Bonus Depreciation
Applicable to Real Estate
Increased Small Business Expensing

On May 28, 2003, President Bush signed the Jobs and Growth Tax Relief Reconciliation Act of 2003. As the third largest tax cut in history and third major tax bill in three years, the Act offered taxpayers another dose of tax relief. While there are numerous provisions primarily affecting individual taxpayers, several important provisions impact businesses.

Business-related provisions include increasing first-year bonus depreciation and boosting small-business write-offs. To the extent your business uses depreciable assets, you may be interested in these increased deduction amounts.

Bonus Depreciation

The Act expands the bonus depreciation provisions originally enacted in 2002. The 2002 measure provided for an additional 30 percent first-year bonus depreciation on qualifying assets acquired after September 10, 2001 and before September 11, 2004, assuming that a binding contract was not in place prior to September 11, 2001. For some assets, this means that two-thirds of the cost can be written off in the first two years.

The 2003 law increases the additional first-year bonus depreciation deduction to 50 percent for qualified property acquired and placed in service after May 5, 2003, but before January 1, 2005, assuming that a binding contract was not in place prior to May 6, 2003. This can result in three-quarters of the cost being written off in the first two years.

Keep in mind that even if the contract was in-place prior to May 6, 2003, assets could still qualify for the 30 percent bonus depreciation. Also, the 2003 Act changes the 30 percent bonus depreciation sunset date above from September 11, 2004 to January 1, 2005.

Applicable to Real Estate

Taxpayers who have acquired or constructed new buildings or certain leasehold improvements during the time periods qualifying for bonus depreciation will have increased incentive to hire a Cost Classification expert. Buildings do not qualify for the bonus deprecation; however, a Cost Classification expert can identify components of the building that do qualify for the bonus depreciation.

Cost Classification is the process of identifying assets that can be depreciated over something less than the standard 39-year federal tax life for buildings. Many assets can be written off over five, seven or 15 years, resulting in a significant cash flow benefit.

Assuming a building owner classified all of the construction costs of a new $4 million manufacturing building as 39-year property, and the building was placed in service prior to September 11, 2001, a Cost Classification Study could result in a present value benefit of approximately $294,000. Utilizing the same assumptions, the present value benefit could be approximately $329,000 if the assets qualify for the 30 percent bonus depreciation, and approximately $339,000 if the assets qualify for the 50 percent bonus depreciation.

Increased Small Business Expensing

Section 179 of the Internal Revenue Code allows expense deductions for certain depreciable property. The new law increases the annual Section 179 expense limit to $100,000 from $25,000. Availability of this expense deduction will phase out for taxpayers who place in service over $400,000 of qualified property in that year (previously $100,000). For every dollar you spend over the $400,000 threshold, the $100,000 maximum is reduced (but not below zero) by one dollar. Thus, once you reach the $500,000 investment limit in any tax year, you cannot claim an asset expensing deduction for that tax year.

The new $100,000 and $400,000 amounts will be indexed for inflation after 2003 and will apply for taxable years beginning in 2003, 2004 and 2005. In addition, off-the-shelf computer software, previously excluded, is now considered qualified property.

In summary, taxpayers taking full advantage of the $100,000 immediate write-off will need to structure their annual acquisitions so as not to exceed the $400,000 phase-out threshold. To accomplish this, taxpayers should consider leasing depreciable property or postponing its purchase until the following year.

As under current law, taxpayers should elect to apply the Section 179 expense provision to the eligible assets with the longest depreciable lives.

About the Authors
Andy Zaleski and Dan McGrath are senior tax managers in Grant Thornton LLP’s Capital Cost Benefits Group. They are located in Detroit and Chicago respectively. Zaleski holds Bachelor of Accounting and Master in Taxation degrees and McGrath holds Bachelor of Science in Construction Management and Master in Business Administration degrees.

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