I have had a number of visitors to this blog with questions about Section 179 expensing, which is something I posted about briefly last week (December 10). I’ll go into a little more detail in this post.
When a business purchases an asset that has a useful life of more than 1 year, the tax code gives the business 3 options for deducting the cost of that asset: depreciation, Section 179 expensing, and bonus depreciation.
Depreciation means the business can deduct a certain amount of the purchase price each year over a number of years set by the tax code for that type of asset. For example, computers are depreciated over 5 years. The number of years is set by the code and has nothing to do with how long you actually intend to use the asset in your business.
Section 179 expensing allows you to write off 100% of the cost of the purchase of an asset in the year of purchase. For 2010 and 2011, a business can write off up to $500,000 of asset purchases. If you purchase more than $2 million of assets during the year, your Section 179 deduction will be phased out. Your total Section 179 deduction is limited to your taxable income for the year; unused Section 179 expenses in one year can be carried forward to the next year. Please note that most – but not all – property qualifies for Section 179 expensing. Examples of property that does NOT qualify is leased property and air-conditioning or heating units.
Note for rental property owners: Section 179 does not apply to rental properties; if you own rental property, you can’t use Section 179 expensing.
Bonus depreciation is a sort of hybrid between regular depreciation and Section 179 expensing, where you can claim 50% of the cost of an asset as a deduction, and then depreciate the remainder of the cost. Bonus depreciation is available to rental property owners. One caveat on bonus depreciation: it can only be claimed on assets that are brand new. (Section 179 can be claimed on used assets, as long as the asset is “new” to your business.) One other note on bonus depreciation: the tax bill being debated right now by Congress proposes to allow 100% bonus depreciation on assets purchased between September 9, 2010, and December 31, 2011. (UPDATE: this proposed legislation became official in the tax bill passed by Congress.)
Most of the time, a business will just take the Section 179 expense and be done with it. It provides an immediate deduction and eliminates the need for cumbersome depreciation schedules. However, Section 179 expenses are limited to the amount of taxable income (as calculated before the Section 179 deduction). In other words, Section 179 cannot create a business loss. But regular depreciation and bonus depreciation can create business losses. Plus, if you expect that your business income will grow in future years but you won’t be purchasing assets in those years, it might be nice to have a depreciation deduction available to offset the increase in income.
As you can see, your depreciation/Section 179/bonus depreciation strategy is part of tax planning and is a good conversation to have with your tax advisor.