Title 26—Internal Revenue--Volume 1
PART 1—INCOME TAXES
§ 1.48-1   Definition of section 38 property.
(a) In general. Property which qualifies for the credit allowed by section 38 is known as “section 38 property”. Except as otherwise provided in this section, the term “section 38 property” means property (1) with respect to which depreciation (or amortization in lieu of depreciation) is allowable to the taxpayer, (2) which has an estimated useful life of 3 years or more (determined as of the time such property is placed in service), and (3) which is (i) tangible personal property, (ii) other tangible property (not including a building and its structural components) but only if such other property is used as an integral part of manufacturing, production, or extraction, or an integral part of furnishing transportation, communications, electrical energy, gas, water, or sewage disposal services by a person engaged in a trade or business of furnishing any such service, or is a research or storage facility used in connection with any of the foregoing activities, (iii) an elevator or escalator which satisfies the conditions of section 48(a)(1)(C), or (iv) in the case of a qualified rehabilitated building, that portion of the basis which is attributable to qualified rehabilitation expenditures. The determination of whether property qualifies as section 38 property in the hands of the taxpayer for purposes of the credit allowed by section 38 must be made with respect to the first taxable year in which such property is placed in service by the taxpayer. See paragraph (d) of § 1.46-3. For the meaning of “estimated useful life”, see paragraph (e) of § 1.46-3. In the case of property which is not described in section 50, this paragraph shall be applied by substituting “4 years” for “3 years”.
(b) Depreciation allowable. (1) Property (with the exception of property described in section 48(a)(1)(F) and paragraph (p) of this section) is not section 38 property unless a deduction for depreciation (or amortization in lieu of depreciation) with respect to such property is allowable to the taxpayer for the taxable year. A deduction for depreciation is allowable if the property is of a character subject to the allowance for depreciation under section 167 and the basis (or cost) of the property is recovered through a method of depreciation, including, for example, the unit of production method and the retirement method as well as methods of depreciation which measure the life of the property in terms of years. If property is placed in service (within the meaning of paragraph (d) of § 1.46-3) in a trade or business (or in the production of income), but under the taxpayer's depreciation practice the period for depreciation with respect to such property begins in a taxable year subsequent to the taxable year in which such property is placed in service, then a deduction for depreciation shall be treated as allowable with respect to such property in the earlier taxable year (or years). Thus, for example, if a machine is placed in service in a trade or business in 1963, but the period for depreciation with respect to such machine begins in 1964, because the taxpayer uses an averaging convention (see § 1.167(a)-10) in computing depreciation, then, for purposes of determining whether the machine qualifies as section 38 property, a deduction for depreciation shall be treated as allowable in 1963.
(2) If, for the taxable year in which property is placed in service, a deduction for depreciation is allowable to the taxpayer only with respect to a part of such property, then only the proportionate part of the property with respect to which such deduction is allowable qualifies as section 38 property for the purpose of determining the amount of credit allowable under section 38. Thus, for example, if property is used 80 percent of the time in a trade or business and is used 20 percent of the time for personal purposes, only 80 percent of the basis (or cost) of such property qualifies as section 38 property. Further, property does not qualify to the extent that a deduction for depreciation thereon is disallowed under section 274 (relating to disallowance of certain entertainment, etc., expenses).
(3) If the cost of property is not recovered through a method of depreciation but through a deduction of the full cost in one taxable year, for purposes of subparagraph (1) of this paragraph a deduction for depreciation with respect to such property is not allowable to the taxpayer. However, if an adjustment with respect to the income tax return for such taxable year requires the cost of such property to be recovered through a method of depreciation, a deduction for depreciation will be considered as allowable to the taxpayer.
(4) If depreciation sustained on property is not an allowable deduction for the taxable year but is added to the basis of property being constructed, reconstructed, or erected by the taxpayer, for purposes of subparagraph (1) of this paragraph a deduction for depreciation shall be treated as allowable for the taxable year with respect to the property on which depreciation is sustained. Thus, if $1,000 of depreciation sustained with respect to property No. 1, which is placed in service in 1964 by taxpayer A, is not allowable to A as a deduction for 1964 but is added to the basis of property being constructed by A (property no. 2), for purposes of subparagraph (1) of this paragraph a deduction for depreciation shall be treated as allowable to A for 1964 with respect to property no. 1. However, the $1,000 amount is not included in the basis of property no. 2 for purposes of determining A's qualified investment with respect to property no. 2. See paragraph (c)(1) of § 1.46-3.
(c) Definition of tangible personal property. If property is tangible personal property it may qualify as section 38 property irrespective of whether it is used as an integral part of an activity (or constitutes a research or storage facility used in connection with such activity) specified in paragraph (a) of this section. Local law shall not be controlling for purposes of determining whether property is or is not “tangible” or “personal”. Thus, the fact that under local law property is held to be personal property or tangible property shall not be controlling. Conversely, property may be personal property for purposes of the investment credit even though under local law the property is considered to be a fixture and therefore real property. For purposes of this section, the term “tangible personal property” means any tangible property except land and improvements thereto, such as buildings or other inherently permanent structures (including items which are structural components of such buildings or structures). Thus, buildings, swimming pools, paved parking areas, wharves and docks, bridges, and fences are not tangible personal property. Tangible personal property includes all property (other than structural components) which is contained in or attached to a building. Thus, such property as production machinery, printing presses, transportation and office equipment, refrigerators, grocery counters, testing equipment, display racks and shelves, and neon and other signs, which is contained in or attached to a building constitutes tangible personal property for purposes of the credit allowed by section 38. Further, all property which is in the nature of machinery (other than structural components of a building or other inherently permanent structure) shall be considered tangible personal property even though located outside a building. Thus, for example, a gasoline pump, hydraulic car lift, or automatic vending machine, although annexed to the ground, shall be considered tangible personal property.
(d) Other tangible property —(1) In general. In addition to tangible personal property, any other tangible property (but not including a building and its structural components) used as an integral part of manufacturing, production, or extraction, or as an integral part of furnishing transportation, communications, electrical energy, gas, water, or sewage disposal services by a person engaged in a trade or business of furnishing any such service, or which constitutes a research or storage facility used in connection with any of the foregoing activities, may qualify as section 38 property.
(2) Manufacturing, production, and extraction. For purposes of the credit allowed by section 38, the terms “manufacturing”, “production”, and “extraction” include the construction, reconstruction, or making of property out of scrap, salvage, or junk material, as well as from new or raw material, by processing, manipulating, refining, or changing the form of an article, or by combining or assembling two or more articles, and include the cultivation of the soil, the raising of livestock, and the mining of minerals. Thus, section 38 property would include, for example, property used as an integral part of the extracting, processing, or refining of metallic and nonmetallic minerals, including oil, gas, rock, marble, or slate; the construction of roads, bridges, or housing; the processing of meat, fish or other foodstuffs; the cultivation of orchards, gardens, or nurseries; the operation of sawmills, the production of lumber, lumber products or other building materials; the fabrication or treatment of textiles, paper, leather goods, or glass; and the rebuilding, as distinguished from the mere repairing, of machinery.
(3) Transportation and communications businesses. Examples of transportation businesses include railroads, airlines, bus companies, shipping or trucking companies, and oil pipeline companies. Examples of communications businesses include telephone or telegraph companies and radio or television broadcasting companies.
(4) Integral part. In order to qualify for the credit, property (other than tangible personal property and research or storage facilities used in connection with any of the activities specified in subparagraph (1) of this paragraph) must be used as an integral part of one or more of the activities specified in subparagraph (1) of this paragraph. Property such as pavements, parking areas, inherently permanent advertising displays or inherently permanent outdoor lighting facilities, or swimming pools, although used in the operation of a business, ordinarily is not used as an integral part of any of such specified activities. Property is used as an integral part of one of the specified activities if it is used directly in the activity and is essential to the completeness of the activity. Thus, for example, in determining whether property is used as an integral part of manufacturing, all properties used by the taxpayer in acquiring or transporting raw materials or supplies to the point where the actual processing commences (such as docks, railroad tracks and bridges), or in processing raw materials into the taxpayer's final product, would be considered as property used as an integral part of manufacturing. Specific examples of property which normally would be used as an integral part of one of the specified activities are blast furnaces, oil and gas pipelines, railroad tracks and signals, telephone poles, broadcasting towers, oil derricks, and fences used to confine livestock. Property shall be considered used as an integral part of one of the specified activities if so used either by the owner of the property or by the lessee of the property.
(5) Research or storage facilities. (i) If property (other than a building and its structural components) constitutes a research or storage facility and if it is used in connection with an activity specified in subparagraph (1) of this paragraph, such property may qualify as section 38 property even though it is not used as an integral part of such activity. Examples of research facilities include wind tunnels and test stands. Examples of storage facilities include oil and gas storage tanks and grain storage bins. Although a research or storage facility must be used in connection with, for example, a manufacturing process, the taxpayer-owner of such facility need not be engaged in the manufacturing process.
(ii) In the case of property described in section 50, property will constitute a storage facility only if the facility is used principally for the bulk storage of fungible commodities. Bulk storage means the storage of a commodity in a large mass prior to its consumption or utilization. Thus, if a facility is used to store oranges that have been sorted and boxed, it is not used for bulk storage.
(e) Definition of building and structural components. (1) Generally, buildings and structural components thereof do not qualify as section 38 property. See, however, section 48(a)(1)(E) and (g), and § 1.48-11 (relating to investment credit for qualified rehabilitated building). The term “building” generally means any structure or edifice enclosing a space within its walls, and usually covered by a roof, the purpose of which is, for example, to provide shelter or housing, or to provide working, office, parking, display, or sales space. The term includes, for example, structures such as apartment houses, factory and office buildings, warehouses, barns, garages, railway or bus stations, and stores. Such term includes any such structure constructed by, or for, a lessee even if such structure must be removed, or ownership of such structure reverts to the lessor, at the termination of the lease. Such term does not include (i) a structure which is essentially an item of machinery or equipment, or (ii) a structure which houses property used as an integral part of an activity specified in section 48(a)(1)(B)(i) if the use of the structure is so closely related to the use of such property that the structure clearly can be expected to be replaced when the property it initially houses is replaced. Factors which indicate that a structure is closely related to the use of the property it houses include the fact that the structure is specifically designed to provide for the stress and other demands of such property and the fact that the structure could not be economically used for other purposes. Thus, the term “building” does not include such structures as oil and gas storage tanks, grain storage bins, silos, fractionating towers, blast furnaces, basic oxygen furnaces, coke ovens, brick kilns, and coal tipples.
(2) The term “structural components” includes such parts of a building as walls, partitions, floors, and ceilings, as well as any permanent coverings therefor such as paneling or tiling; windows and doors; all components (whether in, on, or adjacent to the building) of a central air conditioning or heating system, including motors, compressors, pipes and ducts; plumbing and plumbing fixtures, such as sinks and bathtubs; electric wiring and lighting fixtures; chimneys; stairs, escalators, and elevators, including all components thereof; sprinkler systems; fire escapes; and other components relating to the operation or maintenance of a building. However, the term “structural components” does not include machinery the sole justification for the installation of which is the fact that such machinery is required to meet temperature or humidity requirements which are essential for the operation of other machinery or the processing of materials or foodstuffs. Machinery may meet the “sole justification” test provided by the preceding sentence even though it incidentally provides for the comfort of employees, or serves, to an insubstantial degree, areas where such temperature or humidity requirements are not essential. For example, an air conditioning and humidification system installed in a textile plant in order to maintain the temperature or humidity within a narrow optimum range which is critical in processing particular types of yarn or cloth is not included within the term “structural components”. For special rules with respect to an elevator or escalator, the construction, reconstruction, or erection of which is completed by the taxpayer after June 30, 1963, or which is acquired after June 30, 1963, and the original use of which commences with the taxpayer and commences after such date, see section 48(a)(1)(C) and paragraph (m) of this section.
(f) Intangible property. Intangible property, such as patents, copyrights, and subscription lists, does not qualify as section 38 property. The cost of intangible property, in the case of a patent or copyright, includes all costs of purchasing or producing the item patented or copyrighted. Thus, in the case of a motion picture or television film or tape, the cost of the intangible property includes manuscript and screenplay costs, the cost of wardrobe and set design, the salaries of cameramen, actors, directors, etc., and all other costs properly includible in the basis of such film or tape. In the case of a book, the cost of the intangible property includes all costs of producing the original copyrighted manuscript, including the cost of illustration, research, and clerical and stenographic help. However, if tangible depreciable property is used in the production of such intangible property, see paragraph (b)(4) of this section.
(g) Property used outside the United States —(1) General rule. (i) Except as provided in subparagraph (2) of this paragraph, the term “section 38 property” does not include property which is used predominantly outside the United States (as defined in section 7701(a)(9)) during the taxable year. The determination of whether property is used predominantly outside the United States during the taxable year shall be made by comparing the period of time in such year during which the property is physically located outside the United States with the period of time in such year during which the property is physically located within the United States. If the property is physically located outside the United States during more than 50 percent of the taxable year, such property shall be considered used predominantly outside the United States during that year. If property is placed in service after the first day of the taxable year, the determination of whether such property is physically located outside the United States during more than 50 percent of the taxable year shall be made with respect to the period beginning on the date on which the property is placed in service and ending on the last day of such taxable year.
(ii) Since the determination of whether a credit is allowable to the taxpayer with respect to any property may be made only with respect to the taxable year in which the property is placed in service by the taxpayer, property used predominantly outside the United States during the taxable year in which it is placed in service cannot qualify as section 38 property with respect to such taxpayer, regardless of the fact that the property is permanently returned to the United States in a later year. Furthermore, if property is used predominantly in the United States in the year in which it is placed in service by the taxpayer, and a credit under section 38 is allowed with respect to such property, but such property is thereafter in any one year used predominantly outside the United States, such property ceases to be section 38 property with respect to the taxpayer and is subject to the application of section 47.
(iii) This subparagraph applies whether property is used predominantly outside the United States by the owner of the property, or by the lessee of the property. If property is leased and if the lessor makes a valid election under § 1.48-4 to treat the lessee as having purchased such property for purposes of the credit allowed by section 38, the determination of whether such property is physically located outside the United States during more than 50 percent of the taxable year shall be made with respect to the taxable year of the lessee; however, if the lessor does not make such an election, such determination shall be made with respect to the taxable year of the lessor.
(2) Exceptions. The provisions of subparagraph (1) of this paragraph do not apply to—
(i) Any aircraft which is registered by the Administrator of the Federal Aviation Agency, and which ( a ) is operated, whether on a scheduled or nonscheduled basis, to and from the United States, or ( b ) is placed in service by the taxpayer during a taxable year ending after March 9, 1967, and is operated under contract with the United States: Provided, That use of the aircraft under the contract constitutes its principal use outside the United States during the taxable year. The term “to and from the United States” is not intended to exclude an aircraft which makes flights from one point in a foreign country to another such point, as long as such aircraft returns to the United States with some degree of frequency;
(ii) Rolling stock, of a domestic railroad corporation subject to part I of the Interstate Commerce Act, which is used within and without the United States. For purposes of this subparagraph, the term “rolling stock” means locomotives, freight and passenger train cars, floating equipment, and miscellaneous transportation equipment on wheels, the expenditures for which are chargeable (or, in the case of leased property, would be chargeable) to the equipment investment accounts in the uniform system of accounts for railroad companies prescribed by the Interstate Commerce Commission;
(iii) Any vessel documented under the laws of the United States which is operated in the foreign or domestic commerce of the United States. A vessel is documented under the laws of the United States if it is registered, enrolled, or licensed under the laws of the United States by the Commandant, U.S. Coast Guard. Vessels operated in the foreign or domestic commerce of the United States include those documented for use in foreign trade, coastwise trade, or fisheries;
(iv) Any motor vehicle of a United States person (as defined in section 7701(a)(30)) which is operated to and from the United States with some degree of frequency;
(v) Any container of a United States person which is used in the transportation of property to and from the United States;
(vi) Any property (other than a vessel or an aircraft) of a U.S. person which is used for the purpose of exploring for, developing, removing, or transporting resources from the outer Continental Shelf (within the meaning of section 2 of the Outer Continental Shelf Lands Act, as amended and supplemented; 43 U.S.C. 1331). Thus for example, offshore drilling equipment may be section 38 property;
(vii) Any property placed in service after December 31, 1965 which ( a ) is owned by a domestic corporation (other than a corporation entitled to the benefits of section 931 or 934(b)) or by a United States citizen (other than a citizen entitled to the benefits of section 931, 932, 933, or 934(c)), and ( b ) is used predominantly in a possession of the United States during the taxable year by such a corporation or such a citizen, or by a corporation created or organized in, or under the law of, a possession of the United States. Thus, property placed in service after December 31, 1965, which is owned by a domestic corporation not entitled to the benefits of section 931 or 934(b), which is leased to a corporation organized under the laws of a U.S. possession, and which is used by such lessee predominantly in a possession of the United States may qualify as section 38 property. However, property which is owned by a corporation not entitled to the benefits of section 931 or 934(b) but which is leased to a domestic corporation entitled to such benefits would not qualify as section 38 property. The determination of whether property is used predominantly in a possession of the United States during the taxable year shall be made under principles similar to those described in subparagraph (1) of this paragraph. For example, if a machine is placed in service in a possession of the United States on July 1, 1966, by a calendar year taxpayer and if it is physically located in such a possession during more than 50 percent of the period beginning on July 1, 1966 and ending on December 31, 1966, then such machine shall be considered used predominantly in a possession of the United States during the taxable year 1966;
(viii) Any communications satellite (as defined in section 103(3) of the Communications Satellite Act of 1962, 47 U.S.C., sec. 702(3)), or any interest therein, of a U.S. person;
(ix) Any cable which is property described in section 50, or any interest therein, of a domestic corporation engaged in furnishing telephone service to which section 46(c)(3)(B)(iii) applies (or of a wholly owned domestic subsidiary of such corporation), if such cable is part of a submarine cable system which constitutes part of a communications link exclusively between the United States and one or more foreign countries; and
(x) Any property described in section 50 (other than a vessel or an aircraft) of a U.S. person which is used in international or territorial waters for the purpose of exploring for, developing, removing, or transporting resources from ocean waters or deposits under such waters.
