What expense category is Permits and Inspection Fees?

When a business undertakes a construction or renovation project, obtaining the necessary building permits and passing mandatory inspections are critical steps in the process. The fees paid to local government agencies for these permits and inspections are a significant and unavoidable cost of the project.

However, a common and critical mistake is to treat these fees as a simple, currently deductible business expense. The IRS views these project-specific costs as being an integral part of creating or improving a long-term asset. This guide will clarify the correct tax treatment for these fees to ensure your business remains compliant.

Permits and Inspection Fees (Project-Specific) Category

The fees you pay for project-specific building permits, zoning variances, and mandatory inspections are capital expenditures. They are not a currently deductible expense.

According to the principles in IRS Publication 535 and Publication 946 costs to acquire, produce, or improve a tangible asset must be capitalized. The fees for permits and inspections are considered a direct cost of producing or improving the property and must be added to its basis.

Important Considerations While Classifying Permits and Inspection Fees

The most critical factor is distinguishing between a project-specific permit and a general, recurring business license.

Project Permit vs. Annual Business License

• Project-Specific Permit (Capitalize): A building permit or inspection fee is directly tied to a specific construction or improvement project. Its cost must be capitalized as part of the overall cost of that project.
• Annual Business License (Deduct Now): A general license to operate your business (an occupational license, for example) that is paid annually is a currently deductible expense, categorized under Taxes and Licenses.

Fees Are Added to the Basis of the Property

You cannot deduct project-specific permit and inspection fees in the year you pay them. Instead, you must add these costs to the basis of the property being constructed or improved. For example, if you pay $5,000 in permit and inspection fees for a new building, that $5,000 becomes part of the building's total cost for depreciation purposes.

Recovery Through Depreciation

Once capitalized, you recover the cost of these fees, along with the rest of the project's costs, through annual depreciation deductions. The property is depreciated over its appropriate MACRS recovery period (e.g., 39 years for a nonresidential real property).

Tax Implications and Recordkeeping

The tax treatment for these fees requires capitalization and depreciation, not a standard expense deduction.

How to Report the Costs

You do not report project-specific permit and inspection fees directly as an expense. Instead:

1. Capitalize the Cost: The fees are added to the basis of the property on your balance sheet.
2. Calculate Annual Depreciation: Each year, you calculate the depreciation deduction for the entire property (including the capitalized fees) on Form 4562.
3. Report the Deduction: The total annual depreciation deduction from Form 4562 is then carried to your main business tax return (e.g., Schedule C, Line 13).

What Records to Keep

You must maintain meticulous records to substantiate all project-related costs. This includes:

• The official permit applications and issued permits from the government agency.
• Receipts or confirmations for all permit and inspection fees paid.
• All other invoices and contracts related to the construction project.
• Proof of payment for all fees.

How Fyle Can Automate Expense Tracking for Project Fees

Fyle helps you capture and organize all the fees and costs associated with a construction project, providing a clean record for your accountant to handle capitalization correctly.

• Centralize All Project Documents: Attach all permits, inspection reports, and contractor invoices directly to the expense records in Fyle.
• Track by Construction Project: Code all permit fees and related construction costs to a single project for precise cost tracking.
• Create a Clear Audit Trail: Fyle maintains a time-stamped, unalterable record of all payments and documents for easy substantiation.
• Automate Your Accounting: Sync capitalized project costs to the correct fixed asset account in QuickBooks, Xero, NetSuite, or Sage Intacct.