Understanding and applying bonus depreciation
Does your company properly apply bonus depreciation? In this brief video, Ryan Corcoran and Justin Silva lay out the current state of bonus depreciation and some common areas of confusion.
Understanding and applying bonus depreciation: What you need to know...in a nutshell
Knowing which fixed assets are eligible for bonus depreciation, how to claim bonus depreciation, what methods to use, and when not to claim bonus depreciation can be complicated. If your company is purchasing assets every year, which generally most companies do, utilizing bonus depreciation can result in a significantly lower tax liability resulting in more cash in your business.
What qualifies for bonus depreciation?
You can generally claim bonus depreciation on newly acquired original use property, but not used property. Examples typically include machinery, equipment, or software, as long as the tax depreciable life is 20 years or less.
The Protecting Americans from Tax Hikes Act of 2015 also added some new categories that qualify. One is qualified improvement property. This is otherwise real property improvement that is depreciated over 39 years. Also included are qualified leaseholds, retail, or restaurant improvement property, if certain criteria are met.
However, property that's required to be depreciated under the alternative depreciation system, which can include property predominantly used outside of the United States or tax exempt use property would not qualify for bonus depreciation.
You should also keep in mind, that after a corporate restructuring or acquisition, you may not be able to claim bonus depreciation on the acquired assets. They have to be original use, therefore you can't claim bonus depreciation twice on an asset that another tax payer may have already claimed it on.
How is bonus depreciation applied?
Here's how bonus depreciation works: While the applicable bonus percentage may vary based on the tax year placed in service, you take the bonus percentage and multiply it by the cost basis of the asset. That's your accelerated first year bonus depreciation deduction. Then you take the remaining basis of the asset and depreciate it normally.
Keep in mind that bonus depreciation only applies to newly acquired property, so you can't claim it in a future tax year. You have to claim it in the year you acquire it.
There are certain times that companies may wish to elect out of bonus depreciation. Examples of these times would be companies in a loss year, companies with expiring net operating loss carry forwards, or companies with expiring credit carry forwards.
Additionally, companies that maintain their financial statements on a tax basis may have issues with debt covenants. These should be analyzed with respect to utilizing bonus depreciation. Companies using tax basis financial statements may have income restrictions for debt covenants, and may wish to avoid utilizing bonus depreciation.
How long is bonus depreciation available?
The PATH Act of 2015 extended bonus depreciation through the 2019 tax year.
Generally, the bonus depreciation percentage is going to be 50 percent for 2016 and 2017 tax years, 40 percent for 2018 tax year, and then 30 percent in 2019, when it is projected to sunset.