Uncle Sam Wants To Support Buyers Of New And Used Machinery

Machinery buyers and sellers play a vital role in our economy. Heavy machinery helps us grow food, construct infrastructure, build homes and office spaces, and transport materials more efficiently. Investing in machinery boosts our productivity and strengthens our economic foundation.

Congress recognizes that capital goods (like machinery) and research and development are key drivers of long-term growth. As a result, both areas receive favorable tax treatment.

One incentive for purchasing heavy machinery is bonus depreciation. This tax benefit encourages businesses to keep their fleets modernized and efficient by allowing them to deduct the full cost of eligible assets in the year they're acquired.

Which Purchases Qualify For Bonus Depreciation?

According to current IRS guidelines, qualified property includes tangible personal property with a recovery period of 20 years or less. Most heavy machinery purchases fall under this category, including tractors, combines, forklifts, excavators, bulldozers, cranes, aerial work platforms (AWPs), telescopic handlers, and more.

Used machinery purchases also qualify for bonus depreciation, provided the buyer didn't previously own the equipment. This rule changed in 2017, when Congress updated the tax code to allow used machinery purchases to qualify.

However, certain types of assets don't qualify for bonus depreciation. Real estate improvements and land purchases aren't included, and there are specific limits for automobile acquisitions. Additionally, when the 2017 tax reform took effect, Congress adjusted the depreciation period for farm equipment. Machinery used in farming businesses now has a five-year recovery period instead of seven, except for items like grain bins, cotton ginning assets, fences, and other land enhancements.

How Is Bonus Depreciation Calculated?

Depreciation spreads out the cost of long-term assets across their useful lives. Normally, this involves following a depreciation schedule that allocates portions of the cost to each year (e.g., 20% in Year 1, 15% in Year 2, etc.).

Businesses adhering to US Generally Accepted Accounting Principles (GAAP) often use two separate depreciation schedules: "book depreciation" and "tax depreciation." Book depreciation serves for financial reporting and tends to be more evenly distributed annually. Managers and lenders typically refer to book depreciation. Tax depreciation, on the other hand, is calculated specifically for tax purposes. Tax rules frequently allow for accelerated depreciation, which differs from book accounting due to evolving legal frameworks.

In 2021, the calculation is straightforward: 100% of the asset's value qualifies for bonus depreciation. The process becomes more complex when combining bonus depreciation with other tax incentives like Section 179. Generally, tax professionals suggest maximizing the Section 179 deduction first, then applying bonus depreciation to any remaining balance.

Taxpayers can opt out of the additional first-year depreciation for assets placed into service during the tax year. If this election is made, it applies uniformly to all similar assets acquired within the same year.

What Is Bonus Depreciation In 2021?

At present, the bonus depreciation rate stands at 100% of the asset's value. This percentage fluctuates over time depending on legislative changes. While the current rate is scheduled to decrease in the future, new laws might extend the high bonus depreciation levels. Congress regularly reviews and amends tax regulations annually.

Here’s the current bonus depreciation schedule according to IRS guidelines:

Examples Of Bonus Depreciation For New And Used Machinery Purchases

Example 1: You buy a used Caterpillar 301 mini excavator for $25,000. You’ve never owned this machine before, and you’ll use it exclusively for business purposes. The entire $25,000 qualifies for bonus depreciation. Used equipment qualifies as long as you haven’t owned it previously and it’s used for business activities.

Example 2: You purchase a new HLA attachment for $3,000 for your business. The full amount qualifies for bonus depreciation. Attachments and other complementary items used with your machinery are also eligible.

Example 3: You acquire a used John Deere 100 series lawn tractor for $1,200. You’ll use it 90% of the time at home and 10% for work. Since the primary use is personal, this purchase doesn’t qualify.

Example 4: You buy a used Volvo construction dozer for $60,000. Your business has already utilized the Section 179 deduction for the dozer. Because you chose Section 179, you cannot claim bonus depreciation for the same asset.

Example 5: You purchase a used Peterbilt heavy-duty truck for $110,000. During the same year, you also bought an International heavy-duty truck and decided against bonus depreciation for the International model. Given that both assets are similar and purchased simultaneously, they must be treated identically. Therefore, the Peterbilt truck won’t qualify for bonus depreciation.

How Does Bonus Depreciation Work With Section 179?

Both Section 179 and bonus depreciation aim to reduce your tax liability, but they operate differently. Both are IRS provisions governing how machinery purchases affect your taxes, though their rules evolve alongside legislative updates.

What distinguishes them? Section 179 allows taxpayers to deduct the cost of qualifying purchases as an expense rather than capitalizing the asset and depreciating it gradually. This distinction matters in tax accounting—long-lasting assets like a $300,000 Case IH tractor should be handled differently from consumable items like DEF fluid, which deplete rapidly.

Under standard IRS procedures without bonus depreciation and Section 179, long-lived assets are typically depreciated incrementally over their useful lives. For example, only a fraction of the $300,000 tractor cost could be deducted annually via MACRS depreciation. Section 179 and bonus depreciation expedite these deductions, enabling quicker tax write-offs. Receiving deductions earlier is advantageous because funds today can generate returns or interest over time.

In 2021, the similarity between Section 179 and bonus depreciation is heightened because the bonus depreciation coverage reaches 100%. Previously, when bonus depreciation capped at 50%, there were greater discrepancies for taxpayers.

You can combine Section 179 and bonus depreciation within the same year. Tax professionals usually recommend using the maximum allowable Section 179 amount first, followed by bonus depreciation for the leftover balance.

Key differences between Section 179 and bonus depreciation include:

• Section 179 treats the cost as an expense, whereas bonus depreciation capitalizes the asset and depreciates it.
• Section 179 offers a fixed dollar deduction (capped at $1.05 million in 2021), while bonus depreciation provides a fixed percentage of the asset’s cost (with no cap).
• Section 179 targets small and medium-sized businesses (it has a limit on total qualifying purchases), whereas bonus depreciation has no upper limit.
• Section 179 includes expenses related to improving and upgrading real estate, while bonus depreciation excludes such costs.
• Section 179 grants more flexibility in how you handle machinery for tax purposes (you can choose partial benefits in one year and deferred depreciation later), while bonus depreciation requires immediate full application to all similar assets.

Important Note

We created this article to help you understand bonus depreciation and its implications for machinery purchases. Please remember that we’re not tax experts or licensed to offer tax advice. Always consult a certified tax professional for personalized guidance. We cannot assume responsibility for your tax-related decisions.

Laws change, and interpretations evolve. Tax professionals stay informed about these developments to guide clients effectively.

Resources

IRS Form 4562 for depreciation
How a business owner secured a free truck

Explore Related Topics

#agriculture #transportation #material handling #construction #taxes