Create an Asset Purchase Strategy with Depreciated Tax Breaks

Manufacturers investing in equipment and tangible assets can leverage various tax incentives, such as Section 179 expensing and first-year bonus depreciation. In 2024, bonus depreciation faces a further 20% reduction as part of its gradual phaseout under the Tax Cuts and Jobs Act (TCJA). Conversely, the TCJA has raised the Sec. 179 expensing limit for this year.

On January 31, the U.S. House of Representatives passed the Tax Relief for American Families and Workers Act of 2024 (TRAFWA), proposing to extend 100% bonus depreciation for assets placed in service before Jan. 1, 2026. Additionally, it suggests a slight increase in the Sec. 179 expensing limit for assets placed in service after 2023. However, the bill's passage in the Senate remains uncertain.

Given this tax law ambiguity, manufacturers may wonder how to integrate taxes into their 2024 asset acquisition plans and beyond.

Start with Sec. 179 Expensing

Sec. 179 expensing enables manufacturing businesses to immediately deduct the cost of eligible new or used assets, like equipment, furniture, off-the-shelf computer software, and qualified improvement property (QIP), upon placing them in service during the tax year. (QIP comprises interior improvements to nonresidential real estate.)

Under Sec. 179, manufacturers can opt to expense 100% of the qualified property cost, up to a specified maximum. The expensing limit, doubled from $500,000 to $1 million by the TCJA, is annually adjusted. For 2024, the maximum is $1.22 million (up from $1.16 million in 2023).

However, when asset costs surpass an annual threshold, the maximum Sec. 179 expensing election decreases dollar-for-dollar. The TCJA raised the threshold from $1 million to $2.5 million, also indexed for inflation. In 2024, the threshold is $3.05 million (up from $2.89 million in 2023).

These cost-related thresholds imply that midsize and larger manufacturers may derive minimal benefits from Sec. 179 expensing. The proposed 2024 increases in both limits offer limited relief: Under the TRAFWA, the expensing limit would climb to $1.29 million, and the phaseout threshold to $3.22 million.

It's crucial to note that Sec. 179 expensing cannot exceed net taxable income from business activities. For instance, if a manufacturing company generates $900,000 in net taxable income and places $1 million of business property in service, the deduction is capped at $900,000.

Please note it may be more advantageous for a NYS manufacturer that is eligible for the NYS Investment Tax Credit to consider foregoing Section 179 and instead take bonus depreciation. A taxpayer cannot claim the Investment Tax Credit on any property that Section 179 expense was taken on. The credit can be anywhere from 4-5% of the eligible cost and the taxpayer may be eligible for an additional credit, the Employment Incentive Credit, as well. We recommend that you consult with your tax advisor to determine if this would be beneficial for your company.

Next, Consider Bonus Depreciation

Even when bonus depreciation falls below 100%, it can still be a valuable tax advantage for larger manufacturers, especially due to the dollar limits on Sec. 179 expensing. It may also be more advantageous for startups and smaller manufacturers making significant asset investments because bonus depreciation deductions can exceed net taxable income, creating a net operating loss carried forward to offset future income.

Before the TCJA, manufacturers could claim bonus depreciation equal to 50% of the new qualified property cost placed in service during the tax year. Qualified property included assets depreciable under the Modified Accelerated Cost Recovery System (MACRS) with a recovery period of 20 years or less, such as machinery, equipment, computers, vehicles, office furniture, off-the-shelf software, and QIP.

For qualified property placed in service after September 27, 2017, and before January 1, 2023, the TCJA doubled the bonus depreciation percentage to 100%. Subsequently, 100% bonus depreciation was extended to QIP. Additionally, bonus depreciation was expanded to include used property under certain conditions.

However, the TCJA gradually reduces bonus depreciation:

80% for property placed in service in 2023

60% for property placed in service in 2024

40% for property placed in service in 2025

20% for property placed in service in 2026 and

0% for property placed in service after 2026

Therefore, if a manufacturer places $100,000 worth of equipment in its plant in 2024, bonus depreciation is limited to $60,000, unless the TRAFWA or other legislation increasing the percentage is enacted.

Stay Informed About Proposed Tax Law Changes

Both bonus depreciation and Sec. 179 expensing are elected on a tax return for the relevant tax year. Sec. 179 expensing takes precedence, with any remaining costs eligible for bonus depreciation, followed by depreciation under the MACRS.

If your manufacturing company's planned asset purchases over the next few years are unlikely to exceed the Sec. 179 expensing limits, you may not need to worry much about the scheduled phaseout of bonus depreciation or the potential extension of 100% bonus depreciation. However, if your company plans larger asset acquisitions, closely monitor bonus depreciation developments.

With 60% bonus depreciation possibly dropping to 40% next year, you might consider accelerating purchases to place assets in service in 2024 to benefit from the higher percentage. If the TRAFWA becomes law and revives 100% bonus depreciation for 2024 and 2025, consider planning increased purchases this year and next, as bonus depreciation would decline to 20% in 2026 and 0% in 2027 (unless Congress further extends the 100% rate). It may even be prudent to arrange a loan for equipment and qualified property purchases, as the bonus depreciation percentage can apply to the full cost, even if funded with borrowed capital.

Remember, both bonus depreciation and Sec. 179 expensing can be claimed for property placed in service by December 31. Hence, you have ample time to plan your purchases for the year.

Manufacturers must consider factors beyond taxes when planning asset acquisitions. Other strategic or financial considerations may outweigh potential tax benefits. In some cases, a manufacturer may save more tax in the long term by forgoing both Sec. 179 expensing and bonus depreciation, opting instead for MACRS or straight-line depreciation methods.

For guidance amidst tax law uncertainty, rely on us. We're available to address questions regarding tax law developments, Sec. 179 expensing, and bonus depreciation, and we're committed to assisting you.