term or the period that would otherwise apply. For purposes of this rule, include renewal options in the lease (or other contract) term. Argument for the proposal Pros and Cons In general, assets are assigned to ACRS classes by reference to economic lives. At present, the prior-law ADR system is utilized as the best available measure of economic lives, although the Treasury Department is authorized to refine ACRS classifications after additional study of the economic lives. The lessor of an asset cannot satisfy IRS ruling guidelines regarding the definition of a leveraged lease unless the asset's useful life is equal to at least 125% of the lease term. Thus, in the case of an asset that is leased, the lease term provides independent evidence of the asset's minimal economic life. The term for which an asset is used under a service contract or financed provides similar evidence of economic life. Argument against the proposal The economic life of an asset is the same whether it is owned or leased by the user. The proposal would provide less generous depreciation for leased assets, and would discriminate against business enterprises that cannot afford to purchase equipment (because rentals would reflect the increased tax cost to the lessor). b. Limitations on depreciation deductions for luxury automobiles Present Law Depreciation deductions are subject to fixed dollar limitations for luxury automobiles. The limitations are $2,560 for the first taxable year in the recovery period, $4,100 for the second taxable year, $2,450 for the third taxable year, and $1,475 for each succeeding taxable year. The limitations are inapplicable to automobiles that are leased or held for leasing by any person regularly engaged in the business of leasing automobiles. A lessee's deductions for rentals are subject to reduction but only if the lease term is 30 days or more. The surrogate limitation imposed on lessees requires the prescription of special tables by the Internal Revenue Service ("IRS"). Possible Proposal Impose the limitations for luxury automobiles directly on the owner of leased automobiles. Arguments for the proposal Pros and Cons 1. Because the value of a very expensive automobile does not depreciate as quickly as that of a less expensive car, the degree of acceleration under the Accelerated Cost Recovery System (“ACRS”) would be greater for an expensive automobile that is leased but not subject to the luxury car limitations. The Congress determined that the investment incentive afforded by the ACRS should be directed to encourage capital formation rather than to subsidize the element of personal consumption associated with the use of expensive automobiles. These observations are equally applicable to automobiles that are leased for personal use; however, the current statute does not reach this case. 2. The imposition of a surrogate limitation on business lessees is inherently more complex than the rule that applies to owners of luxury automobiles. Under the current statute, the IRS is required to prescribe special tables, which provide for varying dollar limitations depending on factors such as the vehicle's fair market value, the number of days of the lease term included in the taxable year, and the amount of business use by the lessee. Arguments against the proposal 1. The surrogate limitation imposed on lessees is substantially equivalent to imposing a limitation on the lessor. 2. The imposition of a limitation on lessors would result in the payment of increased rentals by all lessees, and would unfairly burden lessees who do not deduct rentals because the leased automobile is used only for personal purposes. c. Income forecast method of amortization Amortization of intangibles Present Law The Accelerated Cost Recovery System ("ACRS") does not apply to intangible assets. Amortization allowances are available for intangible assets of limited useful life that are used in a business or held for the production of income. Generally, amortization allowances are computed using a straight-line method. Certain incomeproducing properties, such as motion picture and television films, may be amortized under the income forecast method which allocates costs proportionately to income expected to be produced. Look-back method for long-term contracts A taxpayer using the percentage of completion method with respect to a long-term contract is required to determine upon completion of the contract the amount of tax that would have been paid in each taxable year if the income from the contract had been computed by using the actual gross contract price and total contract costs, rather than the anticipated contract price and costs. Interest must be paid by the taxpayer if, applying this "lookback" method, there is an underpayment by the taxpayer with respect to a taxable year. Similarly, under the "lookback" method, interest must be paid to the taxpayer by the Internal Revenue Service if there is an overpayment. The rate of interest for both underpayments and overpayments is the rate applicable to overpayments of tax (i.e., the short-term Federal rate plus 2 percentage points). Possible Proposal Require taxpayers using the income forecast method with respect to an item of property to determine at the end of the property's useful life (or, if earlier, at the end of a specified period, such as five years) the amount of tax that would have been paid in each taxable year if the amortization allowance had been computed by using the actual income derived from the property, rather than the forecasted income. Interest would be paid by the taxpayer if, applying this "lookback" method, there is an underpayment by the taxpayer with respect to a taxable year, and interest would be paid to the taxpayer if, applying this "lookback" method, there is an overpayment. The "lookback" method could also be applied to other methods of depreciation or amortization that are not based on a useful life or recovery period, such as the unit-of-production method. Arguments for the proposal Pros and Cons 1. The use of the income forecast method results in the deferral of tax if the forecasted income is less than the actual income derived from the property. Thus, taxpayers have an incentive to underestimate income that will be derived from the property in later years. The "lookback" method generally will recapture any deferral benefit and negate this incentive. 2. The potential tax deferral available under the income forecast method may distort the allocation of capital and reduce economic efficiency. Arguments against the proposal 1. The "lookback" method may generate additional complexity and uncertainty for the taxpayer, and add to the enforcement burden of the Internal Revenue Service. 2. The application of the "lookback" method at the end of a specified period is arbitrary and may not properly recapture the deferral benefit. |