(h) Property used for lodging —(1) In general. (i) Except as provided in subparagraph (2) of this paragraph, the term “section 38 property” does not include property which is used predominantly to furnish lodging or is used predominantly in connection with the furnishing of lodging during the taxable year. Property used in the living quarters of a lodging facility, including beds and other furniture, refrigerators, ranges, and other equipment, shall be considered as used predominantly to furnish lodging. The term “lodging facility” includes an apartment house, hotel, motel, dormitory, or any other facility (or part of a facility) where sleeping accommodations are provided and let, except that such term does not include a facility used primarily as a means of transportation (such as an aircraft, vessel, or a railroad car) or used primarily to provide medical or convalescent services, even though sleeping accommodations are provided.
(ii) Property which is used predominantly in the operation of a lodging facility or in serving tenants shall be considered used in connection with the furnishing of lodging, whether furnished by the owner of the lodging facility or another person. Thus, for example, lobby furniture, office equipment, and laundry and swimming pool facilities used in the operation of an apartment house or in serving tenants would be considered used predominantly in connection with the furnishing of lodging. However, property which is used in furnishing, to the management of a lodging facility or its tenants, electrical energy, water, sewage disposal services, gas, telephone service, or other similar services shall not be treated as property used in connection with the furnishing of lodging. Thus, such items as gas and electric meters, telephone poles and lines, telephone station and switchboard equipment, and water and gas mains, furnished by a public utility would not be considered as property used in connection with the furnishing of lodging.
(iii) Notwithstanding any other provision of this paragraph (h), in the case of a qualified rehabilitated building (within the meaning of section 48(g)(1) and § 1.48-12(b)), expenditures for property resulting in basis described in section 48(a)(1)(E) shall not be treated as section 38 property to the extent that such property is attributable to a portion of the building that is used for lodging or in connection with lodging. For example, if expenditures are incurred to rehabilitate a five story qualified rehabilitated building, three floors of which are used for apartments and two floors of which are used as commercial office space, the portion of the basis of the building attributable to qualified rehabilitated expenditures attributable to the commercial part of the building shall not be considered to be expenditures for property, or in connection with property, used predominantly for lodging. Allocation of expenditures between the two portions of the building are to be made using the principles contained in § 1.48-12(C)(10)(ii).
(2) Exceptions —(i) Nonlodging commercial facility. A nonlodging commercial facility which is available to persons not using the lodging facility on the same basis as it is available to the tenants of the lodging facility shall not be treated as property which is used predominantly to furnish lodging or predominantly in connection with the furnishing of lodging. Examples of non-lodging commercial facilities include restaurants, drug stores, grocery stores, and vending machines located in a lodging facility.
(ii) Property used by a hotel or motel. Property used by a hotel, motel, inn, or other similar establishment, in connection with the trade or business of furnishing lodging shall not be considered as property which is used predominantly to furnish lodging or predominantly in connection with the furnishing of lodging, provided that the predominant portion of the living accommodations in the hotel, motel, etc., is used by transients during the taxable year. For purposes of the preceding sentence, the term “predominant portion” means “more than one-half”. Thus, if more than one-half of the living quarters of a hotel, motel, inn, or other similar establishment is used during the taxable year to accommodate tenants on a transient basis, none of the property used by such hotel, motel, etc., in the trade or business of furnishing lodging shall be considered as property which is used predominantly to furnish lodging or predominantly in connection with the furnishing of lodging. Accommodations shall be considered used on a transient basis if the rental period is normally less than 30 days.
(iii) Coin-operated machines. In the case of property which is described in section 50, coin-operated vending machines and coin-operated washing machines and dryers shall not be considered as property which is used predominantly to furnish lodging or predominantly in connection with the furnishing of lodging.
(iv) Certified historic structures. For purposes of this paragraph (h), regardless of the actual use of a certified historic structure, that portion of the basis of such certified historic structure which is attributable to qualified rehabilitation expenditures (as defined in § 1.48-12(c)) shall not be considered as property which is either used predominantly to furnish lodging or predominantly in connection with the furnishing of lodging. Accordingly, such portion of the basis may qualify as section 38 property. (For the definition of “certified historic structure,” see section 48(g)(3) and § 1.48-12(d).)
(i) [Reserved]
(j) Property used by certain tax-exempt organizations. The term “section 38 property” does not include property used by an organization (other than a cooperative described in section 521) which is exempt from the tax imposed by chapter 1 of the Code unless such property is used predominantly in an unrelated trade or business the income of which is subject to tax under section 511. If such property is debt-financed property as defined in section 514(b), the basis or cost of such property for purposes of computing qualified investment under section 46(c) shall include only that percentage of the basis or cost which is the same percentage as is used under section 514(a), for the year the property is placed in service, in computing the amount of gross income to be taken into account during such taxable year with respect to such property. The term “property used by an organization” means (1) property owned by the organization (whether or not leased to another person), and (2) property leased to the organization. Thus, for example, a data processing or copying machine which is leased to an organization exempt from tax would be considered as property used by such organization. Property (unless used predominantly in an unrelated trade or business) leased by another person to an organization exempt from tax or leased by such an organization to another person is not section 38 property to either the lessor or the lessee, and in either case the lessor may not elect under § 1.48-4 to treat the lessee of such property as having purchased such property for purposes of the credit allowed by section 38. This paragraph shall not apply to property leased on a casual or short-term basis to an organization exempt from tax.
(k) Property used by governmental units. The term “section 38 property” does not include property used by the United States, any State (including the District of Columbia) or political subdivision thereof, any international organization (as defined in section 7701(a)(18)) other than the International Telecommunications Satellite Consortium or any successor organization, or any agency or instrumentality of the United States, of any State or political subdivision thereof, or of any such international organization. The term “property used by the United States, etc.” means (1) property owned by any such governmental unit (whether or not leased to another person), and (2) property leased to any such governmental unit. Thus, for example, a data processing or copying machine which is leased to any such governmental unit would be considered as property used by such governmental unit. Property leased by another person to any such governmental unit or leased by such governmental unit to another person is not section 38 property to either the lessor or the lessee, and in either case the lessor may not elect under § 1.48-4 to treat the lessee of such property as having purchased such property for purposes of the credit allowed by section 38. This paragraph shall not apply to property leased on a casual or short-term basis to any such governmental unit.
(l) [Reserved]
(m) Elevators and escalators —(1) In general. Under section 48(a)(1)(C), an elevator or escalator qualifies as section 38 property if—
(i) The construction, reconstruction, or erection of the elevator or escalator is completed by the taxpayer after June 30, 1963, or
(ii) The elevator or escalator is acquired after June 30, 1963, and the original use of such elevator or escalator commences with the taxpayer and commences after such date.
(2) Definition of elevators and escalators. For purposes of this section the term “elevator” means a cage or platform and its hoisting machinery for conveying persons or freight to or from different levels and functionally related equipment which is essential to its operation. The term includes, for example, guide rails and cables, motors and controllers, control panels and landing buttons, and elevator gates and doors, which are essential to the operation of the elevator. The term “elevator” does not, however, include a structure which is considered a building for purposes of the investment credit. The term “escalator” means a moving staircase and functionally related equipment which is essential to its operation. For purposes of determining qualified investment under section 46(c) and § 1.46-3, the basis of an elevator or escalator does not include the cost of any structural alterations to the building, such as the cost of constructing a shaft or of making alterations to the floor, walls, or ceiling, even though such alterations may be necessary in order to install or modernize the elevator or escalator.
(3) Examples. The provisions of this paragraph may be illustrated by the following examples:
(n) Amortized property. Any property with respect to which an election under 167(k), 169, 184, 187, or 188 applies shall not be treated as section 38 property. In the case of any property to which section 169 applies, the preceding sentence shall apply only to so much of the adjusted basis of the property as (after the application of section 169(f)) constitutes the amortizable basis for purposes of section 169. This paragraph shall not apply to property with respect to which an election under section 167(k), 184, 187, or 188 applies unless such property is described in section 50.
(o) [Reserved]
(p) Qualified timber property. (1) Qualified timber property (within the meaning of section 194(c)(1)) shall be treated as section 38 property to the extent of the portion of the basis of such property which is the amortizable basis (as defined in § 1.194-3(b)) acquired during the taxable year and taken into account under section 194 (after applying the limitation of section 194(b)(1)). Such amortizable basis shall qualify as section 38 property whether or not an election is made under section 194. However, any portion of such amortizable basis which is attributable to property which otherwise qualifies as section 38 property shall not be treated as section 38 property under section 48(a)(1)(F) and this paragraph. For example, amortizable basis attributable to depreciation on equipment would not qualify as section 38 property under this paragraph if such equipment qualifies as section 38 property under sections 48(a)(1) (A) or (B). In determining the portion of amortizable basis which qualifies as section 38 property under this paragraph, the reduction in amortizable basis to account for depreciation sustained with respect to property used in the reforestation process (which otherwise qualifies as section 38 property) shall be applied before the $10,000 limitation on eligible costs under section 194(b)(1). For example, if in a taxable year a taxpayer incurs qualifying reforestation costs resulting in $12,000 of amortizable basis with respect to property for which an election is in effect, and $2,000 of these costs are attributable to depreciation of the taxpayer's equipment, such $12,000 would first be reduced by the $2,000 of depreciation, and the $10,000 limitation under section 194(b)(1) would be applied following such reduction.
(2) If a taxpayer makes an election to amortize reforestation expenditures under section 194, and allocates the $10,000 limitation among more than one property under § 1.194-2(b)(2), then such allocation shall apply for purposes of determining the amortizable basis that qualifies as section 38 property under paragraph (p)(1) of this section. If no election is made under section 194, the taxpayer may select the manner in which the $10,000 limitation is to be allocated among the qualified timber properties.
§ 1.48-2   New section 38 property.
(a) In general. Section 48(b) defines “new section 38 property” as section 38 property—
(1) The construction, reconstruction, or erection of which is completed by the taxpayer after December 31, 1961, or
(2) Which is acquired by the taxpayer after December 31, 1961, provided that the original use of such property commences with the taxpayer and commences after such date.
(b) Special rules for determining date of acquisition, original use, and basis attributable to construction, reconstruction, or erection. For purposes of paragraph (a) of this section, the principles set forth in paragraphs (a) (1) and (2) of § 1.167(c)-1 shall be applied. Thus, for example, the following rules are applicable:
(1) Property is considered as constructed, reconstructed, or erected by the taxpayer if the work is done for him in accordance with his specifications.
(2) The portion of the basis of property attributable to construction, reconstruction, or erection after December 31, 1961, consists of all costs of construction, reconstruction, or erection allocable to the period after December 31, 1961, including the cost or other basis of materials entering into such work (but not including, in the case of reconstruction of property, the adjusted basis of the reconstructed property as of the time such reconstruction is commenced).
(3) It is not necessary that materials entering into construction, reconstruction, or erection be acquired after December 31, 1961, or that they be new in use.
(4) If construction or erection by the taxpayer began after December 31, 1961, the entire cost or other basis of such construction or erection may be taken into account as the basis of new section 38 property.
(5) Construction, reconstruction, or erection by the taxpayer begins when physical work is started on such construction, reconstruction, or erection.
(6) Property shall be deemed to be acquired when reduced to physical possession, or control.
(7) The term “original use” means the first use to which the property is put, whether or not such use corresponds to the use of such property by the taxpayer. For example, a reconditioned or rebuilt machine acquired by the taxpayer will not be treated as being put to original use by the taxpayer. The question of whether property is reconditioned or rebuilt property is a question of fact. Property will not be treated as reconditioned or rebuilt merely because it contains some used parts.
(c) Examples. This section may be illustrated by the following examples:
(d) Special rule for qualified rehabilitated buildings. Notwithstanding the rules in paragraphs (a) through (c) of this section, that portion of the basis of a qualified rehabilitated building attributable to qualified rehabilitation expenditures is treated as new section 38 property. See section 48(a)(1)(E) and (g), and § 1.48-11.
§ 1.48-3   Used section 38 property.
(a) In general. (1) Section 48(c) provides that “used section 38 property” means section 38 property acquired by purchase after December 31, 1961, which is not “new section 38 property.” See §§ 1.48-1 and 1.48-2, respectively, for definitions of section 38 property and new section 38 property. In determining whether property is acquired by purchase, the provisions of paragraph (c)(1) of § 1.179-3 shall apply, except that (i) “1961” shall be substituted for “1957”, and (ii) the definition of “component member” of a controlled group of corporations in paragraph (d)(4) of this section shall be substituted for the definition of such term in paragraph (e) of § 1.179-3.
(2)(i) Property shall not qualify as used section 38 property if, after its acquisition by the taxpayer, it is used by ( a ) a person who used such property before such acquisition, or ( b ) a person who bears a relationship described in section 179(d)(2) (A) or (B) to a person who used such property before such acquisition. Thus, for example, if property is used by a person and is later sold by him under a sale and lease-back arrangement, such property in the hands of the purchaser-lessor is not used section 38 property because the property, after its acquisition, is being used by the same person who used it before its acquisition. Similarly, where a lessee has been leasing property and subsequently purchases it (whether or not the lease contains an option to purchase), such property is not used section 38 property with respect to the purchaser because the property is being used by the same person who used it before its acquisition. In addition, if property owned by a lessor is sold subject to the lease, or is sold upon the termination of the lease, the property will not qualify as used section 38 property with respect to the purchaser if, after the purchase, the property is used by a person who used the property as a lessee before the purchase.
(ii) For purposes of applying subdivision (i) of this subparagraph, property shall not be considered as used by a person before its acquisition if such property was used only on a casual basis by such person.
(iii) In determining whether a person bears a relationship described in section 179(d)(2) (A) or (B) to a person who used property before its acquisition by the taxpayer, the provisions of paragraphs (c)(1) (i) and (ii) of § 1.179-3 shall apply, except that the definition of “component member” of a controlled group of corporations in paragraph (d)(4) of this section shall be substituted for the definition of such term in paragraph (e) of § 1.179-3.
(3) The provisions of this paragraph may be illustrated by the following examples:
(b) Cost. (1) The cost of used section 38 property is equal to the basis of such property, but does not include so much of such basis as is determined by reference to the adjusted basis of other property (whether or not section 38 property) held at any time by the taxpayer acquiring such used section 38 property.
