Real and Personal Property: Federal Tax vs. Property Tax

Every year, businesses are required to report their various assets for federal and property tax purposes. Countless taxpayers make the mistake of simply reporting the same amounts on two different returns. This easy but incorrect practice can have dangerous consequences, such as double taxation of assets and improper reporting.

McGuire Sponsel’s fixed asset and property tax consultants can guide taxpayers through this reporting process and ensure they receive the maximum tax benefit while maintaining proper compliance.

When reporting assets for federal tax purposes, both real property and personal property must be accounted for on annual returns. Real property, often referred to as real estate, is land and anything built on or attached to it. Personal property is any property other than real estate that is movable and not permanently fixed to one location.

U.S. tax law allows businesses to deduct a portion of these asset costs on an annual basis relative to the asset’s useful life. This practice, commonly known as depreciation, can be a very effective tax planning tool as yearly depreciation expenses reduce taxable income. Unfortunately for the taxpayer, this reclassification of assets into real property and personal property doesn’t happen automatically.

In fact, all assets are treated as real property by default. The IRS recommends an individual with expertise and experience in the construction process and tax law use detailed methodology to make these reclassifications. If you are not currently taking advantage of the benefits of accelerated depreciation, consider reaching out to a Fixed Asset consultant at McGuire Sponsel today.

While real property is depreciated over 39 years (27.5 years if residential), personal property can most commonly be depreciated over 15, 7, or 5 years, depending on the specific asset class. Additionally, personal property may be eligible for additional first-year depreciation or bonus depreciation. Personal property’s shorter useful life – combined with the potential for bonus depreciation – allows the taxpayer to recoup the cost of an asset at a much faster rate than real property. The benefit of this practice is realized by way of a yearly depreciation expense that reduces the taxpayer’s taxable income. Therefore, it is advantageous for the taxpayer to maximize personal property and minimize real property when reporting assets for federal tax purposes.

State and local laws defining personal property are in general agreement that personal property is movable. However, the more complex cases include situations where property that was once moveable becomes affixed or attached to a building. These items are referred to as fixtures or building components.

The general rule is a three-part test:

    1. If the intention was to annex the item to the realty,
    2. It is adapted to the use of the realty, and
    3. The intention is to leave the fixture annexed indefinitely, the removal of which would cause damage to the fixture or the realty.

When a fixture meets this test, then it is considered real property.

Different assets that perform the same function might be treated differently from a state and local perspective. For example, portable AC wall units are often considered personal property, whereas roof-mounted HVAC units are regarded as real property.

Thus, in states that tax personal property, a county assessor expects to see the potable AC units reported on the annual personal property tax returns, whereas the HVAC units should not be reported. For reportable personal property, the assessor develops a value using depreciation tables, which vary according to the asset lives.

These tables differ from those used by the IRS and vary widely among state and local assessing jurisdictions. Tax advisors should be careful and not adopt the Federal asset lives for the state personal property renditions. For example, the beneficial 15-year life granted to car wash structures for federal tax purposes should NOT result in the advisor reporting the building costs under a 15-year life on the renditions.

Such an action would likely result in double taxation with the client paying both real and personal property tax on the same assets. Depending on the jurisdiction, requesting a refund or credit for the overpayment may be possible. McGuire Sponsel can file refund claims to the extent permitted by law.

Please reach out to the McGuire Sponsel Fixed Asset Services team with any questions on real and personal property.

Austin Brown is a manager for the Fixed Asset Services practice. He leads the Fixed Assets practice improvement/development team and efficiently manages our Cost Segregation study project workflow.

As Principal for McGuire Sponsel’s Property Tax practice, Ken Zdrok manages real property assessment review and appeals, personal property assessment review and appeals, pre-acquisition advising, and acquisition price allocation consulting.

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