Alacare emphasizes periodic review of corporate policy on expensing of capital items.

• Author: Sair, Edward A.

In Alacare Home Health Services, Inc., TC Memo 2001-149, the Tax Court held that a corporate taxpayer could not rely on a specific dollar threshold as a basis for expensing capital items because the approach did not result in a clear reflection of income. Alacare should be a reminder to all taxpayers to perform periodic reviews of their expensing policy for capital items to ensure that it results in a clear reflection of income.

Taxpayers should maintain documentation of their policy for expensing, because it is reasonably likely that the IRS will request a copy during an audit. Further, taxpayers face a greater risk that the IRS will challenge their expensing practices if the amounts expensed under the policy constitute more than a fraction of their income or if a regulatory agency did not mandate the policy.

Facts

Alacare Home Health Services Inc. is a Medicare-certified home healthcare agency that uses the accrual method of accounting. Alacare was incorporated in 1982; since then, it has expensed all capital items for which it has paid less than $500. Alacare followed that practice in 1995 and 1996 (the years in dispute). The items expensed included computer equipment, furniture (such as desks, chairs and bookcases), tables and refrigerators.

As approximately 98% to 99% of Alacare's revenues are Medicare reimbursements, Alacare's expensing policy complies with Medicare guidelines for the capitalization of depreciable assets (contained in the Medicare Provider Reimbursement Manual issued by the Federal Health Care Financing Administration (HCFA)). The guidelines on providers' capitalization and expensing policies state:

[I]f a depreciable asset has at the time of its acquisition an estimated useful life of at least 2 years and a historical cost of at least $500, its costs must be capitalized, and written off ratably over the estimated useful life of the asset, using one of the approved methods of depreciation. If a depreciable asset has a historical cost of less than $500, or if the asset has a useful life of less than 2 years, its cost is allowable in the year it is acquired....

The guidelines also state, "[t]he provider may, if it desires, establish a: capitalization policy with lower minimum criteria, but under no circumstances may the above minimum limits be exceeded."

The Service issued a deficiency notice for 1995 and 1996, determining that Alacare's policy of expensing assets costing less than $500 was not a proper accounting...