(2) If property (whether or not section 38 property) is disposed of by the taxpayer (other than by reason of its destruction or damage by fire, storm, shipwreck, or other casualty, or its theft) and used section 38 property similar or related in service or use is acquired as a replacement therefor in a transaction in which the basis of the replacement property is not determined by reference to the adjusted basis of the property replaced, then the cost of the used section 38 property so acquired shall be its basis reduced by the adjusted basis of the property replaced. The preceding sentence shall apply only if the taxpayer acquires (or enters into a contract to acquire) the replacement property within a period of 60 days before or after the date of the disposition.
(3) Notwithstanding subparagraphs (1) and (2) of this paragraph, the cost of used section 38 property shall not be reduced with respect to the adjusted basis of any property disposed of if, by reason of section 47, such disposition resulted in an increase of tax or a reduction of investment credit carrybacks or carryovers described in section 46(b).
(4) The provisions of this paragraph may be illustrated by the following examples:
(c) Dollar limitation —(1) In general. Section 48(c)(2) provides that the aggregate cost of used section 38 property which may be taken into account for any taxable year in computing qualified investment under section 46(c)(1)(B) shall not exceed $50,000. If the total cost of used section 38 property exceeds $50,000, there must be selected, in the manner provided in subparagraph (4) of this paragraph, the particular items of used section 38 property the cost of which is to be taken into account in computing qualified investment. The cost of used section 38 property that may be taken into account by a person in applying the $50,000 limitation for any taxable year includes not only the cost of used section 38 property placed in service by such person during such taxable year, but also the cost of used section 38 property apportioned to such person. For purposes of this section, the cost of used section 38 property apportioned to any person means the cost of such property apportioned to him by a trust, estate, or electing small business corporation (as defined in section 1371(b)), and his share of the cost of partnership used section 38 property, with respect to the taxable year of such trust, estate, corporation or partnership ending with or within such person's taxable year. Thus, if an individual places in service during his taxable year used section 38 property with a cost of $25,000, if the cost of used section 38 property apportioned to him by an electing small business corporation for such year is $30,000, and if his share for such year of the cost of used section 38 property placed in service by a partnership is $20,000, he may select from the used section 38 property with a total cost of $75,000 the particular used section 38 property the cost of which he wishes to take into account. No part of the excess of $25,000 ($75,000 cost minus $50,000 annual limitation) may be taken into account in any other taxable year. For determining the amount of the cost to be apportioned by an electing small business corporation, see paragraph (a)(2) of § 1.48-5; in the case of estates and trusts, see paragraph (a)(2) of § 1.48-6. See paragraph (e) of this section for application of $50,000 limitation in the case of affiliated groups.
(2) Married individuals filing separate returns. In the case of a husband or wife who files a separate return, the aggregate cost of used section 38 property which may be taken into account for the taxable year to which such return relates cannot exceed $25,000. The preceding sentence shall not apply, however, unless the taxpayer's spouse places in service (or is apportioned the cost of) used section 38 property for the taxable year of such spouse which ends with or within the taxpayer's taxable year. Thus, if a husband and wife who file separate returns on a calendar year basis both place in service used section 38 property during the taxable year, the maximum cost of used section 38 property which may be taken into account by each is $25,000. However, in such case, if only one spouse places in service (or is apportioned the cost of) used section 38 property during the taxable year, such spouse may take into account a maximum of $50,000 for such year. The determination of whether an individual is married shall be made under the principles of section 143 and the regulations thereunder.
(3) Partnerships. In the case of a partnership, the aggregate cost of used section 38 property placed in service by the partnership (or apportioned to the partnership) which may be taken into account by the partners with respect to any taxable year of the partnership may not exceed $50,000. If such aggregate cost exceeds $50,000, the partnership must make a selection in the manner provided in subparagraph (4) of this paragraph. The $50,000 limitation applies to each partner, as well as to the partnership.
(4) Selection of $50,000 cost. (i) If the sum of ( a ) the cost of used section 38 property placed in service during the taxable year by any person, ( b ) such person's share of the cost of partnership used section 38 property placed in service during the taxable year of a partnership ending with or within such person's taxable year, and ( c ) the cost of used section 38 property apportioned to such person for such taxable year by an electing small business corporation, estate, or trust, exceeds $50,000, such person must make a selection for such taxable year in the manner provided in subdivision (ii) of this subparagraph.
(ii) For purposes of computing qualified investment (or, in the case of a partnership, electing small business corporation, estate, or trust, for purposes of selecting used section 38 property the cost of which may be taken into account by the partners, shareholders, or estate or trust and its beneficiaries) any person to whom subdivision (i) of this subparagraph applies must select a total cost of $50,000 from ( a ) the cost of specific used section 38 property placed in service by such person, ( b ) such person's share of the cost of specific used section 38 property placed in service by a partnership and ( c ) the cost of used section 38 property apportioned to such person by an electing small business corporation, estate, or trust. When a particular property is selected, the entire cost (or entire share of cost of a particular property in the case of partnership property) of such property must be taken into account unless, as a result of the selection of such particular property, the $50,000 limitation is exceeded. Likewise, in the case of an apportionment from an electing small business corporation, estate, or trust, when the cost in a particular useful life category is selected, the entire cost in such category must be taken into account unless, as a result of the selection of such cost, the $50,000 limitation is exceeded. Thus, if a person places in service during the taxable year three items of used section 38 property, each with a cost of $20,000, he must select the entire cost of two of the items and only $10,000 of the cost of the third item; he may not select a portion of the cost of each of the three items. The selection by any person shall be made by taking the cost of used section 38 property into account in computing qualified investment (or in selecting the used section 38 property the cost of which may be taken into account by the partners, etc.), and if such property was placed in service by such person, he must maintain records which permit specific identification of any item of used section 38 property selected.
(5) Examples. The provisions of this paragraph may be illustrated by the following examples:
(iii) Qualified investment of partner X. X's total qualified investment in used section 38 property for 1963 is $35,000, computed as follows:
(v) Qualified investment of partner Z. Z's total qualified investment in used section 38 property for 1963 is $19,333, computed as follows:
(d) Dollar limitation for component members of a controlled group —(1) In general. (i) Section 48(c)(2)(C) provides that the $50,000 limitation on the cost of used section 38 property which may be taken into account for any taxable year shall, in the case of component members of a controlled group (as defined in subparagraph (4) of this paragraph) on a particular December 31, be reduced for each such member by apportioning the $50,000 amount among such component members for their taxable years that include such December 31 in accordance with their respective amounts of used section 38 property which may be taken into account, that is, in accordance with the total cost of used section 38 property placed in service by each such member during its taxable year (without regard to the $50,000 limitation or the applicable percentages to be applied in computing qualified investment).
(ii) Except as otherwise provided in this paragraph, the $50,000 amount shall be apportioned among those corporations which are component members of the controlled group on a December 31. For the taxable year of each such member which includes such December 31, the cost of used section 38 property taken into account in computing qualified investment under section 46(c)(1)(B) shall not exceed the amount which bears the same ratio to $50,000 as the cost of used section 38 property placed in service by such member for such taxable year bears to the total cost of used section 38 property placed in service by all component members of the controlled group for their taxable years which include such December 31.
(iii) If a component member of the group makes its income tax return on the basis of a 52-53-week taxable year, the principles of section 441(f)(2)(A)(ii) and § 1.441-2 apply in determining the last day of such a taxable year.
(2) Statement by the “filing member”. For purposes of this paragraph, the term “filing member” with respect to a particular December 31 means the member (or members) of a controlled group which has, among those members of the group which are apportioned part of the $50,000 amount for their taxable years which include such December 31, the taxable year including such December 31 which ends on the earliest date. The filing member of the group shall attach to its income tax return a statement containing the name, address, and employer identification number of each component member of the controlled group on such December 31 and a schedule showing the computation of the apportionment of the $50,000 amount among the component members of the group. Each such other member shall retain as part of its records a copy of the statement containing the apportionment schedule. Except as otherwise provided in subparagraph (3)(ii) of this paragraph, each member which is apportioned part of the $50,000 amount shall take such apportioned amount into account in filing its return for its taxable year which includes such December 31.
(3) Estimate of used section 38 property to be placed in service. (i) For purposes of subparagraphs (1) and (2) of this paragraph, if on the date (including extensions of time) for filing the income tax return of the filing member of the group with respect to a particular December 31, the total cost of used section 38 property actually placed in service by any component member of the group during such member's taxable year that includes such December 31 is not known, then such member shall estimate such cost. The estimate shall be made on the basis of the facts and circumstances known as of the time of the estimate. Any such estimate shall also be used in determining the total cost of used section 38 property placed in service by all component members for their taxable years including such December 31.
(ii) If an estimate is used by any component member of a controlled group pursuant to subdivision (i) of this subparagraph, each member may later file an original or amended return in which the apportionment of the $50,000 amount is based upon the cost of used section 38 property actually placed in service by all component members of the group during their taxable year which include such December 31. Such amended apportionment shall be made only if each component member of the group whose limitation would be changed files an original or amended return which reflects the amended apportionment based upon the cost of the used section 38 property actually placed in service by component members of the group. In such case, the new statement reflecting the amended apportionment shall be attached to the amended return of the filing member of the group, and a copy of such statement shall be retained by each such member pursuant to the requirements of subparagraph (2) of this paragraph.
(4) Definitions of controlled group of corporations and component member of controlled group. For purposes of this section, the terms “controlled group of corporations” and “component member” of a controlled group of corporations shall have the same meaning assigned to those terms in section 1563 (a) and (b), except that the phrase “more than 50 percent” shall be substituted for the phrase “at least 80 percent” each place it appears in section 1563(a)(1). For purposes of applying § 1.1563-1(b)(2)(ii)( c), an electing small business corporation shall be treated as an excluded member whether or not it is subject to the tax imposed by section 1378.
(5) Members of controlled group filing a consolidated return. For the purpose of apportioning the $50,000 amount in the case of component members of a controlled group which join in filing a consolidated return, all such members shall be treated as though they were a single component member of the controlled group. Thus, in determining the limitation on the cost of used section 38 property which may be taken into account by the group filing the consolidated return, the apportionment provided in subparagraph (1)(ii) of this paragraph shall be made by using the aggregate cost of such property placed in service by all members of the group filing the consolidated return. If all component members of the controlled group join in filing a consolidated return, the group may select the items to be taken into account to the extent of an aggregate cost of $50,000; if some component members of the controlled group do not join in filing the consolidated return, then the members of the group which join in filing the consolidated return may select the items to be taken into account to the extent of the amount apportioned to such members under subparagraph (1)(ii) of this paragraph.
(6) Examples. This paragraph may be illustrated by the following examples:
(ii) The cost of used section 38 property taken into account by N for its taxable year ending March 31, 1971, may not exceed $20,000, that is, an amount which bears the same ratio to $50,000 as the cost of used section 38 property placed in service by N for its taxable year ($100,000) bears to the total cost of used section 38 property placed in service by all component members of the controlled group (M, N, and O) for their taxable years which include December 31, 1970 ($250,000). Similarly, the cost of used section 38 property taken into account by O for its taxable year ending April 30, 1971, may not exceed $30,000.
(ii) S, the “filing member” of the group, must file an apportionment schedule under which it may take into account as the cost of used section 38 property an amount not in excess of $20,000 ($100,000/$250,000 × $50,000). If T actually places in service during its taxable year used section 38 property costing more or less than $150,000, its income tax return for its taxable year ending June 30, 1972, may reflect the amended apportionment of the $50,000 limitation based upon the cost of used section 38 property actually placed in service by the group, provided that S attaches a new apportionment schedule to an amended return to reflect the amended apportionment. For example, if T places in service used section 38 property costing $200,000, the cost of used section 38 property taken into account by S and T for their respective taxable years could not exceed $16,667 ($100,000/$300,000 × $50,000) and $33,333 ($200,000/$300,000 × $50,000), respectively, under an amended apportionment.
§ 1.48-4   Election of lessor of new section 38 property to treat lessee as purchaser.
(a) In general —(1) Lessee treated as purchaser. Under section 48(d), a lessor of property may elect to treat the lessee of such property as having purchased such property (or, in the case of short-term lease property described in subparagraph (2) of this paragraph, a portion of such property) for purposes of the credit allowed by section 38 if the following conditions are satisfied:
(i) The property must be “section 38 property” in the hands of the lessor; that is, it must be property with respect to which depreciation (or amortization in lieu of depreciation) is allowable to the lessor, it must have a useful life of 3 years (4 years in the case of property which is not described in section 50) or more in his hands, and in every other respect it must meet the requirements of § 1.48-1. Thus, for example, property leased by a municipality to a taxpayer for use in what is commonly known as an “industrial park” is not eligible for the election since, under paragraph (k) of § 1.48-1, property used by a governmental unit is not section 38 property. In addition, property used by the lessee predominantly outside the United States is not eligible for the election since, under paragraph (g) of § 1.48-1, such property is not section 38 property. For purposes of this subdivision, if the lessor is an estate or trust, depreciation (or amortization in lieu of depreciation) will be considered allowable to the estate or trust even if it is apportioned to the beneficiaries or other persons.
(ii) The property must be “new section 38 property” (within the meaning of § 1.48-2) in the hands of the lessor, and the original use of such property must commence with the lessor. See paragraph (b) of this section for the application of the rules relating to “original use” in the case of leased property.
(iii) The property would constitute “new section 38 property” to the lessee if such lessee had actually purchased the property. Thus, the election is not available if the lessee is not the original user of the property. See paragraph (b) of this section for the application of the rules relating to “original use” in the case of leased property. See paragraph (d) of this section for the determination of the estimated useful life of leased property in the hands of the lessee.
(iv) A statement of election to treat the lessee as a purchaser has been filed in the manner and within the time provided in paragraph (f) or (g) of this section.
(v) The lessor is not a person referred to in section 46(d)(1), that is, a mutual savings bank, cooperative bank, or domestic building and loan association to which section 593 applies; a regulated investment company or real estate investment trust subject to taxation under subchapter M, chapter 1 of the Code; or a cooperative organization described in section 1381(a).
(2) Short-term lease property. For purposes of this section, the term “short-term lease property” means property which—
(i) Is new section 38 property;
(ii) Has a class life (determined under section 167(m)) in excess of 14 years;
(iii) Is leased under a lease entered into after November 8, 1971, for a period which is less than 80 percent of the class life of such property; and
(iv) Is not leased subject to a net lease within the meaning of section 57(c)(1)(B) and the regulations thereunder.
(b) Original use. For purposes of this section only, the lessor and the lessee may both be considered as the original users of an item of leased property. The determination of whether the lessor qualifies as the original user of leased property shall be made under paragraph (b)(7) of § 1.48-2. The determination of whether the lessee qualifies as the original user of leased property shall be made, under paragraph (b)(7) of § 1.48-2, as if the lessee actually purchased the property. Thus, the lessee would not be considered the original user of the property if it has been previously used by the lessor or another person, or if it is reconstructed, rebuilt, or reconditioned property. However, the lessee would be considered the original user if he is the first person to use the property for its intended function. Thus, the fact that the lessor may have, for example, tested, stored, or attempted to lease the property to other persons will not preclude the lessee from being considered the original user.
(c) Qualified investment —(1) In general. If a valid election is made under this section, the amount of qualified investment under section 46(c) with respect to the leased property shall be determined under this paragraph and paragraphs (d) and (e) of this section.
(2) Nonshort-term lease property. In the case of property which is not short-term lease property, the lessee is treated as having acquired the entire property for an amount equal to—
(i) The fair market value of such property on the date possession is transferred to the lessee, or
(ii) If the property is leased by a component member of a controlled group to another component member of the same controlled group (within the meaning of paragraph (f)(4) of § 1.46-1) on the date possession of the property is transferred to the lessee, the basis of the property in the hands of the lessor.
(3) Short-term lease property. (i) In the case of short-term lease property, the lessee is treated as having acquired a portion of such property. The amount for which the lessee is treated as having acquired such portion is an amount equal to a fraction, the numerator of which is the term of the lease and the denominator of which is the class life of the property leased, of the amount for which the lessee would be treated as having acquired the property under subparagraph (2) of this paragraph if the property were not short-term lease property.
(ii) In the case of short-term lease property, the qualified investment of the lessor is an amount equal to his qualified investment in such property determined under section 46(c) multiplied by a fraction, the numerator of which is the class life of the property leased minus the term of the lease and the denominator of which is the class life of such property.
