Internal Revenue Service
Revenue Ruling
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smRev. Rul. 78-67
1978-1 C.B. 64
Sec. 167
Sec. 263
IRS Headnote
CLADR system; public utility; "light watchmen" and customer extensions. Expenditures made by a regulated public utility in installing "light watchmen" on customers' premises and in extending its distribution system to service additional residential customers are excluded additions that must be capitalized and are not deductible expenditures as a part of the repair allowance under the CLADR system.
Full Text
Rev. Rul. 78-67
Advice has been requested whether, under the facts described below, certain expenditures made in 1971 for extensions or additions to an existing electric transmission and distribution system are to be treated as excluded additions and capitalized or as deductible expenditures subject to the repair allowance election made by the taxpayer under section 1.167(a)-11(d)(2) of the Income Tax Regulations.
The taxpayer, a regulated public utility, is engaged in the business of producing and distributing electricity. In 1971, specific expenditures were incurred with respect to the following items:
1. Expenditures incurred in installing "light watchmen". A light watchman is a light fixture containing a photoelectric cell installed on a pole usually located on a customer's premises similar in appearance to a street light. These are separate installations that provide additional service and do not replace any similar installation.
2. Expenditures incurred in connection with extension of the distribution system to service one or more residential customers. These expenditures are for the wire service connections including poles, arrestors, and wires off a primary distribution circuit. These installations are made on an "as needed" basis and are not part of a general plan to service an area. They provide electric service to customers that otherwise had no service and do not replace any previous installations.
The taxpayer elected, in 1971, to use the Class Life Asset Depreciation Range (CLADR) system under the provisions of section 1.167(a)-11 of the regulations and claimed depreciation on its electric transmission and distribution systems under asset guideline class 49.14--Electric utility transmission and distribution plant, under Rev. Proc. 72-10, 1972-1 C.B. 721, now superseded by Rev. Proc. 77-10, 1977-1 C.B. 548, for property placed in service on or after March 21, 1977.
The basic issue is whether the described expenditures are excluded additions under section 1.167(a)-11(d)(2)(vi) of the regulations or are a part of the repair allowance under section 1.167(a)-11(d)(2)(iii).
Section 1.167(a)-11(d)(2)(i) of the regulations provides for the treatment of expenditures for the repair, maintenance, rehabilitation, or improvement of property. In general, under sections 162, 212, and 263 of the Internal Revenue Code of 1954, expenditures that substantially prolong the life of an asset, are made to increase its value, or adapt it to a different use are capital expenditures. The amount so capitalized may be subject to an allowance for depreciation. But on the other hand, expenditures that do not substantially prolong the life of an asset, do not materially increase its value, nor adapt it for a substantially different use may be deducted as an expense. Expenditures may have characteristics of both a deductible expense and a capital expenditure, and other expenditures may have characteristics of capital expenditures as in the case of "excluded additions."
Section 1.167(a)-11(d)(2)(ii) of the regulations provides that a taxpayer may elect to apply the guideline repair allowance. The asset guideline repair allowance described in section 1.167(a)-11(d)(2)(iii) is an amount equal to a specified average unadjusted basis of the repair allowance property multiplied by the repair allowance percentage in effect for the asset guideline class for the taxable year.
Section 1.167(a)-11(d)(2)(iv) of the regulations provides that expenditures for the repair, maintenance, rehabilitation or improvement of property do not include expenditures for an excluded addition. Section 1.167(a)-11(d)(2)(viii)(c) provides that each excluded addition, if it is eligible property, shall be capitalized in a vintage account of the taxable year in accordance with the taxpayer's election to apply this section for the taxable year.
Section 1.167(a)-11(d)(2)(vi) of the regulations provides that for purposes of this subdivision, a unit of property generally consists of each operating unit (that is, each separate machine or piece of equipment) that performs a discrete function and that the taxpayer customarily acquires for original installation and retires as a unit. Section 1.167(a)-11(d)(2)(vi) further provides, however, that a unit of property may consist of a part in or a component of a larger unit of property for the purposes of applying section 1.167(a)-11(d)(2)(vi)(d)(1).
Section 1.167(a)-11(d)(2)(vi)(d)(1) of the regulations defines excluded additions to include an expenditure for a unit of property if the expenditure is for an additional identifiable unit of property.
The expenditures for the light watchmen and for the acquisition of customer extensions are expenditures for additional identifiable units of property that are components of a larger unit of property. Under section 1.167(a)-11(d)(2)(vi)(d)(1) of the regulations, therefore, the expenditure for the addition of each item is an excluded addition.
Accordingly, the 1971 expenditures for light watchmen and extensions serving one or more residential customers add to an existing electric distribution system and are therefore excluded additions that are to be capitalized subject to depreciation and are not deductible subject to the repair allowance election.