Depreciation method changes allowed without IRS consent.

• Author: O'Connell, Frank J., Jr.

If a business owner discovers material errors on depreciation schedules resulting in less than optimal depreciation expense in current and prior tax years, he cannot just make a simple correction. Instead, he must secure IRS consent before making any accounting-method change. As a result, he might decide against making these adjustments, fearing that the time, expense and paperwork (not to mention the threat of a Service audit) associated with simple depreciation corrections outweigh potential benefits.

However, correcting depreciation schedules may soon become routine. The recent Tax Court decision in Brookshire Brothers Holding, Inc., TC Memo 2001-150, may serve to simplify the process by which taxpayers make adjustments to their depreciation schedules, eliminating the need for the IRS's consent. In 1991, Brookshire Brothers (Brookshire) began transforming parking lot space at several of its convenience stores into gas stations, claiming depreciation expense over a 31.5- or 39-year recovery period on its 1993-1995 Federal income tax returns. Brookshire later amended these returns, relying on an Industry Specialization Program Coordinated Issue Paper for Petroleum and Retail Industries (ISP), with an effective date of March 1, 1995. The ISP indicates that a convenience store can qualify as 15-year property if it markets petroleum products as its primary purpose.

As a result, Brookshire reclassified its gas stations to 15-year property, recalculated depreciation expense for the 1993, 1994 and 1995 tax years, filed amended returns and received refunds. Brookshire also filed its 1996 and 1997 Federal returns using the 15-year classification. At no time did Brookshire file Form 3115, Application for Change in Method of Accounting, with the IRS.

Although the Service issued refunds for the 1993-1995 tax years, it issued Brookshire a notice of deficiency in December 1998 for the 1996 and 1997 tax years. The IRS cited Brookshire's failure to obtain consent prior to changing its method of accounting for its depreciation deduction. As a result, the Service reduced Brookshire's depreciation expense by a combined $550,000 for the 1996-1997 tax years.

Brookshire argued in Tax Court that the changes it made to its depreciation schedules for the 1996 and 1997 tax years were not accounting-method changes within the meaning of Sec. 446. It claimed that the reclassification from nonresidential 31.5- and 39-year property made to conform with the...