The Tax Cuts and Jobs Act makes it easier than ever to write-off the cost of buying equipment or making certain improvements rather than depreciating the cost over a number of years. And small businesses are taking advantage of these new rules. The NFIB reported that 61% of businesses claimed capital outlay, with 43% spending on equipment, 27% on vehicles, and 16% on improved or expanded facilities.
How to Write off Equipment and Capital Improvements
The new tax rules give you a number of options on how to deduct your costs immediately in lieu of regular depreciation (which means spreading out write-offs over a number of years). And you can use any of these options whether you pay cash or finance the purchase in whole or in part.
The rules for the Section 179 deduction (“expensing”) have been greatly expanded. Expensing, which must be elected, traditionally has been intended for buying equipment and machinery, whether new or pre-owned. It’s also been applied to off-the-shelf software. This hasn’t changed. Now you can expense the cost of certain qualified real property. This includes:
- Qualified improvement property, referring to improvements to the interior of a nonresidential building that’s already been placed in service. So if you own a strip mall and upgrade the wiring system, you can expense the cost (up to the limits below). Excluded from the definition of qualified improvement property are improvements to enlarge the building, installation of an elevator or escalator, or changes in the internal framework.
- Certain improvements to a nonresidential building after it’s been placed in service: roofs; heating, ventilation, and air-conditioning; fire protection and alarm systems; and security systems.
Expensing has also been extended to tangible personal property used predominately to furnish lodging or in connection with the furnishing of lodging that isn’t a business but is an investment. (If it’s a business, then these items have always qualified for expensing as equipment.)
The cost of qualified property can be expensed in 2018 up to $1 million (up from the $510,000 limit in 2017). There’s also a $25,000 dollar limit for buying heavy SUVs. However, the $1 million limit phases out once total investments for the year exceed $2.5 million (up from $2 million in 2017). The phase out is dollar for dollar, so no expensing can be used if total investments are $3.5 million or more in 2018. These dollar limits will be adjusted for inflation after 2018.
Despite these generous dollar limits, expensing continues to be limited to taxable income. Thus, if a C corporation buys $800,000 of capital equipment but only has $350,000 of taxable income, the expensing deduction is limited to $350,000, although the excess amount can be carried forward.
Also referred to as a first-year allowance, bonus depreciation is another way to write off the cost of eligible property in the year it’s bought and placed in service. For 2018, bonus depreciation applies to 100% of the cost of qualified property, whether new or pre-owned, and there’s no dollar limit. There are also no taxable income limits for bonus depreciation as there is with first-year expensing. Bonus depreciation applies automatically unless an election is made to opt out.
The scope of property eligible for bonus depreciation has also been expanded to include qualified improvement property (assuming Congress corrects an oversight with regard to the 15-year recovery period that had applied to such property). And it can be used for the cost of film, television and live theatrical productions. The use of bonus depreciation means that despite the $25,000 first-year expensing limit for writing off the cost of a heavy SUV (one with a gross vehicle weight rating of more than 6,000 pounds but not more than 14,000 pounds), the full cost can be deducted in the year the SUV is placed in service.
De Minimis Safe Harbor
As an alternative to treating your equipment as capital assets carried on the balance sheet, businesses can opt to use an IRS-created de minimis safe harbor. This allows for a deduction of up to $2,500 per item or invoice as non-incidental materials and supplies (companies with an applicable financial statement such as an SEC filing have a $5,000 per item or invoice limit). As such, a deduction is taken in the year in which these materials and supplies are paid for or consumed, whichever is later. For example, a 35-room motel buys 35 irons at a cost of $40 per iron and they are placed in each room when they’re purchased. The business can opt to deduct $1,400 as non-incidental materials and supplies; the irons aren’t added as an asset to the balance sheet.
With so many options for writing off the cost of investments in equipment and certain other property, it’s not easy to know which way is best for your business to go. Work with a knowledgeable tax advisor to optimize your write-offs.
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