The IRS recently released Rev. Proc. 2023-9, which obsoletes Rev. Proc. 92-29 and provides new rules and conditions for a revised safe harbor method for real estate developers to include common improvement costs in the basis of real property units that are held for sale (the “Alternative Cost Method”).
Under the economic performance requirement in Section 461(h), developers cannot include common improvement costs on the basis of units if the costs have not been incurred by the time the units are sold. Rev. Proc. 92-29 provided a safe harbor method that allowed developers to include the estimated costs of common improvements on the basis of units without satisfying the economic performance requirements of Section 461(h) (the “92-29 method”). However, there were additional requirements for taxpayers to use the 92-29 method, including filing an annual statement, which the IRS recognized as an administrative burden. Other aspects of Rev. Proc. 92-29 — including the manner of filing statements and obtaining consent, in addition to references to the Tax Equity and Fiscal Responsibility Act of 1982 — were similarly outdated.
Rev. Proc. 2023-9 provides a similar safe harbor to Rev. Proc. 92-29, but removes the following burdensome requirements under Rev. Proc. 92-29:
- Extending the statute of limitations on the return for the year in which the 92-29 method was being used
- Filing an annual statement with the District Director for each project for which the 92-29 method was used
- Filing for consent to use the 92-29 method for a project
Rev. Proc. 2023-9 also provides guidance on applying the Alternative Cost Method for contracts accounted for under Section 460, and record retention rules.
The revised Alternative Cost Method is effective for tax years beginning after Dec. 31, 2022. A change to the Alternative Cost Method under Rev. Proc. 2023-9 is a change in method of accounting under Sections 446 and 481 and requires filing a Form 3115, Application for Change in Method of Accounting.
Rev. Proc. 2023-9 temporarily adds new automatic procedures for three situations as of the first taxable year beginning after Dec. 31, 2022:
- Taxpayers that want to change to the Alternative Cost Method for all qualifying projects
- Taxpayers using the 92-29 method for some projects and an accrual method under Section 461 for others that wish to continue to use the accrual method under Section 461 for certain projects in progress but use the Alternative Cost Method for all new qualifying projects
- Taxpayers that wish to change from the 92-29 method to an accrual method under Section 461 for all qualifying projects
In certain cases, taxpayers may use a “short Form 3115,” which is generally less burdensome.
Depending on a taxpayer’s situation, this method could provide significant tax benefits with less burden to meet the safe harbor requirements.
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