Is Bonus Depreciation Going Away for Real Estate Investors?
Chris Barrett
Overview
The Tax Cuts and Jobs Act of 2017 increased Bonus Depreciation from 50% to 100% for assets placed in service between September 27, 2017, and January 1st, 2023. In this article I’m going to go over what Bonus Depreciation is, what happens now that the 100% deduction has expired, and how it will affect your business.
What is Bonus Depreciation?
Bonus depreciation is a tax incentive created for business owners to get them to invest in their company and therefore stimulate the economy. It was first introduced back in 2002.
It allows a business to accelerate depreciation by deducting a certain percentage of a fixed asset in the first year the asset was placed into service.
In 2017 100% bonus depreciation was introduced. This meant a business owner could purchase qualifying property that would normally be depreciated over 5, 7, 10, 15, or 20 years could now be depreciated in a single year.
This created huge tax savings potential for savvy business owners and real estate investors.
What qualifies for bonus depreciation?
Generally, if an asset has a depreciable life of 20 years or less it will qualify for bonus depreciation. Here is a list of assets that generally will qualify to give you an idea.
- Computers
- Equipment
- Furniture and fixtures
- Machinery
- Automobiles
- Software
- Qualified improvement property
How do real estate investors use bonus depreciation?
Real estate investors that have large passive income streams can use cost segregation studies to determine how much of their property can qualify for bonus depreciation.
By accelerating the depreciation on their property, they can offset other passive income.
Further, if an investor can qualify for Real Estate Professional Status (REPS) or utilizes the Short Term Rental (STR) exception their rental may qualify as a non-passive activity allowing them to create losses that can be deducted against other non-passive income such as their business or W2 job.
If you’re a real estate investor or professional and want a place to learn more tax and accounting tips specifically for you, join our free Facebook Group.
Is there a difference between section 179 deduction and bonus depreciation?
On the surface section 179 and bonus depreciation look very similar as they both allow you to accelerate depreciation in the first year an asset it placed into service. In addition, there are circumstances where the two methods and be used in tandem.
There are three main differences between the two methods that should be noted.
- Section 179 allows you to deduct a set dollar amount while bonus depreciation is based off a percentage.
- Section 179 has a dollar limit which is adjusted yearly for inflation. Bonus depreciation on the other hand has no annual limit.
- Bonus depreciation allows you to create a net loss through depreciation. Section 179 on the other hand is limited to the amount of money made.
What is the future of bonus depreciation?
Barring any changes to the law bonus depreciation is set to be phased out to 0% over the next few years.
2022: 100%
2023: 80%
2024: 60%
2025: 40%
2026: 20%
2027: 0%
What does this mean for your business?
There have been a lot of changes to bonus depreciation since it was first introduced. We have no way of knowing if the above phase out schedule is exactly the way things will pan out. That being said at this point you still have at least some bonus depreciation available over the next few years.
Just because you cannot take the entire deduction in year one doesn’t mean there isn’t still tax planning to be done. If anything there is more.
Remember tax savings come with diminishing returns. Your first dollar saved could be in the 37% tax bracket while your last dollar saved could be in the 10% tax bracket. Sometimes it makes more sense to spread the deduction over a few years in order to maximize tax savings
Make sure you have considered all of these factors when claiming bonus depreciation and setup a time to chat with an expert at Midwest CPA if you have questions about your specific situation.
While we’ve got you here, why not take a look at our real estate CPA services.
Disclaimer
The content contained in this blog post is intended for general informational purposes only and is not meant to constitute legal, tax, accounting, or investment advice. You should consult a qualified legal or tax professional regarding your specific situation.
