Tired of dealing with those complex depreciation rules? Thanks
to recent tax law changes, here's how to avoid them completely
while benefiting from a lucrative small business tax break that
not only puts money in your pocket, but also makes the filing of
your income tax return much simpler.
What am I talking about? It's called the Section 179 deduction,
and if there's one tax law you need to understand, this is it.
Here's why:
The Section 179 deduction enables the Small Business Owner to
"expense" (i.e. deduct in the current year) up to $105,000 of
the cost of most business equipment, rather than use those
stingy depreciation rules that require you to write-off the cost
over five or more years.
What's so great about that?
Think about it like this: I've got a dollar and I'd like to give
it to you. You have two choices -- I give it to you now, or I
give it to you 5 years from now.
Which do you prefer?
Obviously, you'd rather have it now, right?
And why is that?
Because of what you learned way back in Finance 101: something
your banker calls "the time value of money."
I'll spare you a boring textbook definition. Instead, let's just
assume we agree on this simple point: Is a dollar worth more
today or 5 years from today?
It's worth more today.
And that's why the Section 179 deduction is so valuable.
Huh?
Let's use an example to bring all this financial theory into
reality.
You buy $5,000 worth of office equipment in 2005. Under normal
depreciation rules, you wouldn't get to take a deduction for
$5,000 in 2005. Instead, you'd write off the $5,000 over 6 years
-- part in 2005, part in 2006, etc.
If you're in the 35% tax bracket, you get your $1,750 in tax
savings over 6 years. Yawn. That's a long time!
You'd get your deduction, and the resulting tax savings, but
you'd have to wait 6 years to realize all the benefits.
Section 179 says that if you meet certain requirements, you can
deduct the full $5,000 in 2005. You reduce your taxes by $1,750
in Year 2005.
So let me repeat my rhetorical question: Uncle Sam has $1,750
he'd like to give you. When do you want it? All at once, or
spread out over 6 years?
That's the beauty of Section 179.
But you have to meet certain requirements to benefit from
Section 179. One requirement concerns the total amount of
equipment you can deduct rather than depreciate. In 2002, the
amount was $24,000. And for 2003, the amount was originally set
at $25,000.
Then Congress and the President passed a new tax bill in late
May 2003 that raised that amount to a whopping $100,000. And
since that $100,000 is adjusted for inflation each year, the
maximum Section 179 deduction amounts have been increasing:
Year 2004 -- $102,000 Year 2005 -- $105,000 Year 2006 -- $108,000
Never liked depreciation? Well, you can pretty much kiss it
good-bye now.
One final note: A few other requirements must be met to claim
the Section 179 deduction. Here's a brief, but not
comprehensive, overview:
1. Most personal property used in a trade or business can be
deducted via Section 179. Real property cannot. Typical examples
of personal property include: office equipment such as
computers, monitors, printers and scanners; office furniture;
machinery and tools. Real property means buildings and their
improvements.
2. The $100,000 amount (adjusted for inflation) can be used
through 2007. In 2008, unless new legislation is passed, the
amount goes back down to $25,000.
3. There are special rules regarding the application of Section
179 to the purchase of business vehicles. For example, the
special "SUV rule" that allowed 6,000 LB vehicles to be fully
deducted (up to the $100,000 amount) was recently changed to
$25,000, effective October 22, 2004.
4. Your total Section 179 deduction is limited to the business'
annual profit. In other words, you cannot use the Section 179 to
create or increase a loss.
This is known as the "taxable income limitation." For "C"
Corporations, this limitation is very cut and dried. But if your
business is an "S" Corporation, Partnership, LLC, or Sole
Proprietorship, it may not be as limiting as it seems. For these
non-"C" Corp businesses, the Section 179 deduction can be used
to offset both business and non-business income.
And if you're married filing jointly, the Section 179 deduction
can offset your spouse's income, including W-2 income.
Example: You start a new business in 2005 that ends up with a
loss for the year of $5,000 (before taking the Section 179
deduction). Your spouse has W-2 income of $60,000. Even though
your business is unprofitable, you can still take the full
Section 179 deduction of $5,000 (again, assuming your business
is an entity other than a "C" Corporation).
Be sure to consult with your tax professional to get the scoop
on all the Section 179 rules.
About the author:
Wayne M. Davies is author of 3 tax-slashing eBooks for small
business owners and the self-employed. For a free copy of
Wayne's 25-page report, "How To Instantly Double Your
Deductions" visit
http://www.YouSaveOnTaxes.com
