Safe Harbor Reboot For Your Restaurant Remodel/Refresh

February 19, 2025

Strategies To Help Maximize Deductions

With bonus depreciation phasing out many taxpayers are looking for opportunities to maximize deductions on their tax returns. There are several strategies a taxpayer can employ to help with this including cost segregation studies, §179D and §45L studies for energy-efficient buildings, and Tangible Property Regulations (“TPR”) analysis to help identify items of property that may be eligible for De Minimis or Routine Repairs and Maintenance treatment under safe harbor rules provided in Treas. Reg. §1.263(a)-3.

Opportunities For Restaurant Owners

For certain taxpayers who lease retail and restaurant spaces that would regularly incur expenditures to remodel and refresh these spaces, the tangible property regulations also provide an opportunity to potentially treat 75% of the qualifying costs paid during the tax year as repair expenses and capitalize the remaining 25% of qualifying costs as improvements.

Taxpayers looking to take advantage of this provision should understand the implementation of tangible property regulations requires extensive investigation into facts and circumstances surrounding the expenditures and the interplay with other capitalization rules. Before diving into the specifics of this safe harbor, note that, in general, taxpayers are required to capitalize the amounts paid to improve tangible property under §1.263(a)-3. In general, expenditure is considered an improvement if it is for:

Adaptation to a new or different business use is not consistent with the taxpayer’s normal use of the property
Restoration of property to its ordinarily efficient operating condition or rebuilding of the unit of property to a like-new condition after the end of its class life or the replacement of a unit of property or major component for which the taxpayer has properly deducted a loss for the component, adjusted the basis of the component in realizing gain or loss from sale or exchange, or restoration as a result of a casualty event
Betterment: Ameliorates a material condition or defect that existed before the taxpayer’s use or arose during the production of the unit of property. Material addition including physical enlargement or expansion, or is reasonably expected to materially increase the productivity, efficiency, strength, quality, or output of the unit of property.

Do You Qualify For The Remodel/Refresh Safe Harbor?

Per Revenue Procedure 2015-56, to qualify for the safe harbor, the taxpayer user must:

Be in the business of selling merchandise to customers at retail. Except for auto dealers, gas stations, non-store retailers, and manufactured home dealers.
Be in the business of preparing and selling meals, snacks, or beverages for immediate consumption. Specifically excluded are hotels, civic organizations, amusement parks, theaters, casinos, country clubs, and similar facilities.
The taxpayer must have audited financial statements.

What Are Qualifying Costs?

Non-exhaustive Qualifying Costs include:

Painting/finishing of interior walls
Adding/replacing/repairing the permanent floor, ceiling, or wall coverings including millwork
Adding/replacing/repairing/maintaining or relocating kitchen fixtures
Making non-structural changes to exterior facades
Moving, constructing, or altering walls within the existing footprint of the qualified building
Repairing, maintaining, retrofitting relocating, adding, or replacing building systems defined in §1.263(a)-3(e)(2)(ii)(b) within the existing footprint of the qualified building
Repairing, maintaining, or replacing the roof or portion of the roof within the existing footprint of the qualified building.

How To Implement The Remodel/Refresh Safe Harbor

This safe harbor generally would be applied to all existing buildings, thus potentially requiring a change in accounting method to be filed.

Under the rules for this accounting method change per Revenue Procedure 2024-23 the qualified taxpayer is required to make a late general asset account election using a modified cut-off method under which the unadjusted depreciable basis and the depreciation reserve of the asset as of the beginning of the year of change are accounted for using the new method of accounting. The late general asset account election change requires the general asset account to include a beginning balance for the unadjusted depreciable basis and the depreciation reserve. The beginning balance for the unadjusted depreciable basis of each general asset account is equal to the sum of the unadjusted depreciable bases as of the beginning of the year of change for all assets included in that general asset account. The beginning balance of the depreciation reserve of each general asset account is equal to the sum of the greater of the depreciation allowed or allowable as of the beginning of the year of change for all assets included in that general asset account.

The Election Statement

The qualified taxpayer (including a qualified small taxpayer) must attach to Form 3115 a statement providing that the qualified taxpayer agrees to the following additional terms and conditions:

The qualified taxpayer consents to, and agrees to apply, all of the provisions of 1.168(i)-1 to the assets that are subject to the election specified in section 5.02(6)(d) of Rev. Proc. 2015-56; and
Except as provided in 1.168(i)-1(c)(1)(ii)(A),(e)(3),(g), or(h), the election made by the qualified taxpayer under section 5.02(6)(d) of Revenue Procedure 2015-56 is irrevocable and will be binding on the qualified taxpayer for computing taxable income for the year of change and for all subsequent taxable years with respect to the assets that are subject to this election.

