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Are Fees Capitalized Costs?

Are “impact fees” that are incurred in the construction of a new residential rental building capitalized costs allocable to the building? In one IRS ruling, the tax agency answered this question based on a project being constructed by one real estate developer.

IRS Revenue Ruling 2002-9 is favorable because it allows developers to recoup costly impact fees sooner as part of the building. Earlier IRS guidance took the position that the fees were land costs that had to be capitalized and couldn’t be recovered until the land was sold.

The developer intended to build a new residential rental building on raw land. However, the county where the building would be located imposes “impact fees” on these types of projects. Impact fees are one-time government assessments used to finance capital improvements for the general public such as schools, law enforcement, fire protection – that are necessary because of the development.

At the time the construction permit for the building was issued, the developer paid the impact fees. They were based on the size and projected number of units in the building. The IRS ruled that the impact fees result in a permanent improvement to the property and, therefore, must be capitalized as part of the building’s basis.

The ruling also concludes, however, that the impact fees are depreciable as part of the building. Furthermore, if the real estate developer qualifies for the low-income housing credit, the impact fees can be added to the building’s basis for this purpose.

Consult with your tax adviser for more information.

Hoffman Stewart & Schmidt, P.C. provides the information in this newsletter for general guidance only, and does not constitute the provision of legal advice, tax advice, accounting services, investment advice, or professional consulting of any kind. The information provided herein should not be used as a substitute for consultation with professional tax, accounting, legal, or other competent advisers. Before making any decision or taking any action, you should consult a professional adviser who has been provided with all pertinent facts relevant to your particular situation. Tax articles in this e-newsletter are not intended to be used, and cannot be used by any taxpayer, for the purpose of avoiding accuracy-related penalties that may be imposed on the taxpayer. The information is provided “as is,” with no assurance or guarantee of completeness, accuracy, or timeliness of the information, and without warranty of any kind, express or implied, including but not limited to warranties of performance, merchantability, and fitness for a particular purpose.

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