Depreciation Correction Question

[Terry D EA]

After reviewing assets with a single shareholder S-Corp, it was identified that some of their assets were given to me twice to begin the depreciation in 2006 & 2007.Urghhhh!!!

My first thoughts to correct this is to show a disposition of the phantom assets on form 4797 as sold for the initial cost and reclaiming the accumulated depreciation to show a gain on the sale that would reduce the current 156K loss. While this sounds a little off does anyone see a problem with this? I know there is a form to use to correct incorrect depreciation claimed which can turn into a PITA with the IRS. Thoughts please.

[SFA]

Hmmm... creative. Thinking outside the box! Are any of these items still depreciating?

[Terry D EA]

I agree, creative indeed but if there is a better way to handle this I am open for suggestions. Yes, these items are on the list to be depreciated for 2012. With that said, I have filed an extension so I do have a little time to play with this. Also, doing this would remove the items from depreciation this year.

[kcjenkins]

3115 is the correct form, as I am sure you know. But your 'creative' solution sure sounds tempting. I'm sure Jainen and a few others will tell us all the 'cons' of it, soon. The extension was a good idea. Let's see what other ideas our brain trust can come up with.

[jainen]

>>a better way to handle this<<

Form 3115 is straightforward and transparent, with automatic approval. But boring--IRS always appreciates a bit of creative accounting, and may even honor you with a closer look!

[SFA]

Yikes!

[Terry D EA]

I don't like being honored with a closer look. While my creative plan does sound tempting as KC said I will do the right thing so I guess 3115 it is. Automatic and transparent is key.

[kcjenkins]

Wise choice.

[TaxWizard]

The only legal way to correct a depreciation error is to file an amended return. You are not "changing an accounting(/depreciation) method; you are correcting a mistake. You may also want to request 100% abatement of any penalty, explaining the error was one of duplication and the client took all required steps to remedy that error.

[joanmcq]

Taxwizard, you really don't know what you're talking about. A change in depreciation method is a change in accounting method. And the 3115 is the only way to correct it.

[SFA]

This isn't just about depreciation. Anytime that we have an error, such as taking a deduction twice on a return, we should let the client be aware of the mistake and they need to authorize us to file the amended return to correct it.

So I don't see this as a "change in a depreciation method." It is how to remove duplicate entries on filed returns.

[jainen]

>>The only legal way to correct a depreciation error is to file an You are not "changing an accounting(/depreciation) method<<

This is why IRS thinks tax preparers should study tax preparation.

[SFA]

OK, so this all started in 2006. How many years would you amend?

[Guest Taxed]

Based on the original question the asset was duplicated in 2007 (the second year after it was put in service). I would file a 1040X with a letter explaining the situation because the 3 year period has passed. I don't think the depreciation method is being changed. i think what the taxpayer is trying to accomplish is correct the duplicate depreciation taken since 2006. If the mistake was just discovered in the 2012 return filing we are talking about overstating depreciation expense for 2007, 2008, 2009, 2010, 2011. So I would think 1040X for each year is required and then you have to calculate the interest charge assuming it caused a balance due that year after correction. Not an easy job, hopefully the tax pro is charging accordingly. I would also urge the letter to request a waiver of penalties because the mistake was unintentional and corrective action is being taken once the mistake was discovered.

[Guest Taxed]

Correction it should be 1120X not 1040X. You know what i mean. Did not remember that it is a corporation not a Sch C client.

[jainen]

>>we are talking about overstating depreciation expense for 2007, 2008, 2009, 2010, 2011. So I would think 1040X for each year is required<<

Once again I make my standard challenge. Can you cite ANY authority for this treatment, amending returns for five years to correct depreciation? If not an actual reg or ruling, at least an IRS pub or even a standard tax guide. Anything at all?

[Terry D EA]

Jainen I am sticking with you and KC on this one. I have been studying the 3115 Schedule E to change the depreciation mistakenly taken. My question is as the others, The 3115 form makes no provision for adjusting/correcting the amount of depreciation that was previously claimed. Claiming duplicate depreciation has over stated the depreciation for each year and understated net income/loss. This company has experienced large losses for the last four years. If the depreciation was not duplicated, the loss would be reduced but not to the extent that it would make a significant difference or result in a net income taxable to the shareholder. We are looking at a total of approximately 3600.00 for this time period with losses each year ranging from 75k to 120k. On another note, this company is in the process of liquidating and selling off assets to pay it's liabilities as we speak. Operations has ceased for obvious reasons.