(4) Example. The provisions of this paragraph may be illustrated by the following example:
(b) A is treated as having acquired from X a portion of the property for $3,000 (the fair market value of the property, $12,000, multiplied by a fraction, 4/16 , the numerator of which is the term of the lease and the denominator of which is the class life of the leased property). Since under paragraph (d) of this section the useful life of such property in the hands of A is the same as the useful life of such property in the hands of X, and such useful life is at least 7 years, A's qualified investment with respect to the property is $3,000.
(c) The qualified investment of X is $7,500 (the qualified investment of X under section 46(c), $10,000, multiplied by a fraction, 12/16 , the numerator of which is the class life of the leased property, 16, minus the term of the lease, 4, and the denominator of which is the class life of the property).
(d) Estimated useful life of leased property. The estimated useful life to the lessee of property subject to the election shall be deemed to be the estimated useful life in the hands of the lessor for purposes of computing depreciation, regardless of the term of the lease. The lessor shall determine the estimated useful life of each leased property on an individual basis even though multiple asset accounts are used. However, in the case of assets similar in kind contained in a multiple asset account, the lessor shall assign to each of such assets the average useful life of such assets used in computing depreciation. Thus, for example, if during a taxable year a lessor leases 10 similar trucks with an average estimated useful life for depreciation purposes of 6 years, based on an estimated range of 5 to 7 years, he must assign a useful life of 6 years to each of the 10 trucks.
(e) Lessor itself a lessee —(1) In general. If the lessee of property is treated, under this section, as having purchased all or a portion of such property and if such lessee leases such property to a sublessee, the qualified investment with respect to such property in the hands of the sublessee shall be determined under paragraphs (c) and (d) of this section as if the original lessor had leased the property directly to the sublessee for the term of the sublessee's lease on the date possession of the property is transferred to the sublessee. For this purpose, property which is short-term lease property in the hands of the lessee shall be treated as short-term lease property in the hands of the sublessee regardless of whether such property is leased to the sublessee subject to a net lease (within the meaning of section 57(c)(1)(B)). In the case of property which is short-term lease property in the hands of the sublessee, the amount for which the lessee is treated as having acquired such property under paragraph (c) of this section shall be reduced by an amount equal to such amount multiplied by a fraction, the numerator of which is the term of the lease of the sublessee and the denominator of which is the term of the lease of the lessee.
(2) Example. The provisions of this paragraph may be illustrated by the following example:
(b) The property is short-term lease property and this paragraph applies.
(c) The qualified investment of A is $6,400. Such amount is determined by multiplying $16,000, the amount for which A would be treated under paragraph (c)(2) of this section as having acquired the property if it were not short-term lease property, by 8/20 .
(d) The qualified investment of Y is $2,000. Such amount is determined by multiplying $10,000, the amount for which Y would be treated under paragraph (c)(2) of this section as having acquired the property if it were not short-term lease property, by 12/20 , and by reducing the amount so determined ($6,000) by 8/12 of such amount ($4,000) to $2,000.
(e) The qualified investment of X is $4,000. Such amount is determined by multiplying the amount of X's qualified investment determined under section 46(c) without regard to this section ($10,000) by 8/20 .
(f) Property-by-property election —(1) Manner of making election. The election of a lessor with respect to a particular property (or properties) shall be made by filing a statement with the lessee, signed by the lessor and including the written consent of the lessee, containing the following information:
(i) The name, address, and taxpayer account number of the lessor and the lessee;
(ii) The district director's office with which the income tax returns of the lessor and the lessee are filed;
(iii) A description of each property with respect to which the election is being made;
(iv) The date on which possession of the property (or properties) is transferred to the lessee;
(v) The estimated useful life category of the property (or properties) in the hands of the lessor, that is, 3 years or more but less than 5 years, 5 years or more but less than 7 years, or 7 years or more;
(vi) The amount for which the lessee (or sublessee) is treated as having acquired the leased property under paragraph (c)(2) or (3) of this section; and
(vii) If the lessor is itself a lessee, the name, address, and taxpayer account number of the original lessor, and the district director's office with which the income tax return of such original lessor is filed.
(2) Time for making election. The statement referred to in subparagraph (1) of this paragraph shall be filed with the lessee on or before the due date (including any extensions of time) of the lessee's return for the lessee's taxable year during which possession of the property is transferred to the lessee, except that if such taxable year ends after March 31, 1971, and before December 11, 1971, the statement shall be filed with the lessee on or before the due date (including any extensions of time) of the lessee's return for such taxable year, or on or before October 24, 1972, whichever is later.
(3) Election is irrevocable. An election under this paragraph shall be irrevocable as of the time the statement referred to in subparagraph (1) of this paragraph is filed with the lessee.
(g) General election —(1) In general. In lieu of making elections on a property-by-property basis in the manner and time prescribed in paragraph (f) of this section, a lessor may, with respect to a particular taxable year of a particular lessee, make a general election to treat such lessee as having purchased all properties possession of which is transferred under lease by the lessor to the lessee during such taxable year of the lessee.
(2) Manner and time for making general election. The general election of a lessor with respect to a taxable year of a lessee shall be made by filing a statement with the lessee, signed by the lessor and including the written consent of the lessee, on or before the due date (including any extensions of time) of the lessee's return for such taxable year, except that if such taxable year ends after March 31, 1971, and before December 11, 1971, the statement shall be filed with the lessee on or before the due date (including any extensions of time) of the lessee's return for such taxable year, or on or before October 24, 1972, whichever is later. Such statement of general election shall contain:
(i) The name, address, and taxpayer account number of the lessor and the lessee;
(ii) The taxable year of the lessee with respect to which such general election is made;
(iii) The district director's office with which the income tax returns of the lessor and the lessee are filed;
(iv) If the lessor is itself a lessee, the name, address, and taxpayer account number of the original lessor, and the district director's office with which the income tax return of such original lessor is filed.
(3) Election is irrevocable. A general election under this paragraph shall be irrevocable as of the time the statement referred to in subparagraph (2) of this paragraph is filed with the lessee and shall be binding on the lessor and the lessee for the entire taxable year of the lessee with respect to which such general election is made.
(4) Information requirement. If a lessor, with respect to a taxable year of the lessee, makes a general election under this paragraph, such lessor shall provide such lessee, on or before the date required for filing the statement under subparagraph (2) of this paragraph, with a statement (or statements) containing the information required by paragraphs (f)(1) (iii), (iv), (v), and (vi) of this section with respect to all properties possession of which is transferred under lease by the lessor to the lessee during such taxable year.
(h) Signature. The statement referred to in paragraph (f)(1) or (g)(2) of this section shall not be valid unless signed by both the lessor and the lessee. The signature of the lessee shall constitute the consent of the lessee to the election. The statement shall be signed by the taxpayer or a duly authorized agent of the taxpayer. For purposes of this section, a facsimile signature may be used in lieu of a signature manually executed and, if used, shall be as binding as a signature manually executed.
(i) [Reserved]
(j) Record requirements. The lessor and the lessee shall keep as a part of their records the statement referred to in paragraph (f)(1), or the statements referred to in paragraphs (g)(2) and (g)(4), of this section. The lessor shall attach to his income tax return a summary statement of all property leased during his taxable year with respect to which an election is made. In the case of a taxable year ending after March 31, 1971, and before December 11, 1971, a summary statement may be filed on or before the due date (including any extensions of time) of the return or on or before October 24, 1972, whichever is later, with the Internal Revenue Service Center with which the return has been filed. Such summary statement shall contain the following information: (1) The name, address, and taxpayer account number of the lessor; and (2) in numerical account number order, each lessee's account number, name, and address, the estimated useful life category of the property (or, if applicable, the estimated useful life expressed in years), and the basis or fair market value of the property, whichever is applicable.
(k) Adjustment of rental deductions —(1) In general. The rules of this paragraph apply only to section 38 property placed in service before January 1, 1964, and with respect to any such property only for taxable years of a lessee beginning before January 1, 1964. If a lessor makes a valid election under this section with respect to property placed in service by the lessee before January 1, 1964, section 48(g) and § 1.48-7 (relating to adjustments to basis of property) shall not apply to the lessor with respect to such property. Thus, the lessor is not required to reduce under section 48(g)(1) the basis of such property. However, if such an election is made, the deductions otherwise allowable under section 162 to the lessee for amounts paid or accrued to the lessor under the lease shall be adjusted in the manner provided in this paragraph. For special adjustment for taxable years beginning after December 31, 1963, see paragraph (m) of this section.
(2) Decrease in rental deduction. (i) The deductions otherwise allowable under section 162 to the lessee for amounts paid or accrued to the lessor under the lease with respect to leased property placed in service before January 1, 1964, shall be decreased under subdivision (ii) or (iii) of this subparagraph, whichever is applicable, by an amount determined by reference to the credit earned on the leased property. The “credit earned” on the leased property is determined by multiplying the qualified investment (as defined in section 46(c)) with respect to such property by 7 percent. Thus, the credit earned (and the decrease in deductions) is determined without regard to the limitation based on tax which, under section 46(a)(2), may limit the amount of the credit the lessee may take into account in any one year.
(ii) If, in the case of property placed in service before January 1, 1964, the lessor, under paragraph (f)(1)(v) of this section, supplies the lessee with the useful life of such property expressed in years, then for each taxable year beginning before January 1, 1964, any part of which falls within a period beginning with the month in which the leased property is placed in service by the lessee and ending with the close of the estimated useful life of such property (as determined under paragraph (d) of this section), the lessee shall decrease the deduction otherwise allowable under section 162 for each such taxable year with respect to such property. The decrease for each such taxable year shall be equal to ( a ) the credit earned, divided by ( b ) the estimated useful life of the property (expressed in months), multiplied by ( c ) the number of calendar months in which the leased property was held by the lessee during such taxable year. Thus, if leased property with a basis of $27,000 in the hands of a calendar-year lessee, and with an estimated useful life of 10 years, is placed in service by the lessee on July 15, 1963, the lessee must decrease his section 162 deduction with respect to the leased property for the taxable year 1963 by $94.50 ($1,890 credit earned, divided by 120, multiplied by 6).
(iii) If, in the case of property placed in service before January 1, 1964, the lessor, under paragraph (f)(1)(v) of this section, supplies the lessee with the useful life category of such property, then for each taxable year beginning before January 1, 1964, during a period equal to the shortest life of the useful life category used by the lessee in computing qualified investment under section 46(c) with respect to the leased property, the lessee shall decrease the deduction otherwise allowable under section 162 for such taxable year with respect to such property. The decrease for each such taxable year shall be equal to the credit earned divided by such shortest life, that is, 4, 6, or 8. Such decreases shall begin with the taxable year during which the lessee places the property in service. Thus, if leased property with a basis of $30,000 to the lessee, and an estimated useful life falling within the 4 years or more but less than 6 years useful life category, is placed in service by the lessee within the lessee's taxable year ending December 31, 1962, the lessee must decrease his section 162 deduction with respect to the leased property for each of the taxable years 1962 and 1963 by $175 ($700 credit earned divided by 4).
(iv) To the extent that a required decrease, under subdivision (ii) or (iii) of this subparagraph, is not taken into account for any taxable year beginning before January 1, 1964, because the deduction otherwise allowable under section 162 for such taxable year with respect to the leased property is less than the required decrease for such taxable year, then the balance of the required decrease not taken into account for such taxable year shall decrease the amount otherwise allowable as a deduction under section 162 with respect to such property for the next succeeding taxable year (or years) beginning before January 1, 1964, if any, for which a deduction is allowable with respect to such property. Thus, if the required decrease with respect to leased property is $200 for 1962 but the lessee's deduction otherwise allowable under section 162 for such taxable year with respect to such property is only $50, the balance of $150 must be applied in 1963 to decrease the deduction otherwise allowable to the lessee with respect to the leased property for such taxable year.
(v) See paragraph (b) of § 1.48-7 for reduction of basis in the case of an actual purchase of leased property by a lessee (in a taxable year of such lessee beginning before January 1, 1964) who has been treated as a purchaser of such property under this section.
(3) Increase in rental deductions on account of early disposition, etc. (i) If, as a result of an early disposition, etc., in a taxable year beginning before January 1, 1964, with respect to leased property placed in service before such date, the lessee's tax is increased under section 47(a) (1) or (2), or an adjustment in a carryback or carryover is made under section 47(a)(3) by reduction of an unused credit, the rental deductions (if any) otherwise allowable under section 162 to such lessee for amounts paid or accrued to the lessor under the lease with respect to such property shall be increased in an amount equal to the total decreases previously made in the lessee's rental deductions under subparagraph (2) of this paragraph.
(ii) Except as provided in subdivision (iii) of this subparagraph, the increase in rental deductions described in subdivision (i) of this subparagraph shall be taken into account as an increase in rental deductions otherwise allowable under section 162 for the taxable year in which the early disposition, etc., occurred.
(iii) If, after the event which caused section 47(a) (1), (2), or (3) to apply the lessee continues the use of the property in a trade or business or in the production of income, the increase in rental deductions described in subdivision (i) of this subparagraph shall be taken into account ratably over the remaining portion of the useful life of the property which was used in making the decreases in rental deductions with respect to the property under subparagraph (2) of this paragraph.
(iv) If subdivision (iii) of this subparagraph applies, and if, prior to the expiration of the useful life of the property used in making the decreases in rental deductions, the lease is terminated other than by actual purchase of the property by the lessee, any increase in rental deductions not previously taken into account shall be taken into account as an increase in rental deductions for the taxable year in which the lease is terminated. In the case of an actual purchase of the property by the lessee, see paragraph (e) of § 1.48-7.
(l) Examples. The provisions of this section may be illustrated by the following examples:
(m) Increase in rental deductions on account of section 203(a)(2)(B) of the Revenue Act of 1964 —(1) In general. (i) Under section 203(a)(2)(B) of the Revenue Act of 1964, if, for any taxable year of a lessee beginning before January 1, 1964, the rental deductions otherwise allowable under section 162 to such lessee for amounts paid or accrued to the lessor under the lease with respect to leased property placed in service before January 1, 1964, were decreased under paragraph (k)(2) of this section, such rental deductions shall be increased.
(ii) The increase in rental deductions described in subdivision (i) of this subparagraph shall be in an amount equal to the total decreases in the lessee's rental deductions previously made under paragraph (k)(2) of this section less any increases in rental deductions made under paragraph (k)(3) of this section.
(iii) Except as provided in subdivision (iv) of this subparagraph, the increase in rental deductions described in subdivision (i) of this subparagraph shall be taken into account ratably over the remaining portion of the useful life of the property commencing with the first day of the first taxable year beginning after December 31, 1963. For this purpose, the useful life of the property shall be the useful life used in making the decreases in rental deductions with respect to the property under paragraph (k)(2) of this section.
(iv) If the lease is terminated other than by the lessee's actual purchase of the property during a taxable year beginning after December 31, 1963, and before the end of the remaining useful life of the property used in making the decreases in rental deductions, the amount of the increase in rental deductions described in subdivision (i) of this subparagraph and not previously taken into account shall be allowed as a deduction for the taxable year in which such termination occurs.
(v) The rental deductions with respect to any section 38 property are not to be increased under this paragraph if the lessee dies in a taxable year beginning before January 1, 1964.
(vi) The increase in rental deductions described in subdivision (i) of this subparagraph shall ordinarily be taken into account by the lessee treated as the purchaser, that is, the lessee entitled to the credit. However, if the property under the lease is transferred by the lessee to a successor lessee in a transaction described in section 47(b) (other than a transfer by reason of death) under which the successor lessee assumes the lessee's obligations under the lease, such increase in rental deductions shall be taken into account by the successor lessee in the manner prescribed in this paragraph.
(2) Examples. The operation of this paragraph may be illustrated by the following examples:
(b) For each of the taxable years 1964 through 1971, Y Corporation increases its deductions otherwise allowable under section 162 for amounts paid to X Corporation under the lease by $42 ($336 (that is, $168 multiplied by 2) divided by the remaining useful life of 8 years).
(b) For the taxable year 1964, Y Corporation increases its deductions otherwise allowable under section 162 by $42.
(c) For the taxable year 1965, Y Corporation increases its deductions otherwise allowable under section 162 for the portion of the increase which had not been taken into account as of the time of the termination of the lease. Thus, the amount of such increase for the taxable year 1965 is $294 ($336 minus $42).
§ 1.48-5   Electing small business corporations.
