IRS Logo
Print - Click this link to Print this page

Transition Rules for Taxpayers Adopting the Safe Harbor Method of Accounting for Electric Transmission and Distribution Property

LB&I Control No: LB&I 4-1111-019
Impacted IRM 4.51.5

November 25, 2011

MEMORANDUM FOR INDUSTRY DIRECTORS
DIRECTOR, FIELD SPECIALISTS
DIRECTOR, PRE-FILING AND TECHNICAL GUIDANCE
DIRECTOR, INTERNATIONAL BUSINESS COMPLIANCE
FROM: Cheryl P. Claybough /s/ Cheryl P. Claybough
Acting Industry Director Natural Resources and Construction
SUBJECT: Large Business & International Directive Transition Rules for Taxpayers Adopting the Safe Harbor Method of Accounting for Electric Transmission and Distribution Property

This memorandum provides direction to the field in the examination of a taxpayer eligible to change to the transmission and distribution property safe harbor method described in Rev. Proc. 2011-43. Rev. Proc. 2011-43 provides a method for taxpayers to determine whether expenditures to maintain, replace, or improve electric transmission and distribution property must be capitalized under I.R.C. § 263(a) or are deductible under I.R.C. § 162. This directive applies to taxpayers who are eligible to use the Rev. Proc. 2011-43 safe harbor, whether or not a change to the safe harbor method of accounting has been filed.

The use of the safe harbor included in this Revenue Procedure is only permitted under the terms and conditions contained therein, and should not be considered for purposes of resolving capitalization issues in prior open exam years under any circumstances. This directive provides the guidance for addressing prior open exam years.

Taxpayers that transmit and distribute electricity incur significant expenditures to maintain, replace, and improve transmission and distribution property.  For those taxpayers eligible to adopt the unit of property definitions and safe harbor provisions provided in Rev. Proc. 2011-43, this directive sets forth guidance to the field related to closing current examination activity relating to capital versus repair treatment for expenditures on utility electric transmission and distribution property.

Planning and Examination Guidance - Tax Years Ending Before December 31, 2010

For  taxable years ending before December 31, 2010, examiners should discontinue current examination activity involving whether costs incurred to maintain, replace, or
improve electric transmission and distribution property must be capitalized under I.R.C. § 263(a).  This discontinuation only applies to positions taken on original returns filed for the years ending before December 31, 2010.  Please contact Douglas E. Toney, Utilities Technical Specialist at (972) 308-1166 for guidance on claims. 

Revenue Procedure 2011-43 waives the scope limitations for a request to change a method of accounting, which normally apply to a taxpayer under examination, for the taxpayer’s first and second taxable year ending after December 30, 2010.  If a taxpayer with applicable asset expenditures has not adopted the safe harbor method pursuant to Rev. Proc. 2011-43 for its first or second taxable year ending after December 30, 2010, the examiner should follow the guidance under Planning and Examination Guidance – Tax Years Ending On or After December 31, 2010, as provided in the next section.   

Discontinuing the examination of the capital versus repair expense issue should include the following steps:

  • Withdraw Forms 4564, Information Document Request, or portions thereof, relating to the development of this issue for transmission and distribution property.
  • Withdraw all outstanding Forms 5701, Notice of Proposed Adjustment, which propose an adjustment to repair expenses related to whether costs incurred to maintain, replace, or improve electric transmission and distribution property must be capitalized under I.R.C. § 263(a).
  • Develop and issue a Form 5701 with a Form 886-A, Explanation of Adjustments, containing the following language:

The Service neither accepts nor rejects the position stated in the tax return related to the method to determine the proper repair expense with respect to electric transmission and distribution property. [Insert taxpayer name] will be allowed a two-year period to adopt the safe harbor method provided in Rev. Proc. 2011-43.  If the safe harbor method is adopted, a change in method of accounting can be made in accordance with Section 7 of the applicable revenue procedure for all of the transmission and distribution property.  If [Insert taxpayer name] has not adopted the safe harbor method in its first or second taxable year ending after December 30, 2010, the repair expense will be subject to risk assessment and possible examination for tax years ending on or after December 31, 2010.

  • After the taxpayer has signed the Form 5701 with the 886A, Explanation of Adjustments, upload the documents into the Information Management System (IMS) to substantiate for the subsequent examination team that the taxpayer was notified of the Service's position to discontinue the issue.
  • Complete the Form 5346, Examination Information Report, in accordance with the specific instructions provided for this issue located on the Deductible and Capital Expenditures Issue Practice Group (IPG) website.
  • Confirm the issue was input into IMS as follows: UIL 263.14-01, and Issue Tracking Attribute Code 1400.

Planning and Examination Guidance - Tax Years Ending On or After December 31, 2010

When examining returns of utility companies for taxable years ending on or after December 31, 2010, examiners should determine if the taxpayer filed a Form 3115, Application for Change in Accounting Method, to adopt the safe harbor method provided in Rev. Proc. 2011-43.

  • If the taxpayer adopted the safe harbor method, the examiner should determine if the adoption is consistent with the Rev. Proc. 2011-43.  If the adoption is not consistent, then a determination needs to be made whether the taxpayer correctly adopted the method and the examiner should consult with the Deductible and Capital Expenditures Issue Practice Group for further guidance.
  • Rev. Proc. 2011-43 section 5.03(3) provides a transition rule for the first three taxable years ending on or after December 31, 2010, permitting taxpayers to determine the percentage of a unit of linear property replaced based on average circuit length within a county or geographic area similar to a county, such as a parish, borough, or other similar geographic division.  Examiners should not challenge a taxpayer’s ability to use the transition rule for tax years ending before January 1, 2014.  

True-up Requirement.  When performing the risk assessment, the examiner should also consider the accuracy of the I.R.C. § 481(a) adjustment.  If prior to the issuance of Rev. Proc. 2011-43, the taxpayer filed a Form 3115 to change the treatment of expenditures for transmission or distribution property, then the I.R.C. § 481(a) adjustment resulting from a change to the Rev. Proc. 2011-43 safe harbor method (“new I.R.C. § 481(a) adjustment”) should account for any previous I.R.C. § 481(a) adjustment (“old I.R.C. § 481(a) adjustment”).  The taxpayer should also ensure that the new I.R.C. § 481(a) adjustment properly accounts for electric transmission and distribution property repair expenses that were computed under the taxpayer’s prior method and deducted under

I.R.C. § 162 in the interim years between the old and new I.R.C. § 481 adjustments.  When changing to the Rev. Proc. 2011-43 safe harbor, a taxpayer must take the entire net § 481(a) adjustment into account (whether positive or negative) in computing taxable income in the year of change.  

If the taxpayer did not adopt the safe harbor method, then the agent should perform a risk assessment to determine the materiality of the repair deduction claimed with respect to the electric transmission and distribution property.  If the result of the risk
assessment is deemed to be material, the examiner should examine the deduction utilizing I.R.C. § 263(a) and the Treasury Regulations thereunder. 

If you have any questions, please contact the Deductible and Capital Expenditures IPG.

This Directive is not an official pronouncement of law and cannot be used, cited, or relied upon as such.

cc:  Commissioner, LB&I
       Deputy Commissioner, Operations
       Deputy Commissioner, International
       Division Counsel, LB&I
       Chief, Appeals
       Directors, Field Operations
       Director, Pre-filing and Technical Guidance

Page Last Reviewed or Updated: 13-Feb-2014