All businesses wishing to remain competitive in their respective markets minimize their tax liability to increase profitability. Having more money to put back into a business by saving on taxes is an easy way for businesses to thrive and pull ahead of other companies that aren’t as knowledgeable about the tax regulations and opportunities that exist. Currently, existing tax laws provide businesses with an incentive structure to invest in expensive tangible assets. The Tax Cuts and Jobs Act of 2017 (“TCJA”) added many tax incentives for businesses to capitalize on, but time is running out to get the most out of the new changes. Here’s what you need to know about the tax benefits to capitalize on this year.
Section 179 Deductions
Section 179 of the Internal Revenue Code allows businesses to deduct certain tangible expenses up to $1 million in the first year it’s purchased. The TCJA increased the amount available for deduction from $500,000 to $1 million and the phase-out threshold from $2 million to $2.5 million. Typically, in a phase-out, taxpayers’ available deductions will be incrementally lowered as they get closer to the $4.5 million cap until they have a minimal tax break or no break at all. Raising the threshold allows businesses to deduct more because those deductions don’t begin to phase out until later. As a result, businesses would be able to deduct a significant amount of otherwise depreciable assets in the first year, saving them a lot of money in taxes.
Bonus Depreciation
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Bonus depreciation allows a business to deduct a large portion of the purchase price of an asset upfront. The rest of the cost would be left to be depreciated over time. However, the TCJA created 100% bonus depreciation, allowing a business to deduct 100% of the cost of an asset purchased and placed in service before January of 2023. After January 2023, the bonus depreciation will decrease by 20% until there’s no more bonus depreciation in January 2027. The change to bonus depreciation was done to encourage capital expenditures amongst businesses.
Qualifying Assets for Bonus Depreciation
To deduct the cost of an asset with bonus depreciation, the asset must be placed in service by the business, meaning it needs to be ready and available for a specific use, but does not need to be actively used. The asset must also be new to the business, meaning that it cannot be something that was already owned but started being used for business purposes. The TCJA also included the purchase of used items in bonus depreciation, so used vehicles, equipment, and other items would qualify for the deduction. Finally, the asset must have a useful life of under 20 years to be eligible for bonus depreciation.
Why Use Section 179 or Bonus Depreciation
Section 179 and bonus depreciation could have significant tax ramifications on a business if used properly. Bonus depreciation provides businesses with a substantial tax-saving opportunity because it doesn’t have some of the limitations of Section 179. Section 179 has a numerical limit on how much could be deducted in the first year. However, bonus depreciation deducts a percentage of an asset’s cost, and that can be utilized in conjunction with Section 179. Also, bonus depreciation, unlike Section 179, can create a net loss, which can be carried over into the next year to offset any gains from that year. If an asset’s cost surpasses the annual limit of Section 179, then it can be deducted with bonus depreciation to avoid hitting the max deduction limit, as long as it is eligible for bonus depreciation. If both options are used to their fullest capacity, the business can obtain the best possible tax benefits.
How to Capitalize on the Available Tax Benefits
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Businesses should aim to make their large capital expenditures before the end of 2023 to make it eligible for the 80% available bonus depreciation. The longer that businesses delay purchasing tangible assets that qualify for bonus depreciation, the less benefit they would receive from it. If an asset isn’t put into service before the end of 2023, the bonus depreciation available on it would be down to 60%. Eventually, the bonus depreciation would not be worth much to businesses until they reached their limit using Section 179. Business owners should re-evaluate their financial plans and determine if any asset could be purchased ahead of time to get more tax savings from it. Lowering a company’s taxable income is always beneficial, and obtaining these key deductions early could set up a company for financial success in the long run.
https://sharedeconomycpa.com/blog/bonus-depreciation-phase-out-2023/
https://tax.thomsonreuters.com/en/glossary/bonus-depreciation
https://www.experian.com/blogs/ask-experian/what-is-phase-out-range/