Need Some Deductions for 2011?

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Updated for 2011

Small Business Deductions: Depreciation

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What is First-Year Expensing (Section 179)?

Internal Revenue Code Section 179 permits you to write-off the entire cost of qualified property (up to certain limits) the first year it is purchased and placed in service instead of taking depreciation deductions over the property's recovery period, which may be several years.

Since you can deduct the entire cost (up to certain limits) in the first year the property is purchased and placed in service, the deduction is referred to as the first-year expensing deduction.

For 2011, the first-year expensing deduction is limited to $500,000 ($139,000 for tax year 2012). The $500,000 limit must be reduced dollar-for-dollar when the total cost of depreciable business property placed in service in 2011 exceeds $2,000,000 ($560,000 is the maximum purchase limit for tax year 2012).

Bonus Depreciation for 2011

Bonus first-year depreciation of 100% is allowed for vehicles placed in service in 2011 that were purchased new and used over 50% for business. The bonus depreciation ceiling for 2011 is $11,060 for cars (regular annual ceiling of $3,060 plus $8,000 bonus depreciation) and $11,260 for light trucks, vans, and SUVs, weight-rated 6,000 pounds or less (regular annual ceiling of $3,260 plus $8,000 bonus depreciation). These ceilings must be reduced by personal use.

Section 179 (first-year expensing) is taken into account before claiming bonus depreciation. However, since the bonus depreciation rate is 100%, claiming Section 179 is not necessary.

Keep in mind, bonus depreciation only applies to new property while Section 179 applies to both new and used property placed in service.

TAX CHANGE ALERT FOR TAX YEAR 2012

Bonus Depreciation Rate To be Reduced in 2012:

The 100% bonus depreciation rate for 2011 provides a great tax break to business owners who purchased new depreciable property during 2011 and placed it into service. However, for 2012, the rate will be reduced to 50%.

Section 179 Deduction (first-year expensing deduction):

Deduction limit: For tax year 2012, the maximum Section 179 deduction is $139,000.

Purchase limit: For tax year 2012, you may purchase up to $560,000 in depreciable business property before the Section 179 deduction phaseout begins.

Bonus Depreciation vs First-Year Expensing (the Section 179 Deduction)

Don't confuse bonus depreciation with the Section 179 deduction (called first-year expensing). They are two different deductions.

Here are the differences:

Bonus depreciation may only be claimed for new depreciable property placed in service for business use..
The Section 179 deduction may be claimed on new or used property purchased and placed in service in the same year. For example, if you used your computer for personal use in 2011 then place into service in your business in 2012, you may not claim the Section 179 deduction.
The Section 179 deduction has an annual limit. For 2011 the maximum Section 179 deduction is $500,000.
Bonus depreciation has no annual limit.
The Section 179 deduction is taken into account before claiming any bonus depreciation.
Bonus depreciation only applies to the adjusted basis of the property that remains after subtracting the Section 179 deduction from the original cost of the property (see "Claiming Section 179 Deduction in 2011 is Not Necessary", just below).

Where to claim the Section 179 deduction and bonus depreciation

The Section 179 deduction and bonus depreciation are both claimed on Form 4562 (instructions). Bonus depreciation is claimed in Part II, line 14. It is called "Special depreciation allowance for qualified property".

Claiming Section 179 Deduction in 2011 is Not Necessary

Because the bonus depreciation rate for 2011 is 100%, there is no need to claim the Section 179 deduction. You may simply claim the 100% bonus depreciation deduction instead.

For example, if you purchased a new piece of equipment for $600,000 during 2011, the maximum Section 179 deduction you may claim is $500,000. Subtracting the $500,000 deduction from the original cost of $600,000 leaves an adjusted basis of $100,000; this is the amount that bonus depreciation would apply to.

For 2011, you may claim 100% of the $100,000 as bonus depreciation (note that the rate will be reduced to 50% in 2012).

