Discussion:Leasehold Improvements - Business Purchase

Does anyone know how existing leasehold improvements are handled when you purchase a business under lease? Does it matter if the new tenant (purchaser) re-negotiates a new lease with the landlord as opposed to taking over the existing lease?

I found this regulation below and am trying to decide if it applies to this situation.

Thanks for you input.

Treasury Regulations, Subchapter A, Sec. 1.162-11 From TaxAlmanac, A Free Online Resource Note: You are using this website at your own risk, subject to our Disclaimer and Website Use and Contribution Terms. From TaxAlmanac Jump to: navigation, search Sec. 1.162-11 Rentals

(a) Acquisition of a leasehold. If a leasehold is acquired for business purposes for a specified sum, the purchaser may take as a deduction in his return an aliquot part of such sum each year, based on the number of years the lease has to run. Taxes paid by a tenant to or for a landlord for business property are additional rent and constitute a deductible item to the tenant and taxable income to the landlord, the amount of the tax being deductible by the latter. For disallowance of deduction for income taxes paid by a lessee corporation pursuant to a lease arrangement with the lessor corporation, see section 110 and the regulations thereunder. See section 178 and the regulations thereunder for rules governing the effect to be given renewal options in amortizing the costs incurred after July 28, 1958 of acquiring a lease. See §1.197–2 for rules governing the amortization of costs to acquire limited interests in section 197 intangibles.

(b) Improvements by lessee on lessor's property. (1) The cost to a lessee of erecting buildings or making permanent improvements on property of which he is the lessee is a capital investment, and is not deductible as a business expense. If the estimated useful life in the hands of the taxpayer of the building erected or of the improvements made, determined without regard to the terms of the lease, is longer than the remaining period of the lease, an annual deduction may be made from gross income of an amount equal to the total cost of such improvements divided by the number of years remaining in the term of the lease, and such deduction shall be in lieu of a deduction for depreciation. If, on the other hand, the useful life of such buildings or improvements in the hands of the taxpayer is equal to or shorter than the remaining period of the lease, this deduction shall be computed under the provisions of section 167 (relating to depreciation).

The seller and buyer can agree to an allocation of the purchase price. Actually, there is a form on which to so this. Was this form prepared originally?

Sometimes there is no Section 197 intangibles allocation, maybe the last tier.

Your research for leaseholds gives your the about leaseholds, but not much about how to determine the amount of the allocation of the purchase price to the various tiers.

I would think based on your citations the used of the 39 class life maybe incorrect.

Renegotiation of the lease after the purchase probably is post closing event and would not mostly retroactively affect the allocations.

But even if the seller reports leasehold improvements as part of the sell price on form 8594, does that mean that my client has to necessarily depreciate them over 39 years?

The problem for the IRS is that the purchaser may have only acquired the lease agreement (a right to rent)and an no actual title of any leaseholds. In addition, the purchaser did not necessarily pay for the leaseholds. Or a new lease or location could have been acquired on more favorable terms. The buyer also may initially not wanted to have the lease as part of the sale because the more favorable terms which are available. The seller mostly likely did not want to retain the lease after the sale. The correct position would have and could be a difficult issue. As the leasee you mostly don't have complete (fee simple) legal title to the leaseholds. Not what? Did the buyer actually purchase the leasehold, or just the rigth to use them?

With these problems in mind, I would suggest this is the correct answer as to the 39 year life question.

"a) Acquisition of a leasehold. If a leasehold is acquired for business purposes for a specified sum, the purchaser may take as a deduction in his return an aliquot part of such sum each year, based on the number of years the lease has to run."

With respect to the discussion about the leasehold, doesn't that relate to acquiring a lease, not leasehold improvements?

Who knows I can only tell anybody to read the agreements, do the required allocations. You and I don't know what the agreement contains and as result, a definite or clear answer is not always possible.

I think the facts are he acquired the lease and then entered into a new lease, however, the facts are clear on that point.

Anyway, it may call for a 3115 if the returns are amended.

Suggestions, things to consider, places to read and look, is about all I am willing to do.