and and have an eligible building. So we we I think we're gonna see a lot more one seventy nine cap d now that it's permanent. It's become obviously more more well known, so, we're gonna start seeing, I think, a lot more of that. And that is five dollars per square foot. Right? Five dollars per square foot. So if you're doing a a cost seg, then it's kinda, I would say, almost default on your side that you're also looking to see if there's some section one to ninety deductions that you've been taking as well. Absolutely. Now because of bonus depreciation, I think you've mentioned this briefly, clients that have qualified improvement property, right, which was and still are eligible for for bonus depreciation, really stop looking at one seventy nine cap d. Because when you're building out of space, you're leasing it, you're probably putting lighting in there. You might be putting HVAC. You might be doing some building envelope work. But since bonus depreciation was available and QIP is eligible for bonus, why look at one seventy nine cap d? However, that also may start changing as bonus starts phasing down, right, sixty percent this year. So one seventy nine cap d, again, I think will, will start becoming a lot more attractive to some of our clients. Well, that's all the time we have today for on the shop floor. I wanna thank Ralph for joining us. Please log on to weber dot com forward slash podcast to get all the latest manufacturing, distribution, retail developments, and join our newsletter. Thanks again.