When a grantee charges the government for equipment as a direct charge for equipment used in the fulfillment of grants the grantee retains possession of the equipment during and after the period of performance. Assuming the equipment has a useful life beyond one year, you or your accountant might think that the equipment is a capital asset subject to depreciation. Obviously, the reimbursement received is fully taxable, so depreciating the cost of the equipment over several years can result in a very large increase in current taxable income.
Typically, under NIH grants, the grantee retains title to direct equipment purchased with federal funds.
According to the Internal Revenue Service (IRS), a taxpayer must be the owner of property to be entitled to claim depreciation. This may at first glance appear to require capitalization by the grantee, however, an examination of the risk of loss rules must be made to determine if capitalization is proper for the grantee. Case law has shown that capitalization and depreciation is required by the taxpayer who suffers an economic loss if an asset is lost, stolen, damaged, or rendered unusable.
NIH Grant accounting rules and regulations are derived primarily from the Federal Acquisition Regulation (FAR) as well as the NIH Grants Policy Statement. Generally speaking, equipment purchases are defined as tangible property with a useful life beyond one year, and costing $5,000 or more. Title to assets purchased using NIH funds normally vests in the grantee. However, even though a grantee retains title to assets purchased with grant funds, NIH imposes restrictions on use of the equipment, and retains the right to require such equipment be transferred to the Government, or to any third party named by the NIH.
In the absence of an agreement determining the risk of loss with equipment, the risk of loss generally remains with the government. Grantees are normally responsible for maintaining an internal control system to ensure adequate safeguards of all assets purchased with grant funds. Unless the risk of loss has been assumed by the grantee when a grant is initially signed, there will be no obligation to NIH by the grantee for losses, except when the grantee is reimbursed for the loss via insurance, and does not replace the equipment. The rules of equipment sales will apply with proceeds recoverable by NIH. Thus, even though title is vested in the grantee, the true risk of loss rests with the government.
For tax purposes, most grantees are not required to capitalize equipment purchased as direct costs under NIH grants. When title is vested in the grantee, but actual risk of loss is with the government, capitalization is not proper, and depreciation not permitted. Unless specifically addressed within individual contracts, the risk of loss remains with the government and the cost of equipment purchases should be charged as a direct cost.
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Edward G. Jameson, CPA
The Tax and Accounting Treatment of Equipment Charged as a Direct Cost under NIH Grants Policy
November 02, 2009