Tax Update: The Clock is Ticking on 100% Bonus Depreciation Allowance
Along with Section 179 depreciation claims, the bonus depreciation allowance is a key tool in allowing businesses and individuals to claim immediate federal tax benefits from the depreciation of certain qualifying purchases. Among the key components of the 2017 TCJA (Tax Cuts and Jobs Act) was a series of changes that made the bonus depreciation allowance more favorable for many businesses. For example, it temporarily raised the maximum depreciation allowance for qualifying property assets to 100% through the end of 2022, making certain capital expenditures much more attractive from a tax standpoint. Starting next year, however, that rate will begin to scale back … which means time is of the essence to place qualifying property items into service.
The bonus depreciation rules cover a wide range of qualified items, typically depreciable assets with a recovery period of 20 years or less. This can include large expenditures such as vehicles, furniture, manufacturing equipment, and interior upgrades to structures, but also less expensive items such as computer software.
Again, the current depreciation allowance is 100%, but this only applies to items that are “placed in service” prior to the end of 2022. Note that simply purchasing the item during the current calendar year isn’t sufficient – the item must be actively in service by the deadline. After 2022, the depreciation allowance will begin to decrease as follows:
- 2022 – 100%
- 2023 – 80%
- 2024 – 60%
- 2025 – 40%
- 2026 – 20%
- 2027 – No bonus depreciation allowance
For items that are purchased but cannot be placed in service by the deadline, the benefit for the appropriate year of service will apply, rather than the year of purchase. This restriction also applies to each of the following calendar years; for instance, a qualifying item purchased in 2026, but not placed in service by the end of the year, would not receive a bonus depreciation benefit at all.
To take full advantage of this benefit, it is recommended that businesses considering qualifying upgrades or purchases should strongly consider that these benefits have a limited time of availability. In other words, time is of the essence. Significant tax savings, and even possibly rebates, are currently available but will taper off to zero over the next five years. For businesses that are considering a range of upgrades and purchases, a cost segregation study can help to separate qualifying items with recovery periods of 20 years or less from non-qualifying items, such as real estate, that typically do not depreciate (or at least do so at a much slower rate).
State Add-Backs and Other Caveats to Bonus Depreciation Deductions
It’s important to keep in mind that bonus depreciation benefits do not automatically extend to the state level. In fact, over half the states, including Illinois, do not allow bonus depreciation on state income taxes. In 2022, Illinois passed legislation officially decoupling from federal bonus depreciation for tax years ending on or after December 31, 2021. As a result, corporate taxpayers must add the benefit amount back on their state income taxes using Form IL-4562.
It’s also worth noting that despite its clear benefits, the bonus depreciation allowance may not always be the best option for claiming depreciation tax benefits. In some cases, Section 179 claims may be more helpful. Section 179 has specific limits, and cannot be used to benefit from a net loss, unlike bonus depreciation claims. However, this option may be more appropriate in some cases, allowing flexibility and fine-tuning of claims, as well as pushing depreciation allowances forward to future years. It’s strongly recommended that you consult with your tax advisor when considering these options to ensure that your specific needs are met.
At Weiss & Company LLP, we work to not only keep our clients informed of important accounting and tax information, but to support them in working through what are often complicated processes to secure the most favorable results. Should you have questions about whether your recent or planned purchases may qualify for the benefits described above, we recommend that you contact your tax advisor.
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