In our second installment on the new tax law, we will focus on depreciation-related provisions.
Many of you may have previously benefited from bonus depreciation and Section 179 expensing — tax incentives that have allowed businesses to accelerate deductions quicker than regular depreciation. The new law has increased, extended and modified these tax incentives.
Most of the changes are effective for years beginning after December 31, 2017, but there are some changes that are retroactive to September 27, 2017.
Changes to bonus depreciation
For qualified property acquired and placed in service after September 27, 2017, the new law increases the amount eligible to be immediately expensed to 100% of the purchase price. Additionally, the definition of qualified property is expanded to include used property. Note that used property is eligible for bonus depreciation only if it is the taxpayer’s first use of the property. Meaning, if a business purchases a used piece of equipment, and it is the first use of that piece of equipment for the acquiring business, then the property would qualify for bonus depreciation.
For most qualified property, bonus depreciation will begin phasing-down from 100% expensing starting on January 1, 2023. The phase-down schedule is as follows:
- 100% for property placed in service after Sept. 27, 2017 and before Jan. 1, 2023
- 80% for property placed in service during calendar year 2023
- 60% for property placed in service during calendar year 2024
- 40% for property placed in service during calendar year 2025
- 20% for property placed in service during calendar year 2026
It is important to note qualified property that was acquired on or before September 27, 2017, but placed in service after this date will not qualify for 100% expensing under the new law. Property won’t be treated as acquired after September 27, 2017 if a written binding contract was entered into for its acquisition on or before this date. Instead, the pre-Tax Cuts and Jobs Act law on bonus depreciation will be applicable.
Both the old law and new law allow for businesses to elect out of bonus depreciation and depreciate qualified property under regular depreciation rules. For a taxpayer’s first taxable year ending after September 27, 2017, a taxpayer may also elect to use the 50% bonus depreciation rate instead of 100%.
Changes to Section 179 expensing
For taxable years beginning after December 31, 2017, Section 179 expensing is increased to $1,000,000 on up to $2,500,000 of qualifying purchases. Section 179 expensing begins phasing out dollar for dollar for each qualifying purchase over $2,500,000. Unlike bonus depreciation, Section 179 expensing is limited to net trade or business income which means it cannot create a tax loss.
Property eligible for Section 179 expensing includes tangible personal property, computer software and qualified real property. Under the new law, qualified real property has been expanded and includes:
- Qualified improvement property (defined below)
- Certain structural improvements made to nonresidential real property placed in service after the date such property was placed in service including:
- Roofs
- Heating, ventilation and air-conditioning property (HVACs)
- Fire protection and alarm systems
- Security systems
Changes to depreciation provisions for nonresidential real property
In an effort to simplify the tax code, the new tax law condenses the improvement categories (leasehold, retail, and restaurant) which were eligible for special depreciation deductions under the old law into one category called “qualified improvement property”. Qualified improvement property is defined as any improvement to an interior portion of a building which is nonresidential real property if such improvement is placed in service after the date such building was first placed in service. The definition excludes the enlargement of the building, any elevator or escalator, or the internal structural framework of the building.
Qualified improvement property qualifies for a 15 year recovery period using the straight-line method for regular depreciation and is eligible for both bonus depreciation and Section 179 expensing.
The changes noted above are effective for property placed in service after December 31, 2017.
Other changes
There are many more changes made to depreciation-related provisions under the new tax law that we will not detail in this article. Some of these changes include:
- An increase in the annual caps on luxury automobiles depreciation
- Specific changes to depreciation of farm property:
- 200% declining balance method can be used for certain farm property, and
- farm equipment is now eligible for a 5-year cost recovery period
- Shorter ADS recovery period for residential rental property
- Limitations on the use of bonus depreciation for certain businesses with floor plan indebtedness
All of these noted changes are effective after December 31, 2017.
