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Prototyping: an effective tax and fixed-asset management strategy for multilocation businesses.

With the personal property tax assessment date nearing in many jurisdictions, companies that operate multiple locations are pondering possible solutions to reduce their tax liability, while also ensuring the necessary compliance. Prototyping offers these companies an effective and audit-tested alternative for satisfying such frequently daunting goals.

Many industries composed of players that operate multiple locations have suffered serious downturns in the past few years. The corporations in these industries could benefit greatly from value-added opportunities in areas that are traditionally regarded as cost centers. Prototyping is one such opportunity, a solution that can generate significant tax savings as well as improve operational efficiency for both the tax and fixed-asset departments.

The Personal Property Tax Dilemma

Multilocation businesses like retail, grocery, restaurant, lodging, and financial institutions are often at a disadvantage when it comes to reducing their personal property tax obligations. This is primarily due to the logistical challenge of maintaining accurate asset records when operating numerous locations with a high volume of assets. Furthermore, these companies generally bear a sizable personal property tax liability in aggregate, but the incremental property tax burden at each location is relatively small. These circumstances create a tax consulting conundrum because traditional minimization strategies like the "asset scrub" do not provide a worthy return on investment.

Personal property tax liability is based on the value of a taxpayer's fixed assets, making the integrity of the asset population paramount. This is especially true because assessing jurisdictions generally use their own method of depreciating assets to arrive at a taxable value. From their perspective, there is no such thing as a net book value of zero. If an asset is "on the books," regardless of its age, it will be taxed as personal property when rendered on the return. Thus, any asset that is not really in service, no matter how old, can have costly tax consequences if it is not addressed.

When multilocation companies have inaccurate records of which assets are in place at each location, the problem can usually be attributed to one of the following reasons.

* The asset disposal process at the store level is either nonexistent or inconsistently applied, so ghost assets are not properly removed from the company's books and records when retired.

* Asset records are capitalized in an ambiguous manner that makes it difficult to reconcile them with the actual assets at each location.

* Asset records commingle multiple assets as lump-sum assets (by, for example, labeling a group of assets "store opening package 1"), making it difficult to identify individual assets for retirement on the books when an asset is removed from service.

Over time, the fixed-asset listings that are submitted for personal property tax purposes become cluttered with assets that should have been disposed of earlier, like point-of-sale terminals, racks, cash wraps, restaurant booths, tables, chairs, and bar equipment. These overloaded lists can produce a dramatic overstatement of assets and, in turn, an overstatement of liability for personal property taxes. The effect is exacerbated when locations are frequently refreshed or remodeled, or where they have been acquired through merger and acquisition activity.

The overstatement of assets can create material issues for both the tax and fixed-asset departments. Therefore, fixed-asset integrity is critical to both groups. The typical method employed by taxpayers to correct an incorrect listing is to perform a physical inventory of each location. This, however, can prove cost-prohibitive for the multilocation taxpayer. Prototyping provides a dual solution for both departments--a statistical physical inventory.

Prototyping Explained

Multilocation prototyping, also known as modeling, takes a more exacting, cost-effective, and customized approach to the traditional process. A prototypical store cost configuration is created for a specific company concept and then compared with each store's actual fixed assets, using cost-estimating algorithms to account for differences in variables like square footage. Adjustments identified through this process are subsequently applied to each location's documentation of assets rendered on the original personal property tax return, thereby removing some assets from the return and reducing liability.

The Benefits of Prototyping

The most obvious benefit of prototyping for a multilocation company is the potential tax savings. Prototyping has been shown on average to cut a company's aggregate personal property tax liability by 10 to 20 percent. One company that recently went through the process saw its overall personal property tax bill decrease by approximately 16 percent.

Prototyping is also a cost-effective method of performing a physical inventory, which can otherwise be extremely arduous and expensive. This represents a true boon to the fixed-asset department, as it is the best method for identifying a company's assets short of performing a physical inventory and appraisal by store each year. Moreover, the savings from personal property taxes alone usually pays for the cost of the prototyping study.

Prototyping provides several additional advantages to multilocation companies. For example, prototyping:

* Statistically corrects problems associated with ghost, ambiguous, and lump-sum assets.

* Complements a federal tax cost segregation analysis. Federal cost segregation for income tax purposes focuses primarily on real property assets, while prototyping focuses primarily on personal property assets. Natural synergies exist where cost segregation and prototyping create models around the gray areas between classes of real and personal property.

* Uses the company's own fixed-assets data within the prototype, with modifications made proactively on the personal property return This translates to broader acceptance by the tax-assessing community than is the case when a company simply submits the fictitious list of assets used in a model.

* Saves property tax staff time by eliminating the need to "scrub" the asset list each year.

* Produces an electronic deliverable well suited for importing changes directly into tax compliance or fixed-asset software, which has been shown to reduce a company's operational compliance time by up to 50 percent.

* Is audit-tested and approved by some of the states with the most stringent methods of personal property assessment.

Is Prototyping Right for You?

Multilocation prototyping generally works best for taxpayers with a high volume of "cookie-cutter" locations with a similar build-out or model. Several characteristics in particular might indicate that such a company is a good candidate:

* The company capitalizes its assets in bulk.

* The descriptions for the company's assets are vague or lacking adequate detail.

* The company has systemic problems with ghost assets and retirements from its fixed-asset system.

* The company conducts infrequent physical inventories.

* The company has acquired locations through merger or acquisition activity.

* The company remodels or performs refreshes frequently.

If any of these characteristics exists, the company might benefit from prototyping.

Consider the Alternative

Personal property compliance and cleansing a company's fixed assets have traditionally been a cost center and a logistically challenging process. Prototyping, however, could bring significant value to multiple departments within a company while easing a once-tedious exercise.

Scott Tyler is with Crowe Horwath LLP in the Tampa office, where he leads the southeastern region for the firm's property tax practice. Mr. Tyler received his B.S. degree in Business Administration from the University of Florida, and frequently lectures on property tax issues and has contributed to state department of revenue hearings in formulating new state agency law. He can be reached at

Jennifer Vigliano is with Crowe Horwath LLP in the Fort Lauderdale office. She received her B.A. degree in Finance from Florida Atlantic University. Ms. Vigliano has more than 14 years of state and local tax experience, specializing in personal and real property tax matters in all 50 states; her experience is in several industries including manufacturing, distribution, retail, healthcare, leasing, wireless communications and hospitality. She can be reached at jennifer.

Joseph Calvanico is a director with Crowe Horwath LLP in the Oak Brook, Illinois, office, where he Crowe's Midwest director for property tax and valuation services. He received his B.A. degree in Economics from the University of Wisconsin, and is currently a student at John Marshall Law School He can be reached at
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Author:Tyler, Scott M.; Vigliano, Jennifer E.; Calvanico, Joseph J.
Publication:Tax Executive
Date:Nov 1, 2010
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