Before you criticize me too much, this is not an area that I am very strong in. I am studying and researching this extensively to be sure it is handled in the correct way. I am not concerned with billing here as much as I am getting this corrected and do apprecite your advice here.

What steps are necesary to correct the amount of incorrect depreciation claimed? I see how and where to use form 3115 but do not understand how to correct the difference in net income/loss that would result from removing these assets.

[jasdlm]

Terry, page 13 of the 2012 Pub 946 might be helpful. I believe that because the mistake was repeated for more than 2 years, you have 'adopted a method of accounting', thus requiring Form 3115. I know it's a pub, but it gives some guidance.

[Terry D EA]

Okay, here is what I have taken from all of this. jasdim, thank you for directing me to page 13 of Pub 946. As you stated, it is only a Pub but it has cleared the mud from the waters. Use form 3115 to request a change in accounting for the incorrectly claimed depreciation from the IRS. I will look into the automatic approval mentioned in Revenue procedure 2008-52. If this is what I think it is, the approval should be automatic based on the amount. Once approval has been received, then an adjustment under section 841 is made and the incorrect amount of depreciation claimed is listed as other income on the 1120S and in this case, the total amount can be added this year. Now, I feel more comfortable with what has to take place and this is simplier and proper way to handle this.

Jainen, KC, or anyone else, if I still need some guidance here please feel free to give it. As usual, I can count on you guys to help when it is needed. THANK YOU!

[Guest Taxed]

I see a difference of opinion developing here. Terry please keep us posted how you (or should i say the taxpayer) does with IRS with the corrective procedure that you will select.

I am sure double counting an asset and depreciating it over the years, overstating the depreciation expense each year is not that uncommon, especially in large businesses that may have over 1000 pieces of depreciable assets. I am surprised that there is no example or pub that gives clear guidance on how to correct this.

May I say that perhaps businesses when they find out they have double counted an asset they just keep it that way until the depreciation schedule run out or they get audited whichever comes first. How would IRS settle the matter? Would they figure out the extra depreciation expense taken each year and add the cumulative expense as "other income "and recalc the tax??

[joanmcq]

It's listed as a positive sec. 481 (or negative) adjustment in the year corrected, and since the 3115 is attached, the IRS knows what it is. In an audit it's not the same, just a depreciation adjustment, since you are not petitioning for an accounting change.

[Terry D EA]

Taxed, re-read my post and you will see that the amount of the incorrect depreciation is listed as a section 481 adjustment and in this case a negative. The negative amount is added as other income as outlined in Pub 946 and in Rev procedure 2008-52. If this had not been done but one or two years, then an amendment could be used. Due to the fact it has happened over several years, then the 3115 is the way to go.

>>>>>May I say that perhaps businesses when they find out they have double counted an asset they just keep it that way until the depreciation schedule run out or they get audited whichever comes first<<<<<<

May I say that any company doing as you state is scarey to say the least and is risky. What position would they take if they were audited? I would hope they have a sharp enough accountant to recognize this mistake and take the appropriate action.

[joanmcq]

Shouldn't it be a positive adjustment though? Too much expense would be added to income, not subtracted.

[Terry D EA]

Yes, the adjustment is positive as you have stated. Over stated the expense and understated income. After I re-read my post, I guess I was expected folks to read my mind. Too much depreciation claimed has a negative affect on net income and that amount is added as a postive to net income. Geez! Too Tired I guess.

[kcjenkins]

Okay, here is what I have taken from all of this. jasdim, thank you for directing me to page 13 of Pub 946. As you stated, it is only a Pub but it has cleared the mud from the waters. Use form 3115 to request a change in accounting for the incorrectly claimed depreciation from the IRS. I will look into the automatic approval mentioned in Revenue procedure 2008-52. If this is what I think it is, the approval should be automatic based on the amount. Once approval has been received, then an adjustment under section 841 is made and the incorrect amount of depreciation claimed is listed as other income on the 1120S and in this case, the total amount can be added this year. Now, I feel more comfortable with what has to take place and this is simplier and proper way to handle this.

Jainen, KC, or anyone else, if I still need some guidance here please feel free to give it. As usual, I can count on you guys to help when it is needed. THANK YOU!

You have it right, Terry. You calculate the amount of the correction through use of the 3115, then take the correction to the 1120S, as either and addition to Income or to Expense, as the case may be . In this case it will be an adjustment to Income.