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IRS Changes Procedures for Elections to Deduct and Amortize Start-up and Organizational Expenditures

Private equity, hedge fund, mutual fund industry tax development

On July 7, the Internal Revenue Service (IRS) issued  proposedtemporary and final regulations relating to elections to deduct start-up expenditures under Section 195, organizational expenditures of corporations under Section 248 and organizational expenses of partnerships under Section 709.

The American Jobs Creation Act of 2004 (ACT), allows an electing taxpayer to deduct, in the taxable year in which the taxpayer begins an active trade or business, an amount equal to the lesser of (1) the amount of the start-up and/or organizational expenditures that relate to the active trade or business, or (2) $5,000, reduced (but not below zero) by the amount by which the start-up expenditures and/or organizational expenditures exceed $50,000. The remainder of the start-up and organizational expenditures are deductible ratably over the 180-month period beginning with the month in which the active trade or business begins.

These regulations revise the regulations under sections 195, 248 and 709 to reflect the amendments made by the ACT. The regulations also update the manner in which taxpayers elect to deduct costs under sections 195, 248 and 709. Under these regulations, taxpayers are no longer required to file a separate election statement to deduct costs under sections 195, 248 and 709. 

For start-up or organizational expenses defined in sections 195(c)(1), 248(b) and §1.248-1(b), and 709(b)(3) and §1.709-2(a), paid or incurred after September 8, 2008, the regulations provide that a taxpayer is deemed to make an election to deduct start-up and/or organizational expenses for the taxable year in which the taxpayer begins business. Therefore, a taxpayer is no longer required to attach a statement to the return or specifically identify the deducted amount as start-up and/or organizational expense for the elections to be effective. A taxpayer may choose to forgo the deemed election by clearly electing to capitalize its start-up and/or organizational expenses on a timely filed federal income tax return (including extensions) for the taxable year in which the taxpayer begins business. The election to capitalize start-up and/or organizational expenses is made in accordance with the form and instructions used by the taxpayer to file its federal income tax return. An election either to deduct start-up and/or organizational expenses or to capitalize start-up and/or organizational expenses is irrevocable and applies to all start-up and/or organizational expenses of the taxpayer.

In general, a change in the characterization of an item as a start-up or organizational expense, or a change in the determination of the taxable year in which the taxpayer begins business, will be treated as a change in method of accounting with a section 481(a) adjustment.

The temporary regulations under sections 195, 248 and 709 apply to expenditures paid or incurred after September 8, 2008. However, taxpayers may apply all of the provisions of these regulations to expenditures paid or incurred under sections 195, 248 and 709 after October 22, 2004, provided the period of limitations on assessment of tax has not expired for the year the election under section 195, 248 or 709 is deemed made. Expenditures paid or incurred on or before October 22, 2004, may be amortized over a period of not less than 60 months as provided for under prior law. 

The regulations are effective July 8 and are set to expire July 6, 2011.

Please contact  Julie Canty for further information.

Related Content:
Proposed Rules: Elections Regarding Start-Up Expenditures, Corporation Organizational Expenditures and Partnership Organizational Expenses 
Temporary and Final Regulations: Elections Regarding Start-Up Expenditures, Corporation Organizational Expenditures and Partnership Organizational Expenses

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