Section 179 Deductions

Introduction

Section 179 is a provision of the Internal Revenue Service Tax Code that pertains to tax deductions for small and medium sized businesses. Its purpose is to provide financial assistance in regards to equipment purchases, and even acts as an incentive to buy new equipment.

How Section 179 Works

Section 179 allows a business to deduct the full purchase price of qualifying equipment for the current tax year (instead of depreciating it over time). The equipment must be purchased and put into use the current tax year (meaning equipment purchased and put into use between 12/31/2008 and 1/1/2010 qualifies for Tax Year 2009).

To give an example, if a business purchased equipment that had a total price of $25,000, that $25,000 could come right off the gross income the company reports this year. This can result in a substantial tax savings (as opposed to yearly depreciation). To wit:

Without Using Section 179

Taxable 2008 Income:                                                       $100,000

Normal 20% depreciation on $25,000 equipment purchase:        $  5,000

Taxable 2008 Income after depreciation:                               $ 95,000

Tax Paid (assume a 35% tax rate)                                        $ 33,250

Using Section 179

Taxable 2008 Income:                                                        $100,000

Less full Section 179 Deduction for purchased equipment:         $ 25,000

Taxable 2008 Income after Section 179 Deduction:                  $ 75,000

Tax Paid (assume a 35% tax rate)                                        $ 26,250

That’s a difference of $7,000. Obviously, one can see why Section 179 is so popular.

Limits on Section 179

Section 179 has limits on the types of equipment you can deduct (discussed in the next section) and the total dollar amounts.

For 2008 and extended thru December 31, 2009 via the "American Recovery and Reinvestment Act", the limits are:

Total Deduction Limit: $250,000

Total Price of Equipment Purchased: $800,000 (deduction decreases dollar for dollar after $800,000 of equipment is purchased)

Depreciation after $250,000

If a business claims the full $250,000, they may still depreciate the remaining equipment (up to the $800,000 limit). So if they bought $300,000 worth of qualifying equipment, they could claim $250,000 in full, and still depreciate the other $50,000 at normal depreciation rates (20%).

Clearly, these limits are meant to keep Section 179 a small and medium sized business deduction. Companies purchasing millions of dollars worth of equipment will find they cannot use Section 179 (as the dollar for dollar decrease will phase it out.)

Special Zones

There are certain areas of the country that qualify for increased Section 179 Limits (such as the New York Liberty Zone, the areas affected by Hurricane Katrina, etc). [1][2]

Qualifying Equipment

In general terms, most business equipment qualifies for a Section 179 Deduction. Equipment such as:

• Machines and similar equipment purchased for business use
• Tangible personal property (that is used in business)
• Business Vehicles with a GVW (gross vehicle weight) that is in excess of 6,000 pounds
• Computers and (off-the-shelf) Computer Software
• Office Equipment (including office furniture and office machines)
• Property that is attached to a company building but is not a structural component of the building (i.e.: a printing press, large manufacturing machines, etc)
• Partial Business Use Equipment (this is equipment that is purchased for both business use and personal use - generally, your deduction will be based on the percentage of time you use the equipment for business purposes.)

The IRS Website also maintains a more complete list and explanations of qualifying Section 179 equipment [3]  However, going by the above list, it’s pretty safe to say that most business equipment qualifies.

Section 179 and the Economic Stimulus Act of 2008

While the $600 checks most taxpayers received got the most press, The Economic Stimulus Act of 2008 made substantial changes to Section 179 as well. In essence, it greatly increased the dollar limits, and also added a “bonus” depreciation. This was meant to spur equipment purchases in 2008.

Here are the changes:

2007 Total Amount of Equipment Purchased: $500,000 (deduction decreases on a dollar for dollar basis after this amount is reached)

Bonus Deduction In addition, the Economic Stimulus Act of 2008 and the American Recovery and Reinvestment Act of 2009 further changes Section 179 by providing a one-time “bonus” first year depreciation of 50% on qualifying equipment. This comes into effect after the $250,000 deduction limit is reached.

The following graphic details how profound these changes can be.

It is unknown at this time if the limits will change (or revert back to 2007 levels) in 2009.

 “The Hummer Tax Break”

Section 179 has become (somewhat affectionately) known as “The Hummer Tax Break” due to the fact that one could own a business, buy a “Hummer” (as it qualifies), and write off the entire cost for the current tax year. However, that is a bit misguided, as the “business use” aspect still applies – if it’s a business vehicle, it qualifies. If it is not a business vehicle, it does not.

Section 179 combined with Equipment Financing and Equipment Leasing

Many companies have taken advantage of Section 179 and turned buying equipment into a net profit for the current tax year. They do this by leasing or financing the equipment.

This allows a company to spread out the payments over several years, but take a full deduction this year. And in many cases, the amount saved on taxes actually exceeds the amount of the first year’s lease (or finance) payments. So by combining Section 179 with an equipment lease, a company can actually realize a current year profit (instead of an expense) when it obtains new equipment. 

How to Claim the Section 179 Deduction

The Section 179 Deduction is not automatic – a company must “elect” to take it by filling out Part 1 of IRS form 4562 [4]. The deduction is taken on an item by item basis, meaning a company need not elect to take it in every instance (although if the equipment qualifies, it’s almost a given that the deduction will be taken, as the benefits of writing the price off in the current tax year are obvious.)

Resources

http://www.section179.org

http://www.irs.gov

http://www.house.gov/jct/x-8-08.pdf

http://training.sba.gov:8000/eco