A funny thing happened in the actual application of bonus depreciation for my clients early on this tax year. Clients have elected not to take full advantage of the bonus depreciation this year when they could have taken bonus depreciation to generate a loss which could not only eliminate their income taxes this year but also allow them to carryback a loss generated to get refunds on prior year tax returns by amending those returns . The bonus depreciation would have improved their current cash flow. But so far all of my client who could have done this have opted out of doing this. Why would they do that? We will address that but first how does bonus depreciation work and what choices does a taxpayer have and finally why would taxpayers opt out of bonus depreciation?
Here is what the IRS published in IR-2020-216 explaining the recent developments in bonus depreciation:
The Treasury Department and the Internal Revenue Service today released the last set of implementing the 100% additional first year depreciation deduction that allows businesses to write off the cost of most depreciable business assets in the year they are placed in service by the business.
Traditional posts on income taxes include a history of developments in that area of taxation. I will spare you most of that, but you will notice the IRS included "used property" which previously was excluded from bonus depreciation.
There is more to this subject but the point of this post is to get to decisions that taxpayers can make about using bonus depreciation.
Net Operating Loss Carryback
Some of my clients could have chosen to take the 100% bonus depreciation to create a net operating loss that they could have carried back up to five years to generate income tax refunds. Why would they chose not to take the full 100% bonus depreciation?
First, my clients are not in need of cash right now. Second, they are expecting more revenue in the next few years and the depreciation will reduce their income taxes and self employment taxes in future years while the NOL carryback would not help them get a refund of self-employment taxes. Third, there is some concern that income tax rates may go up. One of my clients wanted to pay a reasonable amount of income taxes for 2020 because he feels the government needs the money. I don't hear that very often.
If you purchased equipment or had qualified improvement property you should be having a strategic conversation about your options with your CPA. As you can see you would want to consider your need for cash, the opportunities to carryback losses, and also what you expect your business will do in the next few years. A lot of this property is depreciated over five years typically. If you use the bonus deprecation this year then you will have used all of the depreciation for that equipment and not be able to benefit from depreciation for that equipment in future years.
Additionally, a net operating loss carryback won't likely give you as a big of a tax break as you would get by saving the depreciation deduction for future years, especially if you are subject to self-employment taxes. However, if you need cash and if you expect lower profits in the coming years you may decide to take advantage of the bonus depreciation provision.
In hard times in the past I have helped clients who generated losses to carry them back and get refunds which were critical for them to survive financially at that moment. If you are in such a situation now bonus depreciation could be a financial lifesaver. But if not, you can chose to save some of that depreciation for future years.
What Do You Want Your Taxes to Be?
Just a side note here, you have options this year when it comes to Depreciation. The Bonus Depreciation will give you a 100% percent deduction of the cost of that asset. A section 179 deduction may also be available and you can chose how much of the cost to deduct this year. Finally, you can take just the standard depreciation deduction. For my clients I have been able to ask them how much do you want your taxes to be this year. Along with that is the cash flow consideration and how much will their taxes be in the next four years. So this year with Depreciation you will have choices and those choices can be very strategic and very important.
Get Value From Your CPA
There are a lot of people who prepare tax returns. From experience I know that many won't have the conversation with you about your depreciation options and how they could impact you now and in the future. If you want someone to help you in your business beyond preparing your tax returns then call the CPA Superhero to help you make strategic decisions for your business, yourself, and your family. Email me today to arrange to have a conversation about your situation. My email address is listed below.
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Be careful when reading about tax law and its application, including my articles, because the wording and definitions are such a challenge and are influenced by writers perspective, specifically his own clients situations that he is mindful of and other situations the writer is not thinking of. The point is talk to your CPA about your situation and circumstances and don't rely on or make conclusions based on articles you read, including articles form irs.gov, because concepts and definitions are not very clear, and of course, they are subject to change. Now is the time to be having discussions about your situation and developing strategies for you and your business. Again, contact me using my information above to discuss your situation. I help business owners all over the U.S. and in foreign countries with their tax returns.