When manufacturers purchase equipment and other tangible property, various tax breaks are available, including Section 179 expensing and first-year bonus depreciation. For 2024, bonus depreciation has dropped another 20 percentage points in its gradual phaseout under the Tax Cuts and Jobs Act (TCJA). However, the Section 179 expensing limit has increased this year under another TCJA provision.
Meanwhile, on January 31, the U.S. House of Representatives passed the Tax Relief for American Families and Workers Act of 2024 (TRAFWA). Among other things, it would extend 100% bonus depreciation to property placed in service before Jan. 1, 2026. In addition, the bill would make a small increase to the Sec. 179 expensing limit for property placed in service after 2023. However, whether the bill will be passed by the Senate is uncertain as of this writing.
With this tax law uncertainty, manufacturers may be wondering how to factor taxes into their asset purchase planning for 2024 — and beyond.
Consider Section 179 Expensing
Section 179 expensing allows manufacturing businesses to deduct (rather than depreciate over a number of years) the cost of purchasing eligible new or used assets, such as equipment, furniture, off-the-shelf computer software and qualified improvement property (QIP), placed in service during the tax year. (QIP includes improvements to interior portions of nonresidential real estate.)
Under Section 179 expensing, a manufacturer can elect to expense 100% of the cost of qualified property, up to a specified maximum. The expensing limit was doubled from $500,000 to $1 million by the TCJA and is indexed annually. For 2024, the maximum is $1.22 million (up from $1.16 million for 2023).
However, if the cost of assets exceeds an annual threshold, the maximum Section 179 expensing election is reduced on a dollar-for-dollar basis. The threshold was increased by the TCJA from $1 million to $2.5 million and is also indexed for inflation. For 2024, the threshold is $3.05 million (up from $2.89 million for 2023).
These cost-related limits mean that midsize and larger manufacturers might get little, if any benefit from Section 179 expensing. The proposed 2024 increases to both limits wouldn’t help much because they’re relatively small: Under the TRAFWA, the expensing limit would rise to $1.29 million, and the phaseout threshold would rise to $3.22 million.
Also bear in mind that Sec. 179 expensing can’t exceed net taxable income from business activities. For example, if your manufacturing company generates $900,000 in net taxable income and it places in service $1 million of business property, the deduction is limited to $900,000.
Look at Bonus Depreciation
Even when bonus depreciation is less than 100%, it can be the more valuable tax break for larger manufacturers, due to the dollar limits on Section 179 expensing. It also can be more beneficial to start-ups and other smaller manufacturers making major asset investments because bonus depreciation deductions can exceed net taxable income to create a net operating loss, which can be carried forward to offset income in future years.
Prior to the TCJA, manufacturers could claim bonus depreciation equal to 50% of the cost of new qualified property placed in service during the tax year. Qualified property included property depreciable under the Modified Accelerated Cost Recovery System (MACRS) with a cost recovery period of 20 years or less, such as machinery and equipment, computers, vehicles and office furniture. It also included off-the-shelf software and QIP.
For qualified property placed in service after September 27, 2017, and before January 1, 2023, the TCJA doubled the bonus depreciation percentage to 100%. Subsequently, 100% bonus depreciation was extended to QIP (which was inadvertently left out of the law). The TCJA also extended bonus depreciation to used property if certain conditions are met.
But the TCJA gradually phases out bonus depreciation as follows:
- 80% for property placed in service in 2023,
- 60% for property placed in service in 2024,
- 40% for property placed in service in 2025,
- 20% for property placed in service in 2026, and
- 0% for property placed in service after 2026.
Thus, if a manufacturer places in service $100,000 worth of equipment in its plant in 2024, bonus depreciation will be limited to $60,000, unless the TRAFWA or other legislation increasing the percentage becomes law.
Keep Proposed Tax Law Changes in Mind
Section 179 expensing and bonus depreciation are both elected on a tax return for the tax year in question. Section 179 expensing is claimed first and then bonus depreciation may be applied to the remaining costs. Any amount left over can be depreciated under the MACRS.
If the asset purchases your manufacturing company is contemplating over the next few years likely won’t exceed the Section 179 expensing limits, you probably don’t need to worry too much about the scheduled phaseout of bonus depreciation — or whether an extension of 100% bonus depreciation will be signed into law. But if your company’s asset purchases will be larger, you’ll want to keep a close eye on what’s happening with bonus depreciation.
Because 60% bonus depreciation could drop to 40% next year, you may want to accelerate purchases to put assets into service in 2024 to take advantage of the higher percentage. If the TRAFWA is signed into law and 100% bonus depreciation is revived for 2024 and 2025, you may want to plan for increased purchases this year and next, because bonus depreciation would drop to 20% in 2026 and 0% in 2027 (unless Congress subsequently extends the 100% amount even further). It may even make sense to arrange a loan to purchase equipment and other qualified property. The bonus depreciation percentage can apply to the full cost even if the purchase is paid for with borrowed funds.
Remember that both bonus depreciation and Sec. 179 expensing can be claimed for property placed in service as late as December 31. So you currently have plenty of time to plan your purchases for the year.
Manufacturers need to consider more than just taxes when planning their asset purchases. There may be other strategic or financial factors that outweigh potential tax benefits. Also, in some situations a manufacturer may save more tax in the long run by forgoing both Sec. 179 expensing and bonus depreciation and instead following the MACRS or even straight-line depreciation methods.
Turn to Olsen Thielen for Answers
Tax law uncertainty no doubt makes planning all the more difficult. Please turn to our manufacturing specialists with questions regarding tax law developments, Section 179 expensing and bonus depreciation. We’d be pleased to help.