Significant tax breaks such as Sec. 179 expensing and bonus depreciation can cut current-year taxes if businesses buy and place in service certain assets by Dec. 31.
Depreciation Overview
When acquiring assets with a useful life of more than one year, their cost typically needs to be depreciated over time rather than deducted all at once. The Modified Accelerated Cost Recovery System (MACRS) often offers greater deductions in the early years of an asset’s life compared to the straight-line method, making it the preferred choice in many cases.
However, if more than 40% of the year’s total asset purchases occur in the last quarter, the midquarter convention may apply, potentially reducing early depreciation benefits. Additionally, repair and maintenance costs for tangible property may follow separate rules. Thoughtful planning can help maximize your depreciation deductions during the year of purchase.
Depreciation-Related Opportunities
Several tax breaks and strategies can enhance your depreciation benefits, many of which were expanded under the Tax Cuts and Jobs Act (TCJA):
1. Section 179 Expensing Election
Allows businesses to immediately deduct the cost of eligible new or used assets, such as equipment, furniture, off-the-shelf software, and qualified improvement property, rather than depreciating them over years.
Subject to an annual limit, which begins phasing out dollar-for-dollar once total asset acquisitions exceed a specified threshold.
Can only be claimed to offset net income and cannot create a net operating loss.
2. Bonus Depreciation
Provides additional first-year depreciation for qualified assets, including new and used tangible property with a recovery period of 20 years or less, off-the-shelf software, and water utility property.
Under the TCJA, qualified improvement property and certain productions (film, TV, live theater) are also eligible.
Important: The 100% bonus depreciation available in recent years expired on December 31, 2022. Unless extended by new legislation, the bonus depreciation rate will decrease annually by 20% until its elimination in 2027.
Exclusions:
Real estate businesses electing to deduct 100% of business interest expense.
Dealerships with floor-plan financing, if their gross receipts exceed certain thresholds over the prior three years.
3. Tangible Property Repair Safe Harbors
Repairs to tangible property (e.g., buildings, machinery, equipment, and vehicles) can often be expensed immediately, while improvements must be depreciated.
IRS safe harbors simplify this distinction:
Routine Maintenance Safe Harbor
Small Business Safe Harbor
De Minimis Safe Harbor
These rules are nuanced, so consult a tax advisor for proper application.
4. Cost Segregation Study
A cost segregation study can identify components of recently purchased, built, or remodeled buildings that qualify for accelerated depreciation. Examples include fixtures, security equipment, parking lots, landscaping, and qualifying architectural fees.
This strategy can significantly boost current deductions.
Limitations: May not provide full benefits in states that don’t align with federal depreciation rules.
Conclusion
Careful tax planning and the use of available depreciation-related strategies can substantially reduce your taxable income. For complex rules, such as those involving safe harbors or cost segregation studies, it’s wise to consult a tax advisor to ensure compliance and maximize benefits.