In an effort to stimulate the economy by encouraging businesses to buy new assets, Congress approved special depreciation and expensing rules for acquired property.
Special Bonus Depreciation and Enhanced Expensing for 2023
Because business assets such as computers, copy machines and other equipment wear out over time, you are allowed to write off (or "depreciate") part of the cost of those assets over a period of time. These tips offer guidelines on depreciating small business assets for the best tax advantage.
An asset is property you acquire to help produce income for your business.
For tax purposes, there are six general categories of non-real estate assets. Each has a designated number of years over which assets in that category can be depreciated. Here are the most common ones:
- Three-year property (including tractors, certain manufacturing tools, and some livestock)
- Five-year property (including computers, office equipment, cars, light trucks, and assets used in construction)
- Seven-year property (including office furniture, appliances, and property that hasn't been placed in another category)
- 27.5 years (residential rental properties)
- 39 years (commercial buildings)
Land is not depreciable (it doesn't wear out), but land improvements such as roads, sidewalks or landscaping may be written off over periods of 10, 15 or 20 years depending on the specific nature of the asset.
Types of Depreciation
There are three primary methods you can use to depreciate your business assets:
It's the simplest method but also the slowest, so it's rarely used.
You buy a copy machine for $1,600 at the end of March. Assuming the machine has a salvage value of $400, you can depreciate $1,200 of the cost over the life of the copier. A copy machine is considered 5-year property for tax purposes. Under the normal rules, using the straight-line method, you can take the following deductions in the first three years:
|First year||$1,200 / 5 x 50%*||$120|
|Second year||$1,200 / 5||$240|
|Third year||$1,200 / 5||$240|
The 50% calculation represents the "half-year convention" for assets not in service the entire year.
This method is the one most commonly used by small businesses. It lets you take a larger deduction in the first few years and a smaller write-off later. In the tax world, the most common accelerated method is called MACRS (Modified Accelerated Cost Recovery System). You don’t have to take salvage into account, as you do with straight line, and you generally use what’s called the "half-year convention," which means that the deduction that would otherwise be allowed for the first year is halved, regardless of what month you started using the asset in your business. (Exception: if you acquired more than 40% of your assets in the last three months of the year, you would use the "midquarter convention," meaning that all the assets acquired in each quarter would be depreciated starting at the midpoint of that quarter.) MACRS depreciation starts off at 200% of the straight-line depreciation rate and then switches over to the straight-line method for the remaining depreciable balance at the most opportune time to maximize your write-offs.
Here’s how it works under the normal rules: Say your business bought $2,000 worth of office furniture and started using it May 1. Office furniture falls into the 7-year category. The first three years of MACRS depreciation deductions would be:
|First year||$2,000 / 7 x 200% x 50%*||$286|
|Second year||($2,000 - $286) / 7 x 200%||$490|
|Third year||($2,000 - $776) / 7 x 200%||$350|
*The 50% calculation represents the "half-year convention."
TurboTax Tip: Although most business owners choose accelerated depreciation, it may not be prudent to take the biggest deductions in the first years that you are in business. Assuming that you will earn more income as the business grows, you may want to use the straight-line method, which may give you the best long-term tax benefit.
If you choose the straight-line method to depreciate an asset, you cannot switch to MACRS later. However, you may use a different method for additional assets acquired in subsequent years.
Section 179 Expense Deduction
It's a dry name for a deduction (taken from a line in the Internal Revenue Code) but it allows you to deduct the entire cost (subject to certain limitations) of an asset in the year you acquire and start using it for business.
Here are the rules and limitations for 2023:
- The asset must be tangible personal property, including software (not real estate).
- It must be used in a trade or business (property used in a rental activity is generally not eligible).
- You must take the deduction in the year you start using the asset.
- The decision to use Section 179 must be made in the year the asset is put to use for business.
- The deduction cannot be more than your earned income (net business income and wages) for the year.
For 2023, the maximum Section 179 deduction is $1,160,000. If your total acquisitions are greater than $2,890,000 the maximum deduction begins to be phased out.
If the business is an S corporation, partnership or multi-member LLC, it cannot pass the Section 179 deduction on to shareholders, partners or members unless the business has income. The individual must also have earned income to take the deduction.NOTE:
TurboTax walks you through the Section 179 deduction for applicable assets, and handles the calculations, too.
Bonus depreciation has been changed for qualified assets acquired and placed in service after September 27, 2017. The old rules of 50% bonus depreciation still apply for qualified assets acquired before September 28, 2017. These assets had to be purchased new, not used. The new rules allow for 100% bonus "expensing" of assets that are new or used through 2022. The percentage of bonus depreciation phases down in 2023 to 80%, 2024 to 60%, 2025 to 40%, and 2026 to 20%. After 2026 there is no further bonus depreciation. This bonus "expensing" should not be confused with expensing under Code Section 179 which has entirely separate rules, see above.
The 100% expensing is also available for certain productions (qualified film, television, and live staged performances) and certain fruit or nuts planted or grafted after September 27, 2017.
Taxpayers can make an election to opt out of the new bonus depreciation rules and use 50% bonus first year depreciation per the prior rules for the first tax year ending after September 27, 2017.
TurboTax Tip: Section 179 deductions that are not used in the current year because it is greater than your business income typically can be carried over to subsequent years. If a business (S corporation, partnership or LLC) has no operating income but the shareholder, partner or member has taxable income, it might be better for the business to use regular depreciation. Regular depreciation becomes part of the business operating loss that passes through to the shareholder, partner or member.
Why use regular depreciation?
It might seem like an easy choice to use expensing if you qualify. But in some cases, it might pay to use regular depreciation. That could be the case if you expect your business income—and hence your business tax bracket—to rise in the future. A higher tax bracket could make the deduction worth more in later years.
With TurboTax Live Business, get unlimited expert help while you do your taxes, or let a tax expert file completely for you, start to finish. Get direct access to small business tax experts who are up to date with the latest federal, state and local taxes. Small business owners get access to unlimited, year-round advice and answers at no extra cost, maximize credits and deductions, and a 100% Accurate, Expert Approved guarantee.