(a) In general. (1) In the case of an electing small business corporation (as defined in section 1371(b)), the basis of “new section 38 property” and the cost of “used section 38 property” placed in service during the taxable year shall be apportioned pro rata among the persons who are shareholders of such corporation on the last day of such corporation's taxable year. Section 38 property shall not (by reason of such apportionment) lose its character as new section 38 property or used section 38 property, as the case may be. The estimated useful life of such property in the hands of a shareholder shall be deemed to be the estimated useful life of such property in the hands of the electing small business corporation. The bases of all new section 38 properties which have a useful life falling within a particular useful life category shall be aggregated; likewise, the cost of all used section 38 properties which have a useful life falling within a particular useful life category shall be aggregated. The total bases of new section 38 properties within each useful life category and the total cost of used section 38 properties within each useful life category shall be apportioned separately. The useful life categories are:
(i) 3 years or more but less than 5 years; (ii) 5 years or more but less than 7 years; and (iii) 7 years or more. There shall be apportioned to each person who is a shareholder of the electing small business corporation on the last day of the taxable year of such corporation, for his taxable year in which or with which the taxable year of such corporation ends, his pro rata share of the total bases of new section 38 properties within each useful life category, and his pro rata share of the total cost of used section 38 properties within each useful life category. In determining who are shareholders of an electing small business corporation on the last day of its taxable year, the rules of paragraph (d)(1) of § 1.1371-1 and of paragraph (a)(2) of § 1.1373-1 shall apply.
(2) The total cost of used section 38 property that may be apportioned by an electing small business corporation to its shareholders for any taxable year of such corporation shall not exceed $50,000. If the total cost of used section 38 property placed in service during the taxable year by the electing small business corporation exceeds $50,000 such corporation must select, under paragraph (c)(4) of § 1.48-3, the used section 38 property the cost of which is to be apportioned to its shareholders.
(3) A shareholder to whom the basis (or cost) of section 38 property is apportioned shall, for purposes of the credit allowed by section 38, be treated as the taxpayer with respect to such property. Thus, the total cost of used section 38 property apportioned to him by the electing small business corporation must be taken into account as cost of used section 38 property in determining whether the $50,000 limitation on the cost of used section 38 property which may be taken into account by the shareholder in computing qualified investment for any taxable year is exceeded. If a shareholder takes into account in determining his qualified investment any portion of the basis (or cost) of section 38 property placed in service by an electing small business corporation and if such property subsequently is disposed of or otherwise ceases to be section 38 property in the hands of the corporation, such shareholder shall be subject to the provisions of section 47. See § 1.47-4.
(b) Summary statement. An electing small business corporation shall attach to its return a statement showing the apportionment to each shareholder of the total bases of new, and the total cost of used, section 38 properties within each useful life category.
(c) Example. This section may be illustrated by the following example:
§ 1.48-6   Estates and trusts.
(a) In general. (1) In the case of an estate or trust, the basis of “new section 38 property” and the cost of “used section 38 property” placed in service during the taxable year shall be apportioned among the estate or trust and its beneficiaries on the basis of the income of such estate or trust allocable to each. Section 38 property shall not (by reason of such apportionment) lose its character as new section 38 property or used section 38 property, as the case may be. The estimated useful life of such property in the hands of a beneficiary shall be deemed to be the estimated useful life of such property in the hands of the estate or trust. The bases of all new section 38 properties which have a useful life falling within a particular useful life category shall be aggregated; likewise, the cost of all used section 38 properties which have a useful life falling within a particular useful life category shall be aggregated. The total bases of new section 38 properties within each useful life category and the total cost of used section 38 properties within each useful life category shall be apportioned separately. The useful life categories are:
(i) 3 years or more but less than 5 years; (ii) 5 years or more but less than 7 years; and (iii) 7 years or more. There shall be apportioned to the estate or trust for its taxable year, and to each beneficiary of such estate or trust for his taxable year in which or with which the taxable year of such estate or trust ends, his share (as determined under paragraph (b) of this section) of the total bases of new section 38 properties within each useful life category, and his share of the total cost of used section 38 properties within each useful life category.
(2) The total cost of used section 38 property that may be apportioned among an estate or trust and its beneficiaries for any taxable year of such estate or trust shall not exceed $50,000. If the total cost of used section 38 property placed in service during the taxable year by the estate or trust exceeds $50,000, such estate or trust must select, under paragraph (c)(4) of § 1.48-3, the used section 38 property the cost of which is to be apportioned among such estate or trust and its beneficiaries.
(3) A beneficiary to whom the basis (or cost) of section 38 property is apportioned shall, for purposes of the credit allowed by section 38, be treated as the taxpayer with respect to such property. Thus, the total cost of used section 38 property apportioned to him by the estate or trust must be taken into account as cost of used section 38 property in determining whether the $50,000 limitation on the cost of used property which may be taken into account by the beneficiary in computing qualified investment for any taxable year is exceeded. If a beneficiary takes into account in determining his qualified investment any portion of the basis (or cost) of section 38 property placed in service by an estate or trust and if such property subsequently is disposed of or otherwise ceases to be section 38 property in the hands of estate or trust, such beneficiary shall be subject to the provisions of section 47. See § 1.47-5.
(4) For purposes of this section, the term “beneficiary” includes heir, legatee, and devisee.
(5) If during the taxable year of an estate or trust a beneficiary's interest in the income of such estate or trust terminates, the basis (or cost) of section 38 property placed in service by such estate or trust after such termination shall not be apportioned to such beneficiary.
(b) Share. A trust's, estate's, or beneficiary's share of the total bases of new section 38 properties, and the total cost of used section 38 properties, within a useful life category shall be—
(1) The total bases of new (or the total cost of used) section 38 properties which have a useful life falling within such useful life category placed in service in the taxable year of the estate or trust, multiplied by
(2) The amount of income allocable to such estate or trust or to such beneficiary for such taxable year, divided by
(3) The sum of the amounts of income allocable to such estate or trust and all its beneficiaries taken into account under subparagraph (2) of this paragraph.
(c) Limitation based on amount of tax. In the case of an estate or trust, the $25,000 amount specified in section 46(a)(2), relating to limitation based on amount of tax, shall be reduced for the taxable year to—
(1) $25,000, multiplied by
(2) The qualified investment with respect to the total bases of new section 38 properties plus the qualified investment with respect to the total cost of used section 38 properties, apportioned to such estate or trust under paragraph (a) of this section, divided by
(3) The qualified investment with respect to the total bases of all new section 38 properties plus the qualified investment with respect to the total cost of all used section 38 properties, apportioned among such estate or trust and its beneficiaries.
(d) Summary statement. An estate or trust shall attach to its return a statement showing the apportionment to such estate or trust and to each beneficiary of the total bases of new, and the total cost of used, section 38 properties within each useful life category.
(e) Example. This section may be illustrated by the following example:
§ 1.48-9   Definition of energy property.
(a) In general. For purposes of the credit determined under section 48 of the Internal Revenue Code (Code), the term energy property means property that, taking into account the definition of the term unit of energy property (defined in paragraph (f)(2)(i) of this section) and of other terms defined in paragraph (b) and other provisions of this section, meets the requirements of paragraph (c) of this section and is of a type of energy property set forth in paragraph (e) of this section. If a property is described more than once in the types of energy property set forth in paragraph (e), only a single section 48 credit is allowed. Paragraph (d) of this section provides rules for property excluded from energy property. Paragraph (f) of this section provides rules for components included in an energy property. Paragraph (g) of this section provides the applicability date for this section.
(b) Definitions related to requirements for energy property. For purposes of section 48, this section, §§ 1.48-13 and 1.48-14, and any provision of the Code or this chapter that expressly refers to any of the foregoing, the definitions in this paragraph (b) apply:
(1) Construction, reconstruction, or erection of energy property. The term construction, reconstruction, or erection of energy property means work performed to construct, reconstruct, or erect energy property either by the taxpayer or for the taxpayer in accordance with the taxpayer's specifications.
(2) Acquisition of energy property. The term acquisition of energy property means a transaction by which a taxpayer acquires the rights and obligations to establish tax ownership of an energy property for Federal income tax purposes.
(3) Original use of energy property —(i) In general. The term original use of energy property means the first use to which a unit of energy property is put, whether or not such use is by the taxpayer.
(ii) Retrofitted units of energy property. A retrofitted unit of energy property acquired by the taxpayer will be treated as not being put to original use by the taxpayer unless the rules in § 1.48-14(a) regarding retrofitted energy property (80/20 Rule) or paragraph (e)(10)(v) of this section regarding modifications of certain energy storage technology apply. The question of whether a unit of energy property meets the 80/20 Rule or is modified (as described in paragraph (e)(10)(v) of this section) is a facts and circumstances determination.
(4) Allowable —(i) In general. For purposes of applying paragraph (c)(1)(ii) of this section, depreciation or amortization in lieu of depreciation (collectively, depreciation ) is allowable with respect to energy property if such property is of a character subject to the allowance for depreciation under section 167 of the Code and the basis or cost of such property is recovered using a method of depreciation (for example, the straight line method), which includes any additional first year depreciation deduction method of depreciation (for example, under section 168(k) of the Code). Further, if an Internal Revenue Service adjustment with respect to the Federal income tax or information return for such taxable year requires the basis or cost of such energy property to be recovered using a method of depreciation, depreciation is allowable to the taxpayer with respect to energy property.
(ii) Exclusions from allowable. For purposes of paragraph (b)(4)(i) of this section, depreciation is not allowable with respect to energy property if the basis or cost of such property is not recovered through a method of depreciation but, instead, such basis or cost is recovered through a deduction of the full basis or cost of the energy property in one taxable year (for example, under section 179 of the Code).
(5) Placed in service —(i) In general. Energy property is considered placed in service in the earlier of:
(A) The taxable year in which, under the taxpayer's depreciation practice, the period for depreciation with respect to such energy property begins; or
(B) The taxable year in which the energy property is placed in a condition or state of readiness and availability for a specifically assigned function, whether in a trade or business or in the production of income. Energy property in a condition or state of readiness and availability for a specifically assigned function includes, but is not limited to, components that are acquired and set aside during the taxable year for use as replacements for a particular energy property (or energy properties) to avoid operational time loss and equipment that is acquired for a specifically assigned function and is operational but is undergoing testing to eliminate any defects. However, components acquired to be used in the construction of an energy property will not be considered in a condition or state of readiness and availability for a specifically assigned function.
(ii) Energy property subject to § 1.48-4 election to treat lessee as purchaser. Notwithstanding paragraph (b)(5)(i) of this section, energy property with respect to which an election is made under § 1.48-4 to treat the lessee as having purchased such energy property is considered placed in service by the lessor in the taxable year in which possession is transferred to such lessee.
(6) Unit of energy property. The term unit of energy property is defined in paragraph (f)(2)(i) of this section. No provision of this section or § 1.48-13 or § 1.48-14 uses the term unit in respect of energy property with any meaning other than that provided in paragraph (f)(2)(i) of this section.
(7) Claim. With respect to a section 48 credit determined with respect to energy property of a taxpayer, the term claim means filing a completing Form 3468, Investment Credit, or any successor form(s) with the taxpayer's timely filed (including extensions) Federal income tax return for the taxable year in which the energy property is placed in service, and includes the making of an election under section 6417 or 6418 of the Code and corresponding regulations with respect to such section 48 credit and made on the taxpayer's Federal income tax return or annual information return.
(c) Requirements for energy property —(1) In general. Energy property must satisfy each of the requirements of paragraphs (c)(1)(i) through (v) of this section:
(i) The taxpayer constructs, reconstructs, or erects the property, or, if the original use of the property commences with the taxpayer, acquires the property;
(ii) Depreciation (or amortization in lieu of depreciation) is allowable with respect to the property;
(iii) The property meets the performance and quality standards as provided in paragraph (c)(2) of this section;
(iv) The construction of the property begins before the date provided in section 48 (if any such date is provided); and
(v) The property is placed in service by the taxpayer by the date provided in section 48 (if any such date is provided).
(2) Performance and quality standards —(i) In general. Energy property must meet performance and quality standards, if any, that have been prescribed by the Secretary of the Treasury or her delegate (after consultation with the Secretary of Energy) and are in effect at the time of acquisition of the energy property.
(ii) Special rules for performance and quality standards —(A) Small wind energy property —( 1 ) Small wind energy property must meet one of the following performance and quality standards in effect at the time of acquisition of the small wind turbine:
( i ) American Wind Energy Association Small Wind Turbine Performance and Safety Standard 9.1 (AWEA standards);
( ii ) International Electrotechnical Commission standards 61400-1, 61400-2, 61400-11, 61400-12 (IEC standards); or
( iii ) ANSI/ACP Small Wind Turbine Standard 101-1 (ACP standards).
( 2 ) Taxpayers may rely on a certification that the performance and quality standards set forth in this paragraph (c)(2)(ii)(A)( 1 ) are met. Guidance published in the Internal Revenue Bulletin sets forth the requirements to certify that the performance and quality standards provided in this paragraph (c)(2)(ii)(A)( 1 ) are met. See § 601.601 of this chapter.
(B) Electrochromic glass property. To be eligible for the section 48 credit, electrochromic windows must be rated in accordance with the National Fenestration Rating Council (NFRC) and secondary glazing systems must be rated in accordance with the Attachments Energy Rating Council (AERC) Rating and Certification Process, or subsequent revisions. See paragraph (e)(2)(ii) of this section for the definition of electrochromic glass property.
(iii) Time of acquisition. For purposes of applying performance and quality standards, the time of acquisition is the date the taxpayer enters into a binding contract (defined in paragraph (c)(2)(iv) of this section) to acquire the property, or, in the case of property constructed, reconstructed, or erected by the taxpayer, the earlier of the date that—
(A) The taxpayer begins construction, reconstruction, or erection of the property, or
(B) The taxpayer and another person enter into a binding contract (as defined in paragraph (c)(2)(iv) of this section) requiring the other person to construct, reconstruct, or erect property and to place the property in service for an agreed upon use.
(iv) Binding contract. For purposes of this paragraph (c)(2), whether a contract is binding is determined based on the rules described in § 1.168(k)-2(b)(5)(iii)(A).
(d) Property that is not energy property —(1) Interaction with section 45. Energy property does not include any property that is part of a qualified facility the production from which is allowed as a credit determined under section 45 of the Code (section 45 credit) for the taxable year or any prior taxable year. However, see paragraph (f)(3) of this section for rules regarding property that is an integral part of an energy property that is also used by a qualified facility. See § 1.48-14(f)(1) for rules regarding making an election under section 48(a)(5) to treat a qualified facility as an energy property.
(2) Other property. Energy property also does not include power purchase agreements, goodwill, going concern value, or renewable energy certificates.
(e) Types of energy property. The types of energy property eligible for a section 48 credit are:
(1) Solar energy property —(i) In general. Solar energy property is equipment that uses solar energy to generate electricity, to heat or cool (or provide hot water for use in) a structure, or to provide solar process heat, excepting property used to generate energy for the purposes of heating a swimming pool. Solar energy property includes solar electric generation equipment (as defined in paragraph (e)(1)(ii) of this section), solar process heat equipment (as defined in paragraph (e)(1)(iii) of this section), and equipment that uses solar energy to heat or cool a structure or provide hot water for use in a structure, and parts related to the functioning of all such equipment.
(ii) Solar electric generation equipment. Solar electric generation equipment is equipment that converts sunlight into electricity through the use of devices such as solar cells or other collectors.
(iii) Solar process heat equipment. Solar process heat equipment is equipment that uses solar energy to generate steam at high temperatures for use in industrial or commercial processes.
(2) Fiber-optic solar energy property and electrochromic glass property —(i) Fiber-optic solar energy property. Fiber-optic solar energy property is equipment that uses solar energy to illuminate the inside of a structure using fiber-optic distributed sunlight.
(ii) Electrochromic glass property. Electrochromic glass energy property uses electricity to change its light transmittance properties (both visible and near infrared light) in order to heat or cool a structure. For purposes of section 48, windows, including secondary windows (also referred to as secondary glazings), that incorporate electrochromic glass are treated as electrochromic glass property.
(3) Geothermal energy property —(i) In general. Geothermal energy property is equipment used to produce, distribute, or use energy derived from a geothermal deposit (within the meaning of section 613(e)(2) of the Code), but only, in the case of electricity generated by geothermal power, up to (but not including) the electrical transmission stage. Geothermal equipment includes production equipment (as defined in paragraph (e)(3)(ii) of this section) and distribution equipment (as defined in paragraph (e)(3)(iii) of this section).
