Bonus Depreciation

Definition of "Bonus Depreciation"

Written by

Jason Millard

The Millard Team @ The Boulevard Company

The bonus depreciation definition refers to a tax incentive that allows a business to accelerate the depreciation deduction in the year when the asset is purchased and placed into use. The term is commonly used in accounting, and the terms and conditions are subject to change, so make sure you check with the current tax law when interested in the subject.

The last changes to the bonus depreciation were issued during the second half of September 2020, and a business that wants to claim a bonus deduction should use IRS Form 4562. Changes to bonus depreciation incentives now allow businesses to deduct up to 100% of the asset’s purchase cost in the year when it was purchased and placed in use. 

How Bonus Depreciation works

If you are already familiar with the term depreciation, you know that it’s a process that allows businesses to depreciate the asset’s cost over the asset’s useful life. 

In 2017, some changes were made to the Tax Cuts and Jobs Act (TCJA) that affected bonus depreciation rules, but the same act was changed again in 2020. As mentioned before, changes can be implemented at any given time. Bonus depreciation differs in that the depreciation is not extended over the useful life of the asset but is deducted in the year the asset is purchased and placed into use. As an example, a company that has a corporate tax rate of 21%, purchasing an eligible asset for $100,000, the allowable bonus depreciation of $100,000 would result in a tax saving of $21,000 in the year the asset is purchased and placed into use.

The Tax Cuts and Jobs Act also mentions how bonus depreciation will continue to act for the following years. Currently, the rules apply for any eligible asset purchased and placed in service between September 27th, 2017, and January 1st, 2023. During that period, the bonus depreciation rate will be 100% of the asset’s value. By 2023 the bonus depreciation rate will drop by 20% every year. If the rules are not changed then in 2023, the bonus depreciation rate will be 80%, 2024 it will be 60%, 2025 it will be 40%, 2026 it will be 20% of the assets’ value, and by 2028 there will be no further bonus depreciation.

The reason that bonus depreciation was introduced was to incentivize businesses to invest in fixed assets and to help grow the economy.

What Qualifies for Bonus Depreciation?

While most assets can be depreciated through bonus depreciation, the two exceptions to the rule are buildings and tangible assets. The IRS allows any tangible asset with a useful life of up to 20 years to apply for bonus depreciation. In this category, we may find most of the company’s assets around the office and in use for business purposes known as tangible assets. Bonus depreciation can be applied to qualified business property which includes property that has a useful life of 20 years or less, for example, machinery, computers, fax machines, vehicles that weigh more than 6000lbs, furniture, and equipment used in the business

Bonus depreciation cannot be claimed on buildings or intangible assets, such as goodwill, franchise fees, or patents acquired from third parties but can be claimed on any improvement to the interior portion of a non-residential building but excluding elevators, escalators, HVAC, fire suppression or changes to the structural framework of the building.

 Assets purchased from related parties do not qualify for bonus depreciation. Vehicles that weigh less than 6,000lbs do not qualify for bonus depreciation. You can deduct, however, the mileage rate for every mile driven for your business. The 2020 IRS deductible mileage rate is $0.575 for every mile.