By Karen E. Klein Brad Hall, managing director of accounting firm Hall & Co. (www.hallcpas.com) in Irvine, Calif., is one of those rare people who get excited about taxes. Especially when he can find ways for his clients to save money by advising them on current tax law.
If visions of bonus depreciation are dancing through your head this holiday season, Hall has some tips on how small businesses can reduce their 2004 tax burden.
Business owners who buy "capital equipment" -- machinery, computers, off-the-shelf software, and other tangible goods -- would probably prefer to deduct the cost in a single tax year, rather than a little at a time over a number of years. Federal tax law lets you do this, under tax code Section 179 -- but only within a certain dollar limit.
That limit used to be $24,000, but the 2003 Tax Act raised it to $100,000. The new limit, which was set to drop down to $25,000 at the end of next year, has been extended by Congress through 2007, Hall says. And when you adjust for inflation, the cap is actually $102,000 for 2004 and $105,000 for 2005.
Such capital-equipment expensing is limited once fixed-asset additions for the year exceed $410,000 and is also restricted to business net income.
What does this mean for small-business owners? "If you're thinking about buying new or even used equipment in the next six months, you might consider doing it now rather than waiting until Jan. 1, 2005," Hall advises. If the equipment is purchased and placed into service (not sitting in boxes in your storage room or waiting to be shipped to you, but actually in use in your office) by midnight on Dec. 31, 2004, you can claim the full deduction on your 2004 tax return.
The equipment category includes computer and phone systems, fax machines and copiers, furniture, software, carpeting and window treatments -- any business asset used in your office that's "moveable and removable," he says. (That includes SUVs used as company vehicles if they weigh over 6,000 pounds, but the deduction is reduced to $25,000 for they're bought after Oct. 22, 2004.)
Here's the best part: "You can pay for it in the following year or on credit, and it still qualifies as a 2004 deduction so long as the assets are placed in service by yearend," Hall says.
What if your outfit has purchased more than $102,000 in capital equipment this year -- or would like to? Under the 2002 Jobs Act, qualified new business assets acquired after Sept. 10, 2001, receive an additional 30% first-year depreciation. The 2003 Jobs Act raised this to 50% depreciation for assets acquired after May 5, 2003, and before Jan. 1, 2005 (be aware that this doesn't apply to used business assets, only new items).
Normally, the cost of a capital expenditure is written off over a period of several years (typically five to seven, depending on what kind of asset), meaning that only about 14% to 20% of the bill can be written off in the first year. Bonus depreciation established a first-year depreciation write-off of 50%.
That 50% bonus has so far not been renewed for tax year 2005, and Hall says he sees no indications that it will be. So, let's say you buy a $200,000 computer system next week, but you've already spent $102,000 on office furnishings earlier in the year that you'll claim on your 2004 tax return under Section 179.
Never fear. With bonus depreciation, you can still write off 50% of the $200,000 total -- $100,000 -- plus 20% in first-year depreciation, for a total tax deduction of $120,000 of the total cost. Not bad, but if you wait until Jan. 1, 2005, to buy the same computer system, you'll be able to deduct only the regular depreciation of 20% -- or $40,000 -- from the total, assuming that you will use your 2005 Section 179 deduction for other purchases.
Disabilities Tax Credits
Small concerns that earned a maximum of $1 million in gross revenue in the previous tax year or had 30 or fewer full-time employees may take an annual tax credit of 50% of expenditures for making their businesses accessible to disabled persons. This nonrefundable tax credit is limited to $5,000, and the building to which the costs relate must have been built prior to Nov. 5, 1990.
Tax legislation passed this fall also allows for a 15-year depreciation for nonresidential leasehold improvements made after Oct. 22, 2004. That's a big tax break if you've moved your business into a new space recently or plan to soon.
Why? Traditionally, leasehold improvements have been written off over 39 years, Hall says. So if your company leased a floor in an office building and spent $100,000 gutting it, putting up new interior walls and glassed-in offices, improving electrical wiring, and adding a kitchen, you could deduct only a modest $2,564 ($100,000 divided by 39) from your taxes in the first year.
But under the 15-year scenario, you could deduct substantially more -- $6,666 ($100,000 divided by 15) in the first year, making that large expenditure more attractive. And you'll recover your investment in about a third the time it would have taken under the previous law.
Though the tax breaks are tempting, Hall urges caution. "If you're not going to need the equipment in the near future, or you weren't going to buy it anyway, don't run out and make purchases just to get a tax deduction," he says. "It's just not worth it." Karen E. Klein is a Los Angeles-based writer who covers entrepreneurship and small-business issues