(ii) Production equipment. For purposes of paragraph (e)(3)(i) of this section, production equipment is equipment necessary to bring geothermal energy from the subterranean deposit to the surface, including well-head and downhole equipment (such as screening or slotting liners, tubing, downhole pumps, and associated equipment). Production, injection, and monitoring wells required for production of the geothermal deposit qualify as production equipment. If geothermal energy is used to generate electricity, production equipment also includes the property necessary to produce electricity. Production equipment does not include equipment used for exploration and development of geothermal deposits, such as drilling wells.
(iii) Distribution equipment. For purposes of paragraph (e)(3)(i) of this section, distribution equipment is equipment that transports geothermal energy from a geothermal deposit to the site of ultimate use. If geothermal energy is used to generate electricity, distribution equipment includes equipment that transports geothermal fluids between the geothermal deposit and the power plant. Distribution equipment also includes components of a building's heating and/or cooling system, such as pipes and ductwork that distribute within a building the energy derived from the geothermal deposit.
(4) Qualified fuel cell property. Qualified fuel cell property is a fuel cell power plant that has a nameplate capacity of at least 0.5 kilowatts (kW) (1 kW in the case of a fuel cell power plant with a linear generator assembly) of electricity using an electrochemical or electromechanical process, and an electricity-only generation efficiency greater than 30 percent. For this purpose, electricity-only generation efficiency may be calculated by dividing the heat rate of the fuel cell (for example, kilowatt-hours (kWh) electricity produced per kilogram (kg) of fuel consumed) by the higher heating value of the fuel (for example, kWh per kg). A fuel cell power plant is an integrated system comprised of a fuel cell stack assembly, or linear generator assembly, and associated balance of plant components that converts a fuel into electricity using electrochemical or electromechanical means. A linear generator assembly does not include any assembly that contains rotating parts.
(5) Qualified microturbine property. Qualified microturbine property is a stationary microturbine power plant that has a nameplate capacity of less than 2,000 kW and an electricity-only generation efficiency of not less than 26 percent at International Standard Organization conditions. A stationary microturbine power plant is an integrated system comprised of a gas turbine engine, a combustor, a recuperator or regenerator, a generator or alternator, and associated balance of plant components that converts a fuel into electricity and thermal energy. A stationary microturbine power plant also includes all secondary components located between the existing infrastructure for fuel delivery and the existing infrastructure for power distribution, including equipment and controls for meeting relevant power standards, such as voltage, frequency, and power factors.
(6) Combined heat and power system (CHP) property —(i) In general. CHP property is property comprising a system that uses the same energy source for the simultaneous or sequential generation of electrical power, mechanical shaft power, or both, in combination with the generation of steam or other forms of useful thermal energy (including heating and cooling applications). CHP property must produce at least 20 percent of its total useful energy in the form of thermal energy that is not used to produce electrical or mechanical power (or combination thereof), and at least 20 percent of its total useful energy in the form of electrical or mechanical power (or combination thereof). The energy efficiency percentage of CHP property must exceed 60 percent (except in the case of CHP systems that use biomass within the meaning of section 45). CHP property does not include any property comprising a system if such system has a capacity in excess of 50 MW or a mechanical energy capacity in excess of 67,000 horsepower or an equivalent combination of electrical and mechanical energy capacities.
(ii) Components excluded. CHP property does not include property used to transport the energy source to the generating facility or to distribute energy produced by the facility.
(7) Qualified small wind energy property. Qualified small wind energy property is property that uses a qualifying small wind turbine to generate electricity. A qualifying small wind turbine means a wind turbine that has a nameplate capacity of not more than 100 kW.
(8) Geothermal heat pump (GHP) property. GHP property is equipment that uses the ground, ground water, or other underground fluids as a thermal energy source to heat a structure or as a thermal energy sink to cool a structure.
(9) Waste energy recovery property (WERP) —(i) In general. WERP is property that generates electricity solely from heat from buildings or equipment if the primary purpose of such building or equipment is not the generation of electricity. Examples of buildings or equipment the primary purpose of which is not the generation of electricity include, but are not limited to, manufacturing plants, medical care facilities, facilities on college campuses, pipeline compressor stations, and associated equipment. WERP does not include any property that has a capacity in excess of 50 MW.
(ii) Coordination with CHP property. Any WERP that is part of a system that is a CHP property is not treated as WERP for purposes of section 48 unless the taxpayer elects to not treat such system as a CHP property for purposes of section 48.
(10) Energy storage technology —(i) In general. Energy storage technology includes electrical energy storage property described in paragraph (e)(10)(ii) of this section, thermal energy storage property described in paragraph (e)(10)(iii) of this section, and hydrogen energy storage property described in paragraph (e)(10)(iv) of this section.
(ii) Electrical energy storage property. Electrical energy storage property is property (other than property primarily used in the transportation of goods or individuals and not for the production of electricity) that receives, stores, and delivers energy for conversion to electricity, and has a nameplate capacity of not less than 5 kWh. For example, subject to the exclusion for property primarily used in the transportation of goods or individuals, electrical energy storage property includes, but is not limited to, rechargeable electrochemical batteries of all types (such as lithium ion, vanadium flow, sodium sulfur, and lead-acid), ultracapacitors, physical storage such as pumped storage hydropower, compressed air storage, flywheels, and reversible fuel cells.
(iii) Thermal energy storage property —(A) In general. Thermal energy storage property is property comprising a system that is directly connected to a heating, ventilation, or air conditioning (HVAC) system; removes heat from, or adds heat to, a storage medium for subsequent use; and provides energy for the heating or cooling of the interior of a residential or commercial building. Thermal energy storage property includes equipment and materials, and parts related to the functioning of such equipment, to store thermal energy for later use to heat or cool, or to provide hot water for use in heating, a residential or commercial building. It does not include property that transforms other forms of energy into heat in the first instance. Property that removes heat from, or adds heat to, a storage medium for subsequent use is property that is designed with the particular purpose of substantially altering the time profile of when heat added to or removed from the thermal storage medium can be used for heating or cooling of the interior of a residential or commercial building. Paragraph (e)(10)(iii)(B) of this section provides a safe harbor for determining whether a thermal energy storage property has such a purpose. Thermal energy storage property does not include a swimming pool, CHP property, or a building or its structural components. For example, thermal energy storage property includes, but is not limited to, a system that adds heat to bricks heated to high temperatures that later use this stored energy to heat a building through the HVAC system; thermal ice storage systems that use electricity to run a refrigeration cycle to produce ice that is later connected to the HVAC system as an exchange medium for air conditioning the building; heat pump systems that store thermal energy in an underground tank, an artificial pit, an aqueous solution, a borehole field, or a solid-liquid phase change material to be extracted for later use for heating and/or cooling; and air-to-water heat pump systems with a water storage tank. However, consistent with § 1.48-14(d), if thermal energy storage property, such as a heat pump system, includes equipment, such as a heat pump, that also serves a purpose in an HVAC system that is installed in connection with the thermal energy storage property, the taxpayer's basis in the thermal energy storage property includes the total cost of the thermal energy storage property and HVAC system less the cost of an HVAC system without thermal storage capacity that would meet the same functional heating or cooling needs as the heat pump system with a storage medium, other than time shifting of heating or cooling.
(B) Safe harbor. A thermal energy storage property will be deemed to have the purpose of substantially altering the time profile of when heat added to or removed from the thermal storage medium can be used to heat or cool the interior of a residential or commercial building if that thermal energy storage property is capable of storing energy that is sufficient to provide heating or cooling of the interior of a residential or commercial building for a minimum of one hour.
(iv) Hydrogen energy storage property. Hydrogen energy storage property is property (other than property primarily used in the transportation of goods or individuals and not for the production of electricity) that stores hydrogen and has a nameplate capacity of not less than 5 kWh, equivalent to 0.127 kg of hydrogen or 52.7 standard cubic feet (scf) of hydrogen. Hydrogen energy storage property includes, but is not limited to, above ground storage tanks, underground storage facilities, and associated compressors. Property that is an integral part of hydrogen energy storage property includes, but is not limited to, hydrogen liquefaction equipment and gathering and distribution lines within a hydrogen energy storage property.
(v) Modifications of energy storage energy property. With respect to electrical energy storage property and hydrogen energy storage property placed in service after December 31, 2022, energy storage technology that is modified as set forth in this paragraph (e)(10)(v) is treated as electrical energy storage property described in paragraph (e)(10)(ii) of this section or hydrogen energy storage property described in paragraph (e)(10)(iv) of this section, except that the basis of any existing property prior to such modification is not taken into account for purposes of this section and section 48. This paragraph (e)(10)(v) applies to any electrical energy storage property and hydrogen energy storage property that either:
(A) Was placed in service before August 16, 2022, and would be described in section 48(c)(6)(A)(i), except that such property had a nameplate capacity of less than 5 kWh and is modified in a manner that such property (after such modification) has a nameplate capacity (after such modification) of not less than 5 kWh; or
(B) Is described in section 48(c)(6)(A)(i) and is modified in a manner that such property (after such modification) has an increase in nameplate capacity of not less than 5 kWh.
(11) Qualified biogas property —(i) In general. Qualified biogas property is property comprising a system that converts biomass (as defined in section 45K(c)(3), as in effect on August 16, 2022) into a gas that consists of not less than 52 percent methane by volume (tested at the point described in paragraph (e)(11)(ii) of this section), or is concentrated by such system into a gas that consists of not less than 52 percent methane (tested at the point described in paragraph (e)(11)(ii) of this section), and captures such gas for sale or productive use and not for disposal via combustion. Qualified biogas property also includes any property that is part of such system that cleans or conditions such gas, including gas upgrading equipment, to make the gas suitable for sale or productive use. For example, qualified biogas property includes, but is not limited to, an anaerobic digester. Property that is an integral part of qualified biogas property includes, but is not limited to, a waste feedstock collection system, a landfill gas collection system and mixing or pumping equipment.
(ii) Methane content requirement. The methane content requirement described in section 48(c)(7)(A)(i) and paragraph (e)(11)(i) of this section is measured at the point at which the biogas exits the qualified biogas property.
(iii) Flaring Allowance. While a qualified biogas property generally may not capture biogas for disposal via combustion, combustion in the form of flaring will not disqualify a qualified biogas property provided the primary purpose of the qualified biogas property is sale or productive use of biogas and any flaring is in compliance with all relevant Federal, State, regional, Tribal, and local laws and regulations.
(12) Microgrid controllers —(i) In general. A microgrid controller is equipment that is part of a qualified microgrid and is designed and used to monitor and control the energy resources and loads on such microgrid. A qualified microgrid is an electrical system that includes equipment that is capable of generating not less than 4 kW and not greater than 20 MW of electricity; is capable of operating in connection with the electrical grid and as a single controllable entity with respect to such electrical grid, and independently (and disconnected) from such electrical grid; and is not part of a bulk-power system (as defined in section 215 of the Federal Power Act (16 U.S.C. 824o)).
(ii) Capable of operating in connection with the electrical grid. For purposes of this paragraph, a qualified microgrid includes an electrical system that is capable of operating in connection with the larger electrical grid, regardless of whether a connection to the larger electrical grid exists.
(13) Other property included in section 48. Any other property specified by section 48 as energy property is energy property for purposes of this section and §§ 1.48-13 and 1.48-14.
(f) Property included in energy property —(1) In general. An energy property includes a unit of energy property (defined in paragraph (f)(2)(i) of this section) that meets the requirements of paragraph (c) of this section, that is not excluded from energy property as provided in paragraph (d) of this section, and that is of a type of energy property included in paragraph (e) of this section. Property owned by the taxpayer that is an integral part of an energy property (as defined in paragraph (f)(3) of this section) is treated as part of that energy property. Energy property does not include any electrical transmission equipment, such as transmission lines and towers, or any equipment beyond the electrical transmission stage. Energy property also generally does not include equipment that is an addition or modification to an existing energy property. However, see § 1.48-14(a) for rules regarding retrofitted energy property (80/20 Rule) and paragraph (e)(10)(v) of this section for rules regarding modifications of certain types of energy storage technology.
(2) Unit of energy property —(i) Definition. The term unit of energy property means all functionally interdependent components of property (as defined in paragraph (f)(2)(ii) of this section) owned by the taxpayer that are operated together and that can operate apart from other energy properties within a larger energy project (as defined in § 1.48-13(d)). For rooftop solar energy property, all components of energy property that are installed on a single rooftop are treated as a single unit of energy property. See § 1.48-13(d) for rules regarding the treatment of multiple energy properties as an energy project for certain purposes.
(ii) Functionally interdependent —(A) In general. Except as provided in paragraph (f)(3)(ii)(B) of this section, with respect to components of a unit of energy property, the term functionally interdependent means that the placing in service of each component is dependent upon the placing in service of each of the other components in order to generate or store electricity, thermal energy, or hydrogen as provided by section 48(a)(3) and (c) and as described in paragraph (e) of this section.
(B) Components of certain energy property. In the case of solar process heat equipment, fiber-optic solar energy property, electrochromic glass property, GHP property, qualified biogas property, and microgrid controllers, with respect to components of such property, the term functionally interdependent means that the placing in service of each component is dependent upon the placing in service of each of the other components in order to perform the intended function of the energy property as provided by section 48(a)(3) and (c) and as described in paragraph (e) of this section.
(3) Integral part —(i) In general. For purposes of the section 48 credit, property owned by a taxpayer is an integral part of an energy property owned by the same taxpayer if it is used directly in the intended function of the energy property as provided by section 48(a)(3) and (c) and as described in paragraph (e) of this section and is essential to the completeness of the intended function. Property that is an integral part of an energy property is treated as part of that energy property. A taxpayer may not claim the section 48 credit for any property not owned by the taxpayer that is an integral part of energy property owned by the taxpayer. Multiple energy properties (whether owned by one or more taxpayers) may include shared property that may be considered an integral part of each energy property so long as the cost basis for the shared property is properly allocated to each energy property. The total cost basis of such shared property divided among the energy properties may not exceed 100 percent of the cost of such shared property. In addition, the exclusion in paragraph (d)(1) of this section does not apply to property that is shared by a qualified facility (as defined in section 45(d)) and an energy property if it is an integral part of that energy property. The basis of any such property must be properly allocated across the energy property and qualified facility that share such property.
(ii) Power conditioning and transfer equipment. Property that is an integral part of energy property includes power conditioning equipment and transfer equipment used to perform the intended function of the energy property as provided by section 48(a)(3) and (c) and as described in paragraph (e) of this section. Power conditioning equipment includes, but is not limited to, transformers, inverters, and converters, which modify the characteristics of electricity or thermal energy into a form suitable for use or transmission or distribution. Parts related to the functioning or protection of power conditioning equipment are also treated as power conditioning equipment and include, but are not limited to, switches, circuit breakers, arrestors, and hardware and software used to monitor, operate, and protect power conditioning equipment. Transfer equipment includes equipment that permits the aggregation of energy generated by components of energy properties and equipment that alters voltage to permit transfer to a transmission or distribution line. Transfer equipment does not include transmission or distribution lines. Examples of transfer equipment include, but are not limited to, wires, cables, and combiner boxes that conduct electricity. Parts related to the functioning or protection of transfer equipment are also treated as transfer equipment and may include items such as current transformers used for metering, electrical interrupters (such as circuit breakers, fuses, and other switches), and hardware and software used to monitor, operate, and protect transfer equipment. Power conditioning equipment and transfer equipment that are integral to an energy property may be integral to another energy property or used by a qualified facility (as defined in section 45(d)), so long as the total cost basis of the integral property is properly allocated across the energy property and qualified facility that share such property.
(iii) Roads. Roads that are an integral part of an energy property are integral to the activity performed by the energy property such as onsite roads that are used for equipment to operate and maintain the energy property. Roads primarily for access to the site, or roads used primarily for employee or visitor vehicles, are not integral to the activity performed by an energy property.
(iv) Fences. Fencing is not an integral part of an energy property because it is not integral to the activity performed by the energy property.
(v) Buildings. Generally, buildings are not integral parts of an energy property because they are not integral to the activity of the energy property. However, the structures described in paragraphs (f)(3)(vi) and (vii) of this section are not treated as buildings for this purpose.
(vi) Structures essentially items of machinery or equipment. A structure that is essentially an item of machinery or equipment is not treated as a building for purposes of paragraph (f)(3)(v) of this section.
