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Qualified Improvement Property (QIP) was introduced to the federal tax code via the PATH Act of December 2015. Initially, QIP was conceived as a vehicle by which base building assets might become eligible for bonus depreciation when an existing building was improved. In the last five years however, QIP has evolved into a core strategy for improvement work to commercial real estate.
As is the case with many tax strategies, QIP has a number of important details that must be kept in mind. Let us start with the definition, as outlined under the PATH Act:
Any improvement to an interior portion of a building which is nonresidential real property if the improvement is placed-in-service after the date the building was first placed-in-service by any taxpayer. Exclusions also exist for any work done to elevator, escalator equipment, enlargements of a building or work to structural members of a building.
There are several noteworthy details within this definition. First, QIP focuses on interior work performed on an existing building. So, newly constructed buildings are not eligible for QIP treatment. Additionally, if a newly constructed building is owner-occupied and the building and improvements are placed-in-service simultaneously, those improvements are not eligible for QIP. However, if the core and shell is placed-in-service by the owner, and at some later time tenants lease space in the building, the amount paid for those tenant improvements would be eligible for QIP.
Second, the definition refers to non-residential property, meaning that residential properties are excluded. If you have a mixed-use building, an income test is required to determine if the building is depreciated as residential property (27.5-yr class life) or longer-lived commercial property (39-year class life). If less than 80% of the building’s income comes from residential sources, then the building is considered commercial property and appropriate improvements would in fact be eligible for QIP.
Next, the definition clearly excludes work done to elevators and escalators, as well as work that enlarges a building or work done on structural building members. These assets would retain their 39-year class lives.
Finally, the definition indicates that only real property is eligible for QIP. Real property is defined under Section 1250 as traditional 39-year assets. As such, assets defined as personal property under Section 1245, would be excluded from QIP eligibility. There is still much benefit to be had from this personal property though – they would be carved out separately in a cost segregation study and would be eligible for accelerated depreciation and bonus treatment.
Under the PATH Act, beginning 1/1/2016, assets meeting the definition of QIP were eligible for bonus according to the rate established for a given year, with the remaining basis being deprecated at 39-years.
The Tax Cuts for Jobs Act (TCJA) of 2018, and the subsequent CARES Act of 2020, ushered in an evolution to QIP. The same definition remained in place, but a major change went into practice starting January 2018, when QIP became subject to a 15-year MACRS straight line recovery period. A planning note for CPAs — remember that if 163(j) is elected to elect out of the interest deduction limitation, QIP becomes ADS 20 year life and is not eligible for bonus depreciation.
QIP is certainly a great asset to those looking for tax strategies in their coming tax filings. Under both the PATH Act and TCJA rules, you can leverage this strategy retroactively via a 3115. So, as you progress through this new year and are keeping an eye on the next tax filing, keep QIP in mind for all your capital retrofit work. Capstan is here to assist you with a Cost Segregation Study to ensure the improvement assets are broken down into the appropriate class lives – QIP, personal property, land improvements, or 39-year assets which are structural or external. As always, you can count on Capstan.