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In September 2013, the Department of Treasury released long-expected final regulations governing what expenditures can be deducted as repairs in the year incurred, versus what must be depreciated over multiple years.  These new regulations, which are effective starting in 2014, and will govern this area of law for the foreseeable future, span several hundred pages in length.  As a result, this article provides only a basic introduction, and leaves out numerous special rules and exceptions.  The nature of these regulations is that they contain fairly sparse rules, accompanied by voluminous examples.  One goal of this article is to draw from these examples principles that may be particularly relevant to aircraft, even where the particular example may involve a different type of property.  The regulations are significant to aircraft owners because the timing of deduction of aircraft maintenance and upgrade expenses can have a large effect on tax liability.

At the core of the new rules is the concept of a property “improvement.”  If work done fits within the definition of an “improvement,” then that work’s costs must be capitalized, instead of being currently deducted.


Identifying the Unit of Property

Before determining whether an expense is for an “improvement,” the applicable “unit of property” must be identified.  The benchmark for what constitutes a unit is the “functional interdependence test.”  The concept of the unit-of-property question can be conveyed with a simple example: If you replace a screw on your aircraft, do the tax rules focus on just the screw (in which case you have 100% replaced the property), or on the whole aircraft (in which case you have made only a trivial change)?  The regulations define the unit of property as comprising all the components that are functionally interdependent in the sense that one component cannot be placed in service for its intended business function without placing the other components in service, as well.  This framework illustrates that, for aircraft owners, the unit of property will be the aircraft—not the screw, as in the above example, nor even more significant, discrete pieces of equipment such as a propeller or an engine.  The interdependence of each part’s use on the use of the aircraft, itself, renders the aircraft a single unit of property.  Even to a company that owns a fleet of aircraft, each individual aircraft is a distinct unit.  Likewise, the various components of an aircraft (such as engine or propeller) are not units; the aircraft is the unit.


Routine Maintenance

Routine maintenance for non-building property is not an improvement (i.e., it need not be capitalized).  Routine maintenance is defined as the recurring activities that a taxpayer expects to perform as a result of the taxpayer’s use of the unit of property to keep it in its ordinarily efficient operating condition.  These include inspection, cleaning, and testing, as well as the replacement of damaged or worn parts with comparable and commercially available replacement parts.  The activities are routine only if, at the time the unit of property is placed in service by the taxpayer, the taxpayer reasonably expects to perform the activities more than once during the class life (6-years for non-commercial aircraft, 12 for commercial)  Work is not routine maintenance if either it is primarily due to a prior owner’s use of the property, or it restores to ordinary operations property that has deteriorated to a dysfunctional state.  Work fitting into the definition of a betterment, or that adapts the property to another use, is also not routine maintenance.

A helpful example of routine maintenance identified in the regulation addresses a hypothetical airline whose engines require expected “engine shop visits” every 4 years.  During these visits, the engines are removed from the aircraft and sent off for inspection, cleaning, repair, or, potentially, replacement with a comparable engine.  The repaired/replacement engine is then returned to the airline for installation on another aircraft.  The regulation holds that, because the class life of the commercial aircraft is 12 years, and it was expected that the engines would make shop visits multiple times within this period, the visits constitute routine maintenance—even those continuing to occur more than 12 years after the airline acquired the aircraft and engine.  However, if the airline had acquired the aircraft/engine used, when it was approaching an engine-shop visit, the first visit would not be routine maintenance because it resulted primarily from a prior owner’s use.


What is an Improvement?

An improvement occurs if the unit of property undergoes, other than through routine maintenance: (1) betterment, (2) restoration, or (3) adaptation to another use.  Each of these three categories is further explained below.


            I. Betterment

Work is a betterment if it: (1) ameliorates a material condition or defect that predates the taxpayer’s ownership of the property, (2) is for a material improvement to the property’s capacity, or (3) is expected to materially improve the property’s productivity, efficiency, strength, quality or output.  Work that involves replacing parts with improved, but comparable, parts is not a betterment if the taxpayer cannot practically replace with the same type of part (for example, because of technological advancements or product enhancements).  In applying this definition, all facts and circumstances are taken into consideration.  Minor repairs needed shortly after acquisition may not be betterments where the defects corrected is not material.  Examples of non-material work from the regulation include equipment “inspection,” “retun[ing],” minor-component replacement, “oiling,” “cleaning,” and a manufacturer-recommended triennial maintenance event.

In determining whether a betterment has been made, the post-repair state is compared to a baseline state.  If the need for repair arose from damage that occurred during the taxpayer’s use, the baseline is the property’s condition immediately before the damage.  If the need arose from normal wear and tear during the taxpayer’s use, the baseline is either (1) if the taxpayer has repaired this aspect of the item before, its condition immediately after that repair, or (2) if not, the property’s condition when it was placed in service by the taxpayer.

One regulation example states that replacement of a building’s asbestos insulation with health-safe insulation that is no “more efficient or effective than the asbestos insulation” is not a betterment.  The example states that the building was built before the dangers of asbestos were known, and that the replacement neither corrects a defect, nor improves the building’s capacity, productivity, efficiency, strength, or quality.  This example seems to indicate that post-repair increases to property value do not necessarily signal a betterment, as well as that later-discovered technical or scientific problems with property may not be defects.