Read Also: Top 10 Restaurant Topics In 2025

Maximizing Deductions In Action

ABC Restaurant (ABC) operates a nationwide chain of restaurants that sells food and beverages to customers. To maintain a contemporary and attractive environment, to continue to offer the most relevant and popular products, and to reflect the changing demographics of its customers, ABC periodically undertakes planned projects whereby it incurs amounts to alter the physical appearance and layout of the buildings it uses for its food and beverage sales. These projects often include the remodel, refresh, repair, and maintenance of §1250 property that is comprised of ABC’s qualified buildings and §1245 property that is located within these qualified buildings.

What’s Included In The Project

Each project includes activities such as relocating or changing the square footage of dining areas, check-out areas, storage spaces, and food prep areas within the footprint of the existing buildings; removing, constructing, and altering walls within the footprint of the existing buildings; moving lighting and replacing lighting fixtures with more efficient lighting; replacing bathroom fixtures with more updated and efficient fixtures; replacing or reconfiguring the dining area; patching and repainting interior walls and exterior structures; and replacing floor tiles, ceiling tiles, and signage.

These projects also include changes to the electrical, HVAC, and plumbing systems within the buildings’ existing footprints to accommodate structural changes, new product offerings, and bathroom upgrades. ABC’s restaurants remain open to customers during the project, although parts of the store buildings are closed at different times during the process.

Year 1 Expenses

In Year 1, ABC pays $3 million for these activities to be performed on one of its qualified buildings and places the related property into service. Of the $3 million, ABC pays $1 million for §1245 property, including new dining tables and chairs, ordering kiosks, check-out counters, and other equipment. For Year 1, ABC files a change in the method of accounting to use the remodel-refresh safe harbor method of accounting.

Why This Project Qualifies As A Remodel/Refresh

ABC’s $3 million project on its building is a remodel-refresh project as described in section 4.03 of Revenue Procedure 2015-56 because ABC pays amounts to alter the physical appearance and layout of its restaurant to maintain a contemporary and attractive environment, to continue to offer the most relevant and popular menu items, and to reflect the changing demographics of its customers.

Of the $3 million remodel-refresh costs paid for by the project, $1 million was paid for §1245 property, which is treated as excluded remodel-refresh costs under section 4.06(1) of the same revenue procedure. Accordingly, under section 4.07, ABC incurs $2 million of qualified costs ($3 million remodel-refresh costs less $1 million excluded remodel-refresh costs). Under the remodel-refresh safe harbor method of accounting ABC:

- Treats 75% of the $2 million qualified costs ($1,500,000,00) as amounts deductible under §162 in Year 1, the taxable year the improvements to the qualified building are placed in service, and ABC treats the remaining 25% of the $2 million qualified costs ($500,000) as improvements to the qualified building that must be capitalized in Year 1 under §263(a) and §263A.
- Depreciates the $500,000 of improvements under § 167 and §168, and classifies the $500,000 of improvements under § 168(e) in accordance with section 5.02(3)(b)(ii).
- Makes a general asset account election to include the $500,000 of improvements in a general asset account (or multiple general asset accounts if the costs are for improvements with different recovery periods). Because Year 1 is the first taxable year that ABC uses the remodel-refresh safe harbor method of accounting, ABC also must make a late general asset account election to include in general asset accounts all assets that are MACRS property that comprise the qualified building, that are placed in service by ABC before Year 1, and that are owned by ABC at the beginning of Year 1. Because the qualified building (including the structural components) is in a general asset account, ABC would not recognize a loss for, and would continue to depreciate, the amounts allocable to the portions of the building and building systems removed as part of the remodel-refresh project. Finally, to determine the tax treatment of the $1 million it paid for excluded remodel-refresh costs (costs for §1245 property), ABC must analyze these costs under § 162, §263, and §263A, and the corresponding regulations.

What This Means For You

Taxpayers who can take advantage of this often-overlooked provision of the Tangible Property Regulations can increase deductions for their Remodel/Refresh projects by currently deducting 75% of eligible costs. Additionally, the 25% of capitalized costs may be eligible for tax preferential treatment such as Qualified Improvement property or 5- or 7-year treatment, which would also be eligible for additional immediate expensing through bonus depreciation.

If you want to learn more or think this opportunity might be a good fit for your restaurant, reach out to a member of GBQ’s restaurant services team for assistance.

By Jon Powell, EA, Senior Manager, Cost Segregation Services