Summing up:

Your total deduction for 2011 is $600,000
- Section 179: $500,000 plus
- 10% bonus depreciation: $100,000

Now assume you did not claim a Section 179 deduction on the $600,000 piece of equipment. In this case, your adjusted basis would remain $600,000 ($600,000 minus a zero deduction = $600,000).

However, since bonus depreciation applies to the adjusted basis of property, and since the adjusted basis remains $600,000, you may claim 100% of the $600,000 as bonus depreciation for 2011. (Remember, bonus depreciation has no annual limit whereas the Section 179 deduction has an annual limit of $500,000 for 2011.)

Summing up:

Your total bonus depreciation deduction for tax year 2011 is $600,000.
- 100% x adjusted basis of $600,000

As you can see in the example, you end up with a $600,000 deduction whether or not you claim the Section 179.

In addition, because of the 2011 annual Section 179 deduction limit of $500,000, bonus depreciation would only make a difference if you spent over $500,000 for the equipment, this is because there is no dollar limit on the amount of bonus depreciation that may be claimed. It's apparent that larger companies expecting to earn a substantial profit during 2011 stand to benefit greatly from the 100% bonus depreciation deduction.

Computing Bonus Depreciation in 2012

For 2012, the bonus depreciation rate will be reduced to 50% (from 100% in 2011). As in 2011, bonus depreciation will still apply to new property placed in service in 2012 and not pre-owned property.

How to Claim Bonus Depreciation for tax year 2012 when the rate drops to 50%:

Remember the order that these deduction are taken:

First, figure your Section 179 deduction (first-year expensing deduction). Subtract the amount of the deduction from the original cost of the property to find the adjusted basis of the property.
Next, figure bonus depreciation (50% rate x the adjusted basis figured in 1).
Finally, determine regular depreciation (applies to the adjusted basis remaining after subtracting the total of 1 and 2).

Example:

This example applies to tax year 2012, not 2011.

During tax year 2012 you purchase and place into service new equipment costing $149,000.

The computation for first-year expensing (Section 179), 50% bonus depreciation, and regular MACRS depreciation follows:

First-year expensing:
- $139,000 (the maximum allowed for 2012)
Bonus depreciation:
- $5,000, figured as follows:
  - $149,000 minus $139,000 = $10,000 adjusted basis
  - $10,000 x 50% = $5,000
Regular first year's depreciation under accelerated MACRS:
- $1,000, figured as follows:
  - $149,000 minus $139,000 minus $5,000 = $5,000 adjusted basis
  - First year's regular depreciation:
    - 20% x $5,000 (assuming the property is 5-year property and the half-year convention rules apply).

Result:

For 2012, your total depreciation deduction is $145,000:
- Section 179: $139,000 plus
- Bonus depreciation: $5,000 plus
- Regular MACRS depreciation: $1,000

Keep in mind the order in which you claim these deductions:

Section 179
Bonus depreciation
Regular MACRS depreciation

The adjusted basis of the property after these deductions is: $4,000 [$149,000 minus ($139,000 + $5,000 + $1,000)].

Business Property Used Less Than 100% for Business

If you use depreciable business property less than 100% for business use, you must multiply any depreciation allowance by the business-use percentage to determine the amount of depreciation you can claim.

For example, if you used your car 80% for business and 20% for personal use and you elected to use the actual expense method for claiming car expenses (as opposed to the standard mileage rate), you must multiply the depreciation allowance shown in the the depreciation table by 80% to find your deductible depreciation amount.

Keep in mind, the depreciation tables assume 100% business use.

Recapture of Special Depreciation Allowance:

When you dispose of property for which you claimed a special depreciation allowance (e.g., Section 179, bonus depreciation), any gain on the disposition is generally recaptured (included in income) as ordinary income up to the amount of the special depreciation allowance previously claimed.

Keeping property records, including all depreciation claimed on each piece of property is critical for proper tax reporting when disposing of the property.

Depreciation: Eligibility Requirements for Claiming First-Year Expensing (Section 179)

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