The Section 179 depreciation deduction: Common questions
The term has been thrown around a lot lately. You might have heard about it from your accountant or other people in the business. But what is Section 179? And what’s more, why is it important to your business?
What is a Section 179 Deduction?
Part of the Tax Cuts and Jobs Act of 2018, Section 179 allows many small business to deduct up to the full cost of qualifying equipment purchases in the year that equipment is put into use instead of depreciating the equipment over a number of years.
Why is this good for my business?
The main reason Section 179 was instituted was to help stimulate the economy by offering incentives to small businesses. Typically, the purchase price of a machine would be written off over the course of several years, meaning small tax breaks every year. With Section 179, you can get an immediate tax break which can be used to expand your business or purchase more equipment.
Are there limits to how much I can deduct?
Yes. The maximum deduction for most Section 179 property is $500,000 ($535,000 for qualified enterprise zone property). For the 2018 tax year, the deduction limit has increased to $1 million. There’s also a cap on how much you can spend on equipment — this year, it’s been raised from $2 million to $2.5 million. If you spend over that amount, your Section 179 deduction decreases dollar-for-dollar: for example, spending $2.7 million on equipment means you can only claim up to $800,000 of purchased equipment. This method of calculating the deduction ensures that small businesses get the most tax benefit.
What’s eligible for this deduction?
To qualify for Section 179, the asset must meet some criteria:
- Purchased for use in your industry (not leased)
- Placed in service during the current year
- Have utilization of more than 50%
- Acquired from a non-related party
Other criteria may apply, be sure to check with your accountant or other qualified financial professional to make sure your business can take advantage of Section 179 with respect to any particular purchase.
Is equipment the only type of asset eligible for the deduction?
No — other assets can also qualify for the Section 179 deduction. Many vehicles, like passenger vans and tractor trailers, can qualify for the deduction. If you’re thinking about buying a vehicle that will be used for business at least 50% of the time, a portion of the vehicle purchase price may be eligible.
You might not have known that some of the software your business uses may be eligible for a Section 179 deduction. There’s some criteria the software must meet:
- Purchased with qualifying lease or loan
- Cannot be custom software; must be available to the general public
- Not substantially modified or privately licensed
- Must have a useful, determinable life
- Expected to last more than one year
- Used for income-producing activities
Are there other limitations?
There are other restrictions on the Section 179 deduction including that a business’s deductions under this rule cannot exceed its net business income, though deductions over this amount can be carried over to subsequent years. Additionally, if the amount of eligible assets put into service exceeds $2,010,000, the deduction limit is reduced by this amount.
What is Bonus Depreciation?
Bonus depreciation, applied after Section 179 deductions, allows you to deduct part of an asset’s depreciation during the first year of ownership and use, deducting the rest over a few years. Bonus depreciation was previously set at 50%; it would have lowered to 40% and then 30% before being phased out in 2020. But the new tax law is changing the landscape — bonus depreciation was raised to 100% until January 2023. And that’s retroactive to equipment purchased and put in use after September 27, 2017, meaning if you bought an excavator on September 29 last year and put it to work right away, you can write off that excavator’s depreciation up to 100%. Talk to your CPA to see if any of your 2018 equipment purchases — whether you’ve already made purchases or are planning to — qualify for this deduction.
What are the advantages of Section 179?
Accelerated depreciation allows you to decrease your net income by increasing deductions. Taking the higher deduction immediately allows you to reinvest in your business to grow or offset short-term cash-flow problems.
What are the disadvantages?
As good as accelerated depreciation may sound, it’s not ideal for every business. For one, you’re lowering future tax deductions. As your business grows, you may move into a higher tax bracket. By taking your deductions now, you’ll have fewer options in the future. Additionally, if you decide to sell your depreciated asset before it reaches minimum value on its depreciation schedule, you may end up owing taxes. If the asset is sold for more than its current value (i.e. full depreciation), that profit is considered income by the IRS.
How do I decide if this is the right choice for me?
The decision to take a Section 179 deduction can have a significant impact on your business and its bottom line. We have just reviewed the features and some of the advantages that Section 179 can offer. However, there are also potential disadvantages to taking a Section 179 deduction depending on your business’s specific circumstances. Talk to your lawyer accountant, lawyer or other qualified financial advisor to determine whether taking a Section 179 deduction makes sense for your business.
If Section 179 is for me, how do I claim it?
- Purchase a qualified asset and start using it during the year.
- Keep good records about date of purchase, when you started using it and all associated purchase costs like freight and setup.
- Use IRS Form 4562 to claim the deduction when filing your taxes.