Another example makes clear that a modification needed to meet a regulatory requirement is not necessarily a betterment.  In the example, a meat processing plant was told by the fire marshal that it needs to add a concrete lining to its walls to prevent a fire hazard.  This was not a betterment because the plant was able to fulfill its function before the work, and the work did not aide its function.  The existence of a regulatory requirement to perform the work was not relevant to the question of betterment.  This could be particularly relevant to aircraft that are required to undergo changes due to airworthiness directives or service bulletins.  The example suggests that, if the aircraft was operating effectively before a change became mandated, that change may not be a betterment.

Yet another example that may have relevance to aircraft considers the owner of a chain of retail stores who undertakes a “building refresh” that includes cosmetic layout changes, paint, and redecorating of the building’s interior.  These changes are found not to be a betterment.  This could have application in analyzing aircraft paint and interior work.


            II. Restoration

Work is a restoration if: (1) it returns a non-functional unit of property to operating condition; (2) it replaces a major component or substantial structural part or set of parts, or (3) it restores property after the end of its class life to a like-new condition (as defined in either a federal regulatory guideline or the manufacturer’s specifications).  Following a comprehensive maintenance program generally does not cause property to meet the like-new test.  In particular, a regulation example describes an airline that performs routine maintenance, as well as heavy, extensive maintenance once every 10 years, and holds that the heavy maintenance does not cause the aircraft to experience a restoration under the like-new test.

Of these tests, the most frequently relevant to aircraft is the “major component” test.  A “major component” is defined as “a part or combination of parts that performs a discrete and critical function.”  However, an “incidental component,” even if it performs a discrete and critical function will not, by itself, constitute a major component.  An example given of an incidental component is the “power switch assembly” of a piece of equipment.  The regulation notes that, although this piece is critical in that the equipment cannot function without it, it is incidental, and its replacement is not a major-component restoration.  Application of the “major component” rule to aircraft poses significant challenges because many aircraft parts serve discrete and critical functions.  Presumably, this test requires the function to be both “discrete” and “critical.”  Natural questions include: Is an aircraft item “critical” only if the aircraft cannot fly (even illegally) without it?  Perhaps the focus on functionality, irrespective of regulatory requirements, that was expressed in the context of the betterment test has an analogy here.  Further, when redundant equipment is present, does this prevent both the primary and the back up equipment from serving a “discrete” function (e.g., the compass and the heading indicator are redundant; does that make them both non-discrete)?  Examples in the regulation suggest perhaps so—e.g., replacement of 3 out of 10 HVAC units in a building is not replacement of a significant portion of a major component.

The major-component rule presents an interesting question for aircraft engines, which are almost certainly major components.  In focusing on “replacement” rather than “repair,” does the major-component test treat the substitution of an engine due for overhaul with another recently overhauled engine differently from the overhauling of the existing engine?  If so, overhauling the existing engine (possibly with the aide of a loaner) may be much more advantageous.


            III. Adaptations to New Uses

Adaptations to new uses are improvements subject to capitalization.  This test is concerned with changes that adapt property to a new or different use that is inconsistent with the taxpayer’s ordinary use of the property at the time originally placed in service by the taxpayer.  This test would not seem to often apply to aircraft.  Most aircraft modifications or repairs will be consistent with its existing use.  An example would be certain changes needed to bring a Part 91 aircraft into compliance with Part 135.  Even though a taxpayer, perhaps, would not have made the changes if the aircraft were to remain solely Part 91, the changes are likely consistent with Part 91 use and, therefore, are likely not adaptations.  Examples of probable adaptations include be converting an aircraft from use in carrying passengers to use in carrying cargo, or refitting an aircraft to serve as an air ambulance.


Amount Subject to Depreciation/Expensing

The treatment dictated under the new rule applies to all direct costs of the improvement plus all indirect costs that either directly benefit from, or are incurred by reason of, the improvement.  Amounts that might otherwise have been presently deductible can be rendered only depreciable if they are for work done in conjunction with work that needs to be depreciated.  There is no allocation.  Thus, for example, if, an aircraft is disassembled for installation of an improvement, and the owner decides to take advantage of the disassembly to perform other non-improvement work that can be conveniently accessed due to the disassembly, the cost of the non-improvement work becomes a capital item (rather than a deductible repair) because the non-improvement benefited from the improvement.  This does not, however, mean that any given shop visit will be either entirely deductible or entirely capitalized.  If there is an improvement that occurs at the same time as non-improvement work, but that non-improvement did not benefit from, and was not incurred by reason of, the improvement, the non-improvement may still be currently deductible.

The amount to be capitalized may be incurred over more than one taxable year, and whether different amounts are related to the same improvement (and must therefore be depreciated together) depends on the facts and circumstances of the activities being performed and whether the costs are incurred by reason of a single improvement or directly benefit a single improvement.



The issue of whether the costs for repairs, improvements, or modifications of tangible property must be capitalized or may be presently expensed has long been fraught with ambiguity; to some extent it remains so.  The new regulations establish a clear framework for undertaking the analysis.  Work may be depreciable if it is non-routine, and either betters the property, restores it, or adapts it to another purpose.  Each of these descriptions carries with it a great number of specific rules.  This memorandum is not a definitive treatment of the subject.  Be sure to consult the regulations themselves, and a tax professional prior to making any decisions.


September 30, 2013


Jonathan Levy, Esq.

Legal Director

Advocate Consulting Legal Group, PLLC


Advocate Consulting Legal Group, PLLC is a law firm whose practice is limited to serving the needs of aircraft owners and operators relating to issues of income tax, sales tax, federal aviation regulations, and other related organizational and operational issues.


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