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Section 179 Tax Deductions
Typically, if
property for business has a useful life of more than one year, the cost must be spread
across several tax years as depreciation with a portion of the cost deducted each year.
But
there is a way to immediately receive these income tax benefits in one tax year. The
provisions of Internal Revenue Code Section 179 allow a sole proprietor, partnership or
corporation to fully expense tangible property in the year it is purchased.
And
in 2003, tax-law changes made this option much more appealing by dramatically increasing
-- from -- the
amount that can be written off immediately. Future allowable deductions
have been adjusted for inflation.
Eligible property
Property that may be written off in the tax year of purchase, rather than depreciated over
the asset's useful life, includes:
Also,
the definition of eligible section 179 property was expanded by the 2003 legislative
changes to include off-the-shelf computer software. Previously, it had to be written off
over three years.
The
IRS says ineligible property includes:
Buildings
and their structural components
Income-producing
property (investment or rental property)
Property
held by an estate or trust
Property
acquired by gift or inheritance
Property
used in a passive activity
Property
purchased from related parties
Property
used outside of the United States
How and when to use deduction
The Section 179 election is made on an item-by-item basis for eligible property. You don't
have to use it on all eligible property bought in that year. The election must be made in
the tax year the property is first placed in service.
The
Section 179 deduction isn't automatic. Taxpayers who want to take the deduction must elect
to do so. You make the election by taking your deduction on Form 4562. When
you file this form, attach it to either of the following:
Your
original tax return filed for the tax year the property was placed in service, regardless
of whether you file it timely.
An
amended return filed by the due date, including extensions, for your return for the tax
year the property was placed in service.
Make
sure you make the election when you file your original income tax return for that year.
You can't later amend your return to elect Section 179. The only exception to this is if
you amend your return before the actual due date, including extensions, of your original
return.
For
example, the maximum extended due date to file your return is Oct. 15. You file your
return on Sept. 1 and then realize you didn't utilize the Section 179 deduction. You still
have until the Oct. 15 deadline to file an amended tax return to claim the deduction.
Maximum Section 179 deduction increased
Congress periodically reviews the amount a taxpayer can claim as the annual Section 179
amount. As part of an economic stimulus and tax-reduction package signed into law in May
2003, the expense limit was hiked to $100,000.
Lawmakers
upped the immediate deduction amount in the hopes it would encourage businesses to invest
in new equipment sooner. The bigger deduction is available
for tax years 2003, 2004, 2005, 2006, 2007, and 2008.
Any
amount of property over the maximum deduction must be depreciated.
Limitation on annual amount of property purchased
There also is a limit on the annual total of deductible property. If the cost of
qualifying Section 179 property you put into service in a single tax year (2003) now exceeds $400,000 then you can't take the full deduction.
For
every dollar above $400,000 that a business owner spends on eligible property, he loses a
dollar in deductions. For example, the manufacturer completely re-equipped his facility at
a cost of $407,000. This is $7,000 more than allowed, so he must reduce his eligible
deductible limit to $93,000: $100,000 minus $7,000.
The
limitation amount will be indexed in 2004 through 2008 to reflect the inflation rate.
Deduction limited to taxable income
You have now determined the maximum deduction based on the amount of property purchased
during the year. You now must pass the aggregate income hurdle.
Your
deduction is limited to your aggregate taxable income from the active conduct of any trade
or business. Active trade or business includes employee and spouse's wages, sole
proprietorships, partnerships and S corporations. Basically, this means that unless you
have other sources of business income, your Section 179 deduction can't create a taxable
loss for your business.
More
business owners are able to take advantage of the deduction when they combine their
company earnings with those of a spouse or money earned in addition to (or before
starting) their own company income.
For
example, you are someone else's employee for most of the year. Your wages exceed the
Section 179 deduction. You start your own business at the end of the year and purchase
equipment and furniture. Even if your new business doesn't generate gross income that
year, you can still take the Section 179 deduction on the new equipment and furniture.
Why? Your wages exceed the Section 179 deduction.
This
aspect of inclusion also applies to a spouse. For example, you earn annual wages of
$60,000 as an employee. Your spouse doesn't work during the year but begins a new business
at the end of the year. Your spouse purchases and places in service $15,000 of Section 179
property at the end of the year. Your spouse's business doesn't generate gross income at
the end of the year. Even though your spouse hasn't earned trade or business income for
the year, the Section 179 deduction of $15,000 is still allowed in full since your wages
count as trade or business income.
Any
amounts disallowed by the trade or business taxable income limit are carried over to the
next year and added to the cost of any eligible property placed in service in that year.
The same rules for maximum deduction, maximum annual investment and taxable income apply
to the next tax year as well. .
Conclusion
The tax tip explains the process for using Section 179 to fully expense certain business
expenses immediately instead of depreciating them across a period of several years. You
should also be aware of less obvious advantages of the Section 179 deduction:
Lowers
adjusted gross income, which could help you qualify for various deductions which are
limited by AGI.
Lowers
earned income, which can increase your earned income credit.
Is
allowed in full even if the eligible property is placed in service on the last day of the
year.
Companies who choose to acquire assets through a finance lease may
depreciate the asset in the same way they would if they had purchased it
outright. If delivered this year, the deduction can be made this year
with just one month cash outlay.
You
should consult with your tax advisors to determine how you can use leasing to take
advantage of the Section 179 tax savings this year.
About Capital Resources:
Capital Resources provides commercial finance solutions to businesses nationwide for equipment ranging in cost from $20,000-$2,000,000. Capital Resources also develops vendor leasing programs for equipment
manufacturers, distributors, and value-added resellers to help stimulate sales by
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financing.
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