Building improvements now eligible for bonus depreciation
Posted On: 7-29-2016 | Posted By: Katie Barthel, CPA
The rules for bonus depreciation, a powerful money-saving tool for businesses, have recently changed: it can now be applied to more types of property, but it is set to expire at the end of 2019. Can your business take advantage of bonus depreciation while it lasts?
The recently passed PATH Act of 2015 has touched many different areas of personal and business taxation by extending and making permanent certain tax incentives. One element of the PATH Act that we did not discuss in detail in our previous article was the expansion of property that is eligible for bonus depreciation.
In 2016 and 2017, 50% bonus depreciation is available to be used on all “eligible property,” according to Internal Revenue Code Section 168(k). This allowance is reduced to 40% in 2018 and 30% in 2019, and it will not be available in the calendar year 2020 and beyond. Property eligible for bonus depreciation has historically been limited to machinery, equipment, and software. However, with the passage of the PATH Act and beginning after December 31, 2015, the definition of property that is eligible for bonus depreciation is expanded to include “qualified improvement property.”
“Qualified improvement property” definition
“Qualified improvement property” is any improvement that has been made to the interior portion of a nonresidential building after the building was originally placed in service. Improvements that are not included in this definition are building additions, an elevator or escalator, or internal structural framework for the building. Fortunately, qualified improvement property comprises most other improvements, including the following:
- Internal cooling/heating items
- Lighting and other electrical
- Energy management systems
- Permanent floor coverings
- Fire protection and alarm systems
- Exit signs
- Restroom partitions
- Building security systems
- Permanent but not load-bearing walls
- Ceilings not needed for building stability
- Structural components that benefit a common area
In 2015 and prior years, building improvements were not eligible for bonus depreciation unless they qualified as one of the following types of property:
- qualified leasehold improvement property;
- qualified restaurant property; or
- qualified retail improvement property.
Qualifying as one of these types of property was fairly challenging. For example, qualified leasehold improvement property required (1) the building to be leased, (2) the building to be substantially occupied by the lessee or sublessee, and, (3) such improvement to be placed in service no earlier than three years after the date the building was first placed in service.
Now with the passage of the PATH Act, building improvements can be eligible for bonus depreciation without these types of stipulations. Businesses can take advantage of this accelerated depreciation deduction if it improves its own realty, not just realty that it leases. Additionally, improvements made at any time after the building is placed in service will be eligible for bonus depreciation – the owner is not required to wait three years to improve his or her property.
How this change will affect business owners
In 2015 and prior years, most improvements made to a building were not eligible for accelerated depreciation and had to be recovered over an excruciatingly long 39-year period. This extended recovery period was not an appealing incentive for most businesses; many chose not to make large improvements to their spaces, sidestepping the potential for increased growth or efficiency. The availability of using bonus depreciation on assets whose costs would otherwise be recovered over 39 years allows companies additional advantages when formalizing their tax strategies.
Accelerating the depreciation of building improvements can be very helpful for businesses. First, it can effectively reduce the initial cost of the improvement itself by offsetting it with the tax savings that are generated. Second, accelerating depreciation deductions can allow businesses to defer some of their tax liabilities. Third, accelerating deductions can free up money today that could be used for some other important venture the business is interested in pursuing. Building improvements are typically large expenditures, and being able to recover those costs more quickly is a device many businesses utilize to expand their operations and improve efficiency.
This accelerated depreciation option is only available for the next four years, with phase-outs each year. If your company is considering making some large building improvements in the near future, it might be best to consider doing it sooner rather than later. For advice or more information about this revised code section, please contact your WK advisor at (573) 442-6171 or (573) 635-6196.