(vii) Structures that house certain property. A structure that houses property that is integral to the activity of an energy property is not treated as a building for purposes of paragraph (f)(3)(v) of this section if the use of the structure is so closely related to the use of the housed energy property that the structure clearly can be expected to be replaced if the energy property it initially houses is replaced.
(4) Location of energy property. Any property that meets the requirements of paragraphs (f)(2) and (3) of this section is part of an energy property regardless of where such property is located.
(5) Examples. This paragraph provides examples illustrating property included in energy property.
(i) Example 1. Solar energy property. X constructs a solar energy property (Solar Property) comprised of 500 separate solar panels. The solar panels are connected by wires, cables, and combiner boxes. Generated electricity is conditioned for subsequent use through one inverter and eventually carried to a substation that houses a transformer where the electricity is stepped up to electrical grid voltage before being transmitted to the electrical grid through an intertie. All components of the Solar Property up to the inverter are functionally interdependent components of the Solar Property. The inverter and up to and including the transformer are integral parts of the Solar Property. Therefore, the Solar Property is an energy property for purposes of the section 48 credit. When X places the Solar Property in service, the cost of the components up to and including the transformer is included in the basis of the Solar Property for purposes of computing the section 48 credit.
(ii) Example 2. Co-located energy properties. Assume the same facts as in paragraph (f)(5)(i) of this section ( Example 1 ), except that Y constructs a wind energy property (Wind Property) near X's solar energy property (Solar Property). X's Solar Property and Y's Wind Property each connect to a substation that houses a transformer where the electricity is stepped up to electrical grid voltage before being transmitted to the electrical grid through an intertie. X and Y each pay 50% of the cost of, and own a 50% undivided interest in, the transformer and related power conditioning equipment housed in the substation. X's Solar Property and Y's Wind Property are separate energy properties. When X and Y place their respective energy properties in service, the cost of the components up to and including 50% of the cost of the transformer and related power conditioning equipment is included in X's and Y's basis in their respective energy properties for purposes of computing the section 48 credit.
(iii) Example 3. Qualified offshore wind energy project. Z constructs an offshore wind farm (Offshore Wind Energy Project) comprised of 150 turbines (energy properties) for which Z makes a valid election under section 48(a)(5) to claim the section 48 credit in lieu of the section 45 credit. The alternating current electricity generated by the individual wind turbines will be carried by inter-array cables to an offshore substation where a transformer will step up the voltage of the electricity and a converter will convert it to direct current so it may be transported by subsea export cables to an onshore substation adjacent to the point of interconnection with the electrical grid. When the electricity reaches the onshore substation, it will flow into another converter where it will be converted back to alternating current, and then through a transformer and associated switchgear where it will be converted to electrical grid voltage and where the Offshore Wind Energy Project can be electrically isolated from the grid. The electricity will then pass through an intertie that will take the electricity from the substation to the point of interconnection with the electrical grid. All components of the Offshore Wind Energy Project, up to and including the transformer and switchgear housed in the onshore substation, are either functionally interdependent components or integral parts of the energy properties that comprise the Offshore Wind Energy Project. Therefore, when Z places the Offshore Wind Energy Project in service, the cost of the components up to and including the transformer and switchgear housed in the onshore substation are included in the aggregate basis of the energy properties that comprise the Offshore Wind Energy Project for purposes of computing the section 48 credit.
(iv) Example 4. Co-located energy property and qualified facility. X constructs a wind facility (Wind Facility) that is co-located with an energy storage technology (Energy Storage). The Wind Facility and Energy Storage share power conditioning and transfer equipment. The power conditioning and transfer equipment are integral parts of the Energy Storage, and are therefore considered energy property. Therefore, X will include a properly allocated share of the shared power conditioning and transfer equipment costs to determine the section 48 credit for the Energy Storage. If the Wind Facility otherwise satisfies the requirements of the section 45 credit, X may claim the section 45 credit with respect to the Wind Facility.
(g) Applicability date. This section applies with respect to property placed in service after December 31, 2022, and during a taxable year beginning after December 12, 2024.
§ 1.48-10   Single purpose agricultural or horticultural structures.
(a) In general —(1) Scope. Under section 48(a)(1)(D), “section 38 property” includes single purpose agricultural and horticultural structures, as defined in section 48 (p) and paragraphs (b) and (c) of this section. These structures are subject to a special rule for recapture of the credit. See paragraph (g) of this section. For the relation of this section to section 48(a)(1)(B) (other tangible property) and to sections 1245 and 1250 (depreciation recapture), see paragraph (h) of this section.
(2) Effective date. The provisions of section 48(a)(1)(D) and this section apply to open taxable years ending after August 15, 1971.
(b) Definition of single purpose agricultural structure —(1) In general. Under section 48(p)(2), a single purpose agricultural structure is any structure or enclosure that meets all of the following requirements:
(i) It is specifically designed and constructed for permissible purposes (as defined in paragraph (b)(2) of this section). See paragraph (d) of this section for the rule regarding “specifically designed and constructed”.
(ii) It is specifically used exclusively for those permissible purposes. See paragraph (e) of this section for the rules regarding “specifically used”.
(iii) It houses equipment necessary to house, raise, and feed livestock and their produce. See paragraphs (b)(3) and (4) of this section.
(2) Permissible purposes. The following are the only permissible purposes for a single purpose agricultural structure:
(i) Housing, raising, and feeding a particular type of livestock and, at the taxpayer's option, its produce. The term “housing, raising, and feeding” includes the full range of livestock breeding and raising activities, including ancillary post-production activities (as defined in paragraph (f) of this section). Thus, for example, use of a structure for breeding livestock, or for producing eggs or livestock, is permitted. The structure may also be used for storing feed or machinery, but more than strictly incidental use for these purposes will disqualify the structure. See paragraph (e)(1) of this section. For the special rule concerning the permissible purposes for a milking parlor, see paragraph (b)(2)(iii) of this section.
(ii) Housing required equipment (including any replacements) as defined in paragraph (b)(4) of this section.
(iii) If the structure is a dairy facility, it will qualify if it is used for: (A) activities consisting of the production of milk or of the production of milk and the housing, raising, or feeding dairy cattle, and (B) housing equipment (including any replacements) necessary for these activities. The term “housing, raising, or feeding” includes the full range of dairy cattle breeding and raising activities including ancillary post-production activities (as defined in paragraph (f) of this section). The structure may also be used for storing feed or machinery, but, more than incidental use for these purposes will disqualify the structure. See paragraph (e)(1) of this section.
(3) Livestock; particular type of livestock —(i) Livestock. Livestock qualifying as “section 38 property” under § 1.48-1(l) constitutes livestock for purposes of this section. Thus, for example, horses are not livestock for purposes of this section since they do not qualify as “section 38 property” under § 1.48-1(l). Under section 48(p)(6) poultry constitutes livestock for purposes of section 48(a)(1)(D). The term “livestock” includes the offspring of livestock. “Livestock” is distinguished from the produce of livestock, such as milk and eggs held for sale. For purposes of this section, eggs held for hatching and newborn livestock are considered livestock. A structure used solely to house produce of livestock or equipment necessary to house produce of livestock will not qualify as a single purpose agricultural structure. Thus, for example, a dairy facility used solely for storing milk will not qualify.
(ii) Particular type of livestock. A structure qualifies as a single purpose agricultural structure only if it is specifically designed, constructed, and used exclusively for permissible purposes with respect to one particular type of livestock. For purposes of this section, each species is a different type except that all species of poultry are considered to be of a single type. Thus, for example, a structure specifically designed and constructed as a single purpose hog-raising facility will not qualify if it is used to raise dairy cows, but a structure specifically designed, constructed, and used to raise poultry may house, raise, and feed both chickens and turkeys.
(4) Required equipment rule. (i) A single purpose agricultural structure must also house equipment necessary to house, raise, and feed the livestock (“required equipment”). Required equipment must be an integral part of the structure, and includes, but is not limited to, equipment necessary to contain the livestock, to provide them with water or feed, and to control the temperature, lighting, and humidity of the interior of the structure. For purposes of this section, equipment is an integral part of the structure if it is physically attached to or a part of the structure. The useful life of the structure, however, need not be contemporaneous with the life of the equipment it houses. A structure without required equipment is not a single purpose agricultural structure.
(ii) A single purpose agricultural structure may, but is not required to, house equipment (for example, loading chutes) necessary to the conduct of ancillary post-production activities as defined in paragraph (f) of this section.
(5) Livestock structure. In section 48(p)(2), the terms “single purpose livestock structure” and “single purpose agricultural structure” are interchangeable.
(c) Definition of single purpose horticultural structure —(1) In general. Under section 48(p)(3), a single purpose horticultural structure is any structure that meets both of the following requirements:
(i) It is a greenhouse or other structure specifically designed and constructed for permissible purposes (as defined in paragraph (c)(2) of this section). See paragraph (d) of this section for the rule regarding “specifically designed and constructed.”
(ii) It is specifically used exclusively for those permissible purposes. See paragraph (e) of this section for the rules regarding “specifically used.”
(2) Permissible purposes. The following are the only permissible purposes for a single purpose horticultural structure:
(i) The commercial production of plants (including plant products such as flowers, vegetables, or fruit) in a greenhouse.
(ii) The commercial production of mushrooms.
(iii) A single purpose horticultural structure also may, but is not required to, house equipment necessary to carry out these permissible purposes listed in paragraphs (c)(2) (i) and (ii) of this section.
(3) Ancillary post-production activities. The terms “commercial production of plants” and “commercial production of mushrooms” include ancillary post-production activities (as defined in paragraph (f) of this section).
(d) Specifically designed and constructed. A structure is specifically designed and constructed if it is not economic to design and construct the structure for the intended qualifying purpose and then use the structure for a different purpose. For example, if a hog raising structure is designed and constructed in accordance with a standard set of plans for such a structure provided by the Department of Agriculture, it would not be economic to use the structure for purposes other than hog raising.
(e) Specifically used. There are two aspects of the specific use requirement—exclusive use and actual use.
(1) Exclusive use. (i) A structure qualifies as a single purpose agricultural or horticultural structure only if it is used exclusively for the permitted purposes by reason of which it qualified for the credit. Thus—
(A) The structure may not be used for any nonpermissible purposes (for example, processing, marketing, or more than incidental use for storing feed or equipment) and
(B) It may not be put to any use other than the specific use by reason of which it qualifies for the credit.
(ii) For purposes of this section, the term “incidental use” means a use which is both related and subordinate to the qualifying purpose. Thus, for example, if feed is stored in an agricultural structure which will be used for raising hogs, the feed must be used only for the hogs in order to be related to the qualifying purpose. In determining whether use of the structure for feed storage is subordinate to the qualifying purpose, all of the facts and circumstances must be considered, including, with respect to feed storage, the following:
(A) Type of animal involved;
(B) Number of, and consumption rate for, each animal;
(C) Climate of area;
(D) Total volume of storage area; and
(E) Percentage of structure's total volume devoted to storage.
(iii) It will be presumed that the storage function is not subordinate to the qualifying purpose of the structure if more than one-third of the structure's total usable volume is devoted to storage. This presumption may be rebutted with clear and convincing evidence.
(iv) A structure may fail the exclusive use test if either of the requirements of paragraph (e)(1)(i) of this section is not met. Thus, for example, a horticultural structure that contains an area for processing plants or plant products will fail the exclusive use test because there is a nonpermissible use. An agricultural structure that is used to house more than one particular type of livestock fails the exclusive use test for the same reason. A change in the use of an agricultural structure from one species of livestock to another will cause the structure to fail the exclusive use test when the change occurs. Thus, for example, a hog-raising facility which qualified for the credit when it was placed in service cannot later be modified and used for producing broiler chickens even if the structure would have qualified for the credit if it had been originally designed, constructed, and used exclusively for producing broiler chickens.
(2) Actual use. (i) A single purpose agricultural or horticultural structure also must actually be used for the permissible purpose by reason of which it qualifies for the credit. “Actual use” means “placed in service” (as defined in § 1.46-3(d)). Mere vacancy, on a temporary basis, will not disqualify the structure. Thus, for example, a structure that is designed and constructed as a hog-raising structure will not qualify if it is never placed in service for raising hogs. However, a turkey-raising facility will not be disqualified if the turkeys are all sent to a packing plant in November and the structure remains vacant until the next spring when newly hatched turkeys are placed in the structure to be raised.
(ii) For purposes of this section, “vacancy on a temporary basis” includes temporary vacancy caused by market fluctuations or other economic considerations and vacancy on a seasonal basis.
(f) Work space; ancillary post-production activities —(1) Permissible work space. Under section 48(p)(4), a single purpose agricultural or horticultural structure may contain work space only if it is used for—
(i) Stocking, caring for, or collecting livestock, plants, or mushrooms,
(ii) Maintenance of the structure, or
(iii) Maintenance or replacement of the equipment or stock enclosed by or contained in the structure. Thus, for example, an eligible structure may not contain space devoted to processing or marketing or other nonpermissible purposes.
(2) Ancillary post-production activities. The term “stocking, caring for, or collecting” the livestock, plants, or mushrooms includes ancillary post-production activities. These activities, therefore, constitute permissible purposes when carried on in conjunction with other permissible purposes, and a qualifying structure may contain work space devoted to such activities. Ancillary post-production activities include gathering, sorting, and loading livestock, plants, and mushrooms and packing unprocessed plants, mushrooms, and the live offspring and unprocessed produce of the livestock. Ancillary post-production activities do not include processing activities, such as slaughtering or packing meat, nor do they include marketing activities.
(g) Special rule for recapture under section 47. Under section 48(p)(5), if a structure which qualifies for the credit under this section becomes ineligible because it ceases to be held for the specific use by reason of which it qualified (or it is used for other than that qualifying use) before the end of the applicable estimated useful life or period specified in section 47(a), then the investment credit previously allowed with respect to the structure may be partially or entirely recaptured under section 47. Unlike other property to which section 47 applies, single purpose structures may not be converted from one permissible use to another without recapture. See subparagraph (e)(2) of this section.
(h) Relationship to other sections —(1) Relation to section 48(a)(1)(B). All structures satisfying the requirements of section 48(a)(1)(B) and (a)(1)(D) will be considered to qualify under either provision.
(2) Relationship to sections 1245 and 1250. For purposes of depreciation recapture, property to which section 48(a)(1)(D) applies is section 1245 property, except that property placed in service prior to January 1, 1981, may, at the option of the taxpayer, be treated as section 1250 property if depreciation deductions allowed were not under one of the methods authorized only for section 1245 property.
(i) [Reserved]
(j) Examples. The provisions of this section may be illustrated by the following examples:
§ 1.48-11   Qualified rehabilitated building; expenditures incurred before January 1, 1982.
(a) In general. Under section 48(a)(1)(E), that portion of the basis of a qualified rehabilitated building which is attributable to qualified rehabilitation expenditures qualifies as section 38 property. In general, property which is treated as section 38 property by reason of section 48(a)(1)(E) is treated as new section 38 property and therefore is not subject to the used property limitation. See § 1.48-2(d). Section 48(g)(1) and paragraph (b) of this section define the term “qualified rehabilitated building”. Section 48(g)(2) and paragraph (c) of this section define the term “qualified rehabilitation expenditure”. Paragraph (d) of this section provides guidance for coordination of these provisions with other sections of the Code.
(b) Definition of qualified rehabilitated building —(1) In general. The term “qualified rehabilitated building” means any building and its structural components—
(i) Which has been rehabilitated (within the meaning of paragraph (b)(3) of this section),
(ii) Which was placed in service (within the meaning of § 1.46-3(d)) by any person at any time before the beginning of the rehabilitation,
(iii) 75 percent or more of the existing external walls of which are retained in place as external walls (within the meaning of paragraph (b)(4) of this section) in the rehabilitation process, and
(iv) Which meets the twenty-year requirement in paragraph (b)(2) of this section.
(2) Twenty-year requirement —(i) In general. A building is considered a qualified rehabilitated building only if a period of at least 20 years has elapsed between the date physical work on the rehabilitation of the building began, and the later of—
(A) The date the building was first placed in service (see § 1.46-3(d)) by any person as a building, or
(B) The date the building was placed in service by any taxpayer in connection with a prior rehabilitation with respect to which a credit was allowed by reason of section 48(a)(1)(E).
