Companies that are preparing to file their 2018 taxes and planning for 2019 will see some big changes in the new tax law, including much larger tax deductions for technology purchases.
The Tax Cuts and Jobs Act, which took effect in the 2018 tax year, was the first major tax reform in 31 years. For businesses, other favorable changes include lowering the corporate tax rate from 35 percent to 21 percent, and a potential 20 percent deduction in qualified business income for small businesses that are S corporations, LLCs, partnerships and sole proprietorships.
But the new tax law also eliminated some popular business deductions, such as entertainment expenses and transportation fringe benefits, which allowed employers to deduct the costs of providing employees funds for parking and transit passes.
“There’s good news and bad news,” says Paul Herman, a CPA and owner of Herman and Company, an accounting firm in White Plains, N.Y.
From an IT standpoint, one major change is to the Section 179 deduction and bonus depreciation, which allows companies the option to write off all their technology and equipment spending in one year, rather than use the normal depreciation schedule, which for hardware is typically five years.
The amount of the Section 179 deduction doubles from $500,000 to $1 million for 2018 and beyond. Limits will be indexed for inflation after 2018.
“I don’t know if there are many small businesses that will spend that much, but whatever they spend, they can expense it with Section 179, and that’s a good thing,” Herman says.
The new tax overhaul also increases bonus depreciation to 100 percent, which increases the amount of technology and other equipment that companies can deduct each year. Before the new law, bonus depreciation was scheduled to drop from 50 percent in 2017 to 40 percent in 2018.
Technology that qualifies for Section 179 or bonus depreciation includes servers, computers, networking equipment and off-the-shelf software. Office equipment, furniture and some vehicles also qualify.
The new tax law also expands what is eligible and now includes alarms and security systems, roofing, HVAC systems and fire protection systems.
To use Section 179, companies are allowed to spend up to $2.5 million on technology and other equipment. Every dollar spent above the limit reduces the deduction by a dollar, says Troy Banker, senior tax manager at Geffen Mesher, an accounting firm in Portland, Ore. The deduction is completely phased out once total qualifying additions reach $3.5 million, he says.
In contrast, bonus depreciation has no spending limits. Under the new law, bonus depreciation is increased to 100 percent for equipment purchased and placed into service between Sept. 27, 2017, and Dec. 31, 2022.
Historically, Section 179 could be used for new and used equipment, while bonus depreciation could only be used for new equipment. But the new tax overhaul allows companies to use bonus depreciation for used equipment as well.
The upshot: For most small businesses, Section 179 and bonus depreciation gives companies two ways to deduct their technology and equipment purchases all in one year.
“For example, if your company has $100,000 in net income, and you purchase $30,000 in qualifying equipment, you can deduct the $30,000 rather than capitalizing it, allowing you to pay less in taxes,” says John W. Reddall, a CPA in Las Vegas.
There are some differences between Section 179 and bonus depreciation. Companies can’t use Section 179 to create a loss or if the company is operating at a loss. But if a business operates at a taxable loss, it can still qualify for bonus depreciation, Banker says.
Business owners may find it advantageous to take bonus depreciation to increase a loss to offset income from other sources, thus lowering taxes in the current year. Also, net operating losses created can be forwarded into the next year, Banker says.
“If you carry the loss forward, and if you have a taxable income the next year, the taxpayer may be able to offset the net operating loss carryforward against next year's income, subject to net operating loss rules," he says.
Businesses should consult their accountants on whether to take advantage of Section 179 or bonus depreciation, Reddall says. It might make more sense to use the normal depreciation schedule. “If you are losing money, you may want to spread the deduction over several years, to when you are potentially more profitable,” he says.