Section 179: Opportunities and Pitfalls

Congress may come to the rescue again, but it appears for now that half-million dollar Section 179 deductions and 100% bonus depreciation deductions will become a thing of the past. But your business can still take advantage of the tax rules in effect for 2012.

Background: Under Section 179 of the Internal Revenue Code, a taxpayer can elect to currently deduct, or “expense,” the cost of qualified business assets purchased and placed in service during the year. After the maximum allowance was quadrupled from $25,000 to $100,000 by the 2003 tax act, subsequent inflation adjustments pushed the limit even higher. Under the Small Business Jobs Act of 2010, the maximum deduction was increased from $250,000 to $500,000 for 2010 and 2011.

For 2012, the maximum is scheduled to drop to $125,000 (indexed to $139,000), as authorized by the 2010 Tax Relief Act. After 2012, the allowance is scheduled to revert to $25,000, unless Congress enacts further legislation.

In addition, Congress also authorized bonus depreciation deductions for any remaining cost of qualified property. The 50% bonus depreciation deduction is generally scheduled to expire after 2012.

Note: If the amount expensed under Section 179 does not exceed the cost of the equipment—or you choose otherwise—you can still write off the balance under the regular depreciation rules.

The Section 179 election is wide open to most business taxpayers, but there are two significant rules that may limit the amount of your annual deductions.

1. Annual business income limit: The expensing deduction cannot exceed the net taxable income from all the businesses you actively operate. For this purpose, net income is figured without regard to expensing, the 50% deduction for self-employment tax, and any net operating loss carryforwards or carrybacks.
2. Annual dollar cap: If the total cost of qualified property placed in service during the year exceeds an annual threshold (indexed for inflation), the maximum expensing allowance is reduced on a dollar-for-dollar basis. Currently, the threshold for 2012 is set at $500,000 (indexed to $560,000). After 2012, the threshold is scheduled to revert to $200,000, unless Congress takes further action.

For example, say your business buys $600,000 of equipment in 2012. The Section 179 allowance is reduced to $99,000 ($139,000 minus the $40,000 excess over the $560,000 threshold). While this limitation will not affect many small businesses, you still need to be aware of it.

Taxes are an important factor when you consider equipment purchases. Make sure you are aware of how the tax law limits may affect your Section 179 deductions.