By David W. Hewett, RPA, CPM, CCIM, FMA, CFM
Published in the January 2006 issue of Today’s Facility Manager
Of all the components in a nonresidential facility that require regular maintenance, few are as expensive, important, and complex as the roof. While roofing systems are built to last for many years, the tax laws have lagged behind what facility managers know about the lifespan and performance of roofs. Changes are needed in depreciation laws to allow for more realistic lifespan schedules for roofs, leasehold improvements, and other capital assets.
Depreciation: Definitions And History
A capital asset is a piece of equipment, a building, system (like a roof), or a vehicle used in a business for several years. Costs for capital assets are written off for the same time period they earn income for a business. The cost must be spread out over the life of the asset, with an amount deducted each year and classified as a business expense. The cost of the asset is then recovered as the asset declines in value and wears out; depreciation is simply the process of deducting the cost of that asset over time.
A capital asset can be depreciated if it is used in business or held to produce income; is expected to last more than one year; or if it wears out, decays, gets used up, becomes obsolete, or loses value from natural causes.
In 1986, convenience store and gas station owners gained an exemption when a Congressional tax reform package allowed their business assets to be depreciated over 15-year periods. Investors in other businesses such as restaurants, commercial property, retail stores, and other types of facilities have sought similar relief for many years.
Different building components were previously allowed separate rates of depreciation. In 1981, Congress eliminated component depreciation and instituted a general depreciation period of 15 years for all building components. In 1993, the Omnibus Budget Reconciliation Act mandated that the recovery period be extended to 39 years to raise revenue.
While the 39-year depreciation schedule is still in effect, there have been calls for reform. Advocates of reform, led primarily by the National Roofing Contractors Association and supported by 26 other companies and trade associations in the Coalition for Realistic Roofing Tax Treatment (CRRTT), say there is a wide gap between the current depreciation schedule and the reality of roof maintenance and longevity.
Unfortunately, this call for a more realistic treatment for roofs and other capital expenses comes at a time of huge federal budget deficits, where some lawmakers are reluctant to support legislation that results in less money entering the treasury.
While no federal remedy has been offered, the government has recognized the negative effect the current schedule has had on facility management. In its report to Congress on depreciation recovery periods and methods in 2000, the U.S. Treasury Department detailed the effects of the current rules:
“The replacement of a roof results in a new asset being depreciated over…39 years, while depreciation of the initial roof (and any subsequent roof replacement) is continued. Consequently, there can be a ‘cascading’ effect, where several roofs are being depreciated at the same time, even though only one is physically present.”
In an effort to encourage change, advocates have looked for research to help make the case for a shorter depreciation schedule. A 2002 study by Deloitte & Touche, New York, found that the 39-year schedule provided an investment recovery that was too slow and needs revision.
Supporters of depreciation reform also point to a 2003 study by Ducker Worldwide, an industrial research firm. The study researched nonresidential buildings and made forecasts on the impact of a shorter depreciation schedule for roofing systems.
One of the most significant findings of the study was that the current aggregate low slope roofing life span was estimated at 17.45 years—less than half the current depreciation cycle mandated by the government.
Another potential benefit of a shorter schedule that emerged from the Ducker report was energy conservation. The past few years have made it clear that energy consumption habits need to be re-evaluated. The Northeast blackout in 2003, the West Coast energy crisis, and spikes in gas prices after Hurricane Katrina reinforced a need to be more energy efficient. Research has demonstrated that roof performance and design can play a major role in energy efficiency and savings on utility bills.
Ducker found that over 90% of respondents said they increase the value of insulation when reroofing or when planning to reroof and note an increasing trend toward the use of EPA Energy Star products. More than 75% of respondents consider the energy value of a roofing system before making a change.
Since the 39-year depreciation period was instituted in 1993, efforts have been made to bring the schedule in line with the realities of roofing. The CRRTT has stated the case before Congress, and change may be coming.
In 2003, President Bush signed into law a corporate tax bill that temporarily reduced the depreciation period for leasehold improvements from 39 years (the rate of the building structure itself) to 15 years. However, without Congressional action, the depreciation period would have reverted to 39 years on January 1, 2006. [At presstime, both the House and the Senate had passed tax reconciliation packages, which included the extension of the depreciation period for another year. However, final action had not yet been taken.]
The Realistic Roofing Tax Treatment Act of 2005 (H.R. 1510) was introduced by Rep. Mark Foley (R-FL) and Rep. Stephanie Tubbs Jones (D-OH) in April 2005. It would reduce the depreciation recovery period for commercial roof systems from the present 39-year schedule to a 20-year period. Sen. Jim Bunning (R-KY) introduced the Senate companion bill (S. 1200) in June 2005. [This legislation can be accessed by visiting www.Thomas.loc.gov and searching by bill number.]
Efforts to extend several of the so called expiring tax provisions permanently, including leasehold depreciation and capital gains, were anticipated in Congress’ Fall 2005 tax reconciliation bill. However, action seems unlikely due to the budget limitations that will almost certainly be imposed in the aftermath of Hurricanes Katrina and Rita.
For too long, facilities have operated under a restrictive tax code that does not reflect the actual factors affecting the buildings. Passage of the Realistic Roofing Tax Treatment Act may help to bring a more appropriate balance to decisions impacting roofing maintenance and systems.
Hewett is chairman and chief elected officer of the Building Owners and Managers Association (BOMA) International and principal for Trammell Crow Company in Auburn Hills, MI.