(ii) Vacant periods. The 20-year period includes periods during which a building was vacant or devoted to a personal use and is computed without regard to the number of owners or the identity of owners during the period.
(iii) Physical work on a rehabilitation. For purposes of this section, “physical work on a rehabilitation” begins when actual construction begins. The term “physical work on a rehabilitation” does not include preliminary activities such as planning, designing, securing financing, exploring, researching, developing plans and specifications, or stabilizing a building to prevent deterioration (e.g., placing boards over broken windows).
(iv) Special rule. If a part of a building meets the twenty-years requirement in subdivision (i) of this subparagraph and a part (for example, an addition) does not, a rehabilitation of that part that meets the requirement may qualify for a credit only if that part constitutes a major portion (as defined in paragraph (b)(5) of this section) of the building.
(3) Rehabilitation —(i) In general. For purposes of this paragraph, rehabilitation includes renovation, restoration, or reconstruction. However, the term “rehabilitation” does not include enlargement (within the meaning of paragraph (c)(7)(ii) of this section), new construction, or the completion of new construction after a building has been placed in service. For purposes of this paragraph (b)(3), whether expenditures are attributable to the rehabilitation of an existing building, or to new construction, is determined upon all the facts and circumstances.
(ii) Substantial rehabilitation. For a building to be considered rehabilitated, the rehabilitation must be substantial. Whether a rehabilitation is substantial is determined upon the basis of all the facts and circumstances. In general, to be substantial, the rehabilitation must do one of the following:
(A) Materially extend the useful life of the building;
(B) Significantly upgrade its usefulness (for either the same or a new use); or
(C) Preserve it in a way that significantly improves its condition or enhances its historic value.
(iii) Aggregation of rehabilitation. In the case where qualified rehabilitation expenditures are incurred with respect to a rehabilitation of a building by more than one person (e.g., a lessor and a lessee, several lessees, or several condominium owners), the substantial rehabilitation requirement in this paragraph (b)(3) shall be applied by aggregating all the rehabilitation work done by such persons.
(iv) Special rule by qualified rehabilitation expenditures treated as incurred by the taxpayer. In the case where qualified rehabilitation expenditures are treated as having been incurred by a taxpayer because of the application of paragraph (c)(3)(ii) of this section, the substantial rehabilitation test in paragraph (b)(3)(ii) of this section will be applied by aggregating the rehabilitation work done by the transferor and the transferee.
(v) Examples. The provisions of this subparagraph (3) may be illustrated by the following examples:
(4) Retention of 75 percent of external walls —(i) In general. A building meets the requirements set forth in paragraph (b)(1)(iii) only if 75 percent or more of the existing external walls (as measured by the total area of the existing external walls) are retained in place as external walls in the rehabilitation process. For this purpose, the area of existing external walls includes the area of windows and doors.
(ii) External wall. For purposes of this paragraph (b)(4), a wall includes both the supporting elements of the wall and the nonsupporting elements (e.g., a curtain) of the wall. Except as otherwise provided in this paragraph (b)(4), the term “external wall” includes any wall that has one face exposed to the weather, earth, or an abutting wall erected on an adjacent property. An external wall also includes a shared wall ( i.e., a single wall shared with an adjacent building), generally referred to as a “party wall”.
(iii) Alternative rule. Notwithstanding the definition of external wall contained in paragraph (b)(4)(ii) of this section, in any case in which the building being rehabilitated would fail to meet the requirements of a qualified rehabilitation building if the definition of external wall in paragraph (b)(4)(ii) of this section were used, then the term “external wall” shall be defined as a wall, including its supporting elements, with one face exposed to the weather or earth, and a common wall shall not be treated as an external wall.
(iv) Retained in place. An existing external wall is retained in place if the supporting elements of the wall are retained in place. An existing external wall is not retained in place if the supporting elements of the wall are replaced by new supporting elements. An external wall is retained in place, however, if the supporting elements are reinforced in the rehabilitation, provided that such supporting elements of the external wall are retained in place. An external wall is retained in place even though it is covered (e.g., with new siding). Moreover, the existing curtain may be replaced with a new curtain provided that the structural framework that provides for the support of the existing curtain is retained in place. An external wall is retained in place notwithstanding that the existing doors and windows in the wall are modified, eliminated, or replaced. A wall may be disassembled and reassembled so long as the same supporting elements are used when the wall is reassembled. Thus, for example, in the case of the brick wall, the wall is considered retained in place even though the original bricks are removed (for cleaning, etc.) and put back to form the wall.
(v) Retention as an external wall. For purposes of meeting the 75 percent requirement of this subparagraph (4), an existing external wall must be retained in place as an external wall. If an addition is made that results in an existing external wall being converted into an internal wall, the wall is not retained in place as an external wall.
(vi) Special rule. Solely for the purpose of meeting the 75 percent requirement of this subparagraph (4), the walls of an uncovered internal shaft designed solely to bring light or air into the center of a building which are completely surrounded by external walls of the building and which enclose space not designated for occupancy or other use by people (other than for maintenance or emergency) are not considered external walls. Thus, a wall of a light well in the center of an office building is not an external wall. However, walls surrounding an uncovered courtyard which is usable by the building's occupants, (e.g., at lunch time) are external walls.
(vii) Examples. The provisions of this subparagraph (4) may be illustrated by the following examples:
(5) Major portion treated as separate building —(i) In general. Where there is a separate rehabilitation of a major portion of a building, such major portion shall be treated as a separate building. Thus, such major portion may qualify as a qualified rehabilitated building if the requirements of this paragraph are met with respect to such major portion. Expenditures for property that services both a major portion of a building and another portion must be specifically allocated to each portion to the extent possible. If it is not possible to make such an allocation, the expenditures must be allocated to each portion on some reasonable basis. What constitutes a reasonable basis for an allocation depends on factors such as the type of improvement and how the improvement relates functionally to the building. For example, in the case of expenditures for an air conditioning system or a roof, a reasonable basis for allocating the expenditures would be the volume of the major portion served by the improvement relative to the volume of the other portion of the building served by the improvement.
(ii) Major portion defined. Whether a part of a building constitutes a major portion of the building is determined upon the basis of all the facts and circumstances. A major portion must generally consist of clearly identifiable parts of a building (e.g., a wing of a building or the first 5 stories of a 7 story building). The following factors shall be taken into account:
(A) Whether the portion comprises an entire leasehold interest or an entire ownership (e.g., condominium) interest;
(B) Whether the portion (as measured by volume) is sufficiently large that it would be reasonable to treat it as a separate building; and
(C) Whether the portion is functionally different from other parts of the building.
(6) Special rule for rehabilitation done in phases. If rehabilitation which is not continuous is determined under this subparagraph to be a single rehabilitation done in phases, the requirements of this paragraph (b) are to be applied with respect to the overall rehabilitation and not merely to a phase of the rehabilitation. In such case, a phase of a single overall rehabilitation will not be considered as “prior rehabilitation” for purposes of subparagraph (2)(i)(B) of this paragraph (b). Whether rehabilitation which is not continuous is a single rehabilitation that is done in phases is determined on the basis of all the facts and circumstances. Generally, however, to constitute a single rehabilitation that is done in phases, there must exist, prior to the time any rehabilitation work is commenced, a set of written plans describing generally all phases of the rehabilitation of the building and a reasonable expectation that all phases of the rehabilitation will be completed. Such written plans are not required to contain detailed working drawings or detailed specifications of the material to be used. In addition, the period between the time that physical work on the first phase of the overall rehabilitation begins and physical work on the last phase of the overall rehabilitation begins must be reasonable. In determining whether the rehabilitation is completed within a reasonable time, the fact that a building is occupied during the rehabilitation, the necessity of acquiring a lease (of additional portions of the building), and unforeseen delays shall be taken into account. Other factors that are relevant in determining whether rehabilitation is a single rehabilitation include the length of time between each phase of rehabilitation activities and the extent of rehabilitation activity in each phase.
(7) Special rule for adjoining buildings that are combined. For purposes of this paragraph (b), if as part of a rehabilitation process two or more adjoining buildings are combined and placed in service as a single building after the rehabilitation process, then all of the requirements of a qualified rehabilitated building in section 48(g)(1) and this section may be applied to the constituent adjoining buildings in the aggregate. Any party walls or abutting walls between the constitutent buildings that would otherwise be treated as external walls (within the meaning of paragraph (b)(4)(ii) of this section) would not be treated as external walls of the building; the substantial rehabilitation test in paragraph (b)(3)(ii) of this section would be applied to the aggregate rehabilitation work with respect to all of the constitutent buildings.
(c) Definition of qualified rehabilitation expenditures —(1) In general. Except as provided in subparagraph (2) of this paragraph, the term “qualified rehabilitation expenditure” means any amount—
(i) Properly chargeable to capital account (as described in subparagraph (2) of this paragraph),
(ii) Incurred after October 31, 1978, for depreciable or amortizable property (or additions or improvements to property) with a useful life of five years or more, and
(iii) Made in connection with the rehabilitation of a qualified rehabilitated building.
(2) Chargeable to capital account. For purposes of paragraph (c)(1)(i) of this section, amounts paid or incurred are chargeable to capital account if under the taxpayer's method of accounting they are property includible in computing basis under § 1.46-3. Amounts treated as an expense and deducted in the year they are paid or incurred are not chargeable to capital account.
(3) Incurred by the taxpayer —(i) In general. Generally, to qualify for a credit under section 48 (a)(1)(E), qualified rehabilitation expenditures must be incurred by the taxpayer after October 31, 1978. An expenditure is incurred for purposes of this paragraph on the date such expenditure would be considered incurred under the accrual method of accounting, regardless of the method of accounting used by the taxpayer with respect to other items of income and expense. If qualified rehabilitation expenditures are treated as having been incurred by a taxpayer under paragraph (c)(3)(ii)) of this section, the taxpayer shall be treated as having incurred the expenditures on the date such expenditures were incurred by the transferor.
(ii) Qualified rehabilitation expenditures treated as incurred by the taxpayer. (A) Where rehabilitation expenditures are incurred with respect to a building by a person (or persons) other than the taxpayer and the taxpayer acquires the building, or a portion of the building to which the expenditures are allocable, the taxpayer acquiring such property will be treated as having incurred the rehabilitation expenditures actually incurred by the transferor (or treated as incurred by the transferor under this paragraph (c)(3)(ii)) with respect to the acquired property, provided that—
( 1 ) The building, or the portion of the building, acquired by the taxpayer was not used after the rehabilitation expenditures were incurred and prior to the date of acquisition by the taxpayer, and
( 2 ) No credit with respect to such qualified rehabilitation expenditures is claimed by anyone other than the taxpayer acquiring the property.
(B) The amount of qualified rehabilitation expenditures treated as incurred by the taxpayer under this paragraph is the lesser of—
( 1 ) The qualified rehabilitation expenditures incurred before the date on which the taxpayer acquired the building (or portion thereof), to which the expenditures are attributable, or
( 2 ) That portion of the taxpayer's cost or other basis for the property which is attributable to the qualified rehabilitation expenditures described in paragraph (c)(3)(B)( 1 ) of this section incurred before such date.
(C) See paragraph (b)(2)(iv) of this section for rules concerning the application of the substantial rehabilitation test to expenditures treated as incurred by the taxpayer.
(iii) Examples. The provisions of this subparagraph may be illustrated by the following examples:
(4) Incurred for 5-year property. An expenditure is incurred for depreciable or amortizable property if the amount of the expenditure is added to the basis of property which is depreciable or amortizable under section 167. The determination of whether property has a useful life of five years or more is made by applying the principles of § 1.46-3(e). In the case of expenditures for property made by a lessee, see sections 167 and 178 and the regulations thereunder for rules relating to whether improvements made to leased property are depreciable or amortizable.
(5) Made in connection with the rehabilitation of a qualified rehabilitated building. Expenditures attributable to work done to facilities related to a building (e.g., sidewalk, parking lot, landscaping) are not considered made in connection with a rehabilitation of a qualified rehabilitated building.
(6) Certain expenditures excluded from qualified rehabilitation expenditures. The term “qualified rehabilitation expenditures” does not include the following expenditures:
(i) An expenditure for property which is “section 38 property” (determined without regard to section 48(a)(1) (E) and (l)).
(ii) The cost of acquiring a building or any interest in a building (including a leasehold interest) except as provided in paragraph (c)(3)(ii) of this section.
(iii) An expenditure attributable to enlargement of a building (as defined in paragraph (c)(7) of this section).
(iv) An expenditure attributable to rehabilitation of a certified historic structure (as defined in section 191(d)(1) and the regulations thereunder), unless the rehabilitation is a certified rehabilitation (as defined in paragraph (c)(8) of this section).
(7) Expenditures for enlargement distinguished —(i) In general. Expenditures attributable to an enlargement of an existing building do not qualify as qualified rehabilitated expenditures. A building is enlarged to the extent that the total volume of the building is increased. An increase in floor space resulting from interior remodeling is not considred an enlargement. Generally, the total volume of a building is equal to the product of the floor area of the base of the building and the height from the underside of the lowest floor (including the basement) to the average height of the finished roof (as it exists or existed). For this purpose, floor area is measured from the exterior faces of external walls (other than shared walls that are external walls) and from the centerline of shared walls that are external walls. In addition, a building is enlarged to the extent of any construction outside the exterior faces of the existing external wall of the building.
(ii) Rehabilitation which includes enlargement. If expenditures for property only partially qualify as qualified rehabilitation expenditures because some of the expenditures are also attributable to the enlargement of the building, the expenditures must be apportioned between the original portion of the building and the enlargement. This allocation should be made using the principles contained in paragraph (b)(5)(i) of this section.
(8) Certified rehabilitation —(i) In general. For the purpose of this paragraph (c) of this section, the term “certified rehabilitation” means any rehabilitation of a certified historic building in a registered historic district which the Secretary of the Interior has certified to the Secretary as being consistent with the historic character of such building or the district in which such building is located.
(ii) Revoked or invalidated certifications. If the Department of Interior revokes or otherwise invalidates a certification after it has been provided to a taxpayer, the decertified property will cease to be section 38 property described in section 48(a)(1)(e). Such cessation shall be effective as of the date the activity giving rise to the revocation or invalidation occurred. See section 47 for the rules applicable to property that ceases to be section 38 property.
(d) Coordination with other provisions of the Code —(1) Credit by lessees —(i) Rehabilitation performed by lessor. A lessee may take the credit for rehabilitation performed by the lessor if the requirements of this section and section 48(d) are satisfied. For purposes of applying section 48(d), the fair market value of section 38 property described in section 48(a)(1)(E) shall be equal to that portion of the lessor's basis in a qualified rehabilitated building that is attributable to qualified rehabilitation expenditures.
(ii) Rehabilitation performed by lessee. A lessee may take the credit for rehabilitation performed by the lessee, provided that the property (or improvements or additions to property) for which the rehabilitation expenditures are made is depreciable (or amortizable) by the lessee (see sections 167 and 178, and the regulations thereunder) and the requirements of this section are satisfied.
(2) When credit may be claimed. The investment credit for qualified rehabilitation expenditures is allowed generally in the taxable year in which the property to which the rehabilitation expenditures is attributable is placed in service, provided the building is a qualified rehabilitated building for the taxable year. See § 1.46-3(d). Under certain circumstances, however, the credit may be available prior to the date the property is placed in service. See section 46(d) and § 1.46-5 (relating to qualified progress expenditures).
(3) Recapture. If property described in section 48(a)(1)(E) is disposed of by the taxpayer, or otherwise ceases to be “section 38 property,” recapture may result under section 47. Property will cease to be section 38 property, and therefore recapture may occur under section 47, in any case where the Department of Interior revokes or otherwise invalidates a certification of rehabilitation (see section 48(g)(2)(C)) after the property is placed in service because, for example, the taxpayer made modifications to the building inconsistent with Department of Interior standards.
(e) Effective date —(1) General rule. Except as provided in paragraph (e)(2) of this section, this § 1.48-11 shall not apply to expenditures incurred after December 31, 1981.
(2) Transitional rule. This § 1.48-11 shall continue to apply to expenditures incurred after December 31, 1981, for the rehabilitation of a building if—
(i) The physical work on the rehabilitation began before January 1, 1982, and
(ii) The building does not meet the requirements of section 48(g)(1) of the Code as amended by the Economic Recovery Tax Act of 1981.