BELIEVE IT OR NOT, we are already more than halfway through 2009. For small-business owners, that means the clock is ticking on some favorable tax incentives. If your business is healthy enough to buy equipment or software, the federal income tax perks for doing so are better than ever. Here’s what you need to think about before the year is over.
Supersized Section 179 Deduction Privilege Has Short Shelf Life
For tax years beginning in 2009, many small businesses can potentially deduct up to $250,000 of purchased (not leased) equipment and software as soon as these items are put to work. Both new and used assets are eligible. This valuable break is called the Section 179 depreciation deduction privilege, and it’s an exception to the general rule that you must depreciate equipment and software costs over several years.
But to take advantage of this supersized $250,000 allowance, you’ll have to act fast. The allowance will fall back to only about $135,000 for tax years beginning in 2010 (the exact number depends on an inflation adjustment we don’t yet know). So if your business uses the calendar year for tax purposes, you only have until Dec. 31 to take advantage of the generous $250,000 allowance (unless our beloved Congress extends it, which could happen). While the Section 179 deduction can be a very sweet deal, there are a few things you need to know before charging out to buy a bunch of equipment and software in hopes of lowering your tax bill.
If a Business Is a C Corporation
A business operating as a regular C corporation cannot claim a Section 179 deduction that would create or increase a tax loss for the year. In other words, the deduction is limited to the amount of corporate taxable income before the deduction. So if your outfit is having a marginal or lousy year, the allowable Section 179 write-off might be little or nothing. On the other hand, if your company is having a decent year (despite the bad economy), buying enough stuff to claim the maximum $250,000 deduction would reduce your company’s taxable income by that amount and save it plenty on taxes. (Beware: some states don’t permit the full $250,000 federal allowance for state income tax purposes.)
If a Business Is a Sole Proprietorship, Partnership, LLC, or S Corporation
In this scenario, business deductions are passed through to you and written off on your personal Form 1040. However, the Section 179 deduction rules are tricky because various limitations can apply at the partnership, LLC, and S corporation level and at your personal level, too. For example if you’re an S corporation shareholder, you can potentially claim a Section 179 deduction on your Form 1040 for your ownership share of qualifying assets acquired by the company. However, you can’t claim over $250,000 in Section 179 deductions on your Form 1040 no matter how many businesses you’re involved with. Also, you can’t claim Section 179 deductions that would create or increase an overall business tax loss on your Form 1040. For this purpose, any salary you earn counts as business income; ditto for salary earned by your spouse if you file jointly. So be sure to check with your tax advisor to find out how the Section 179 deduction rules will play out in your specific situation before making big purchases.
Temporary Bonus Depreciation Break Is Worth More in the Weak Economy
Another big tax break is available for most new (not used) business equipment and software and some leasehold improvements that are purchased (not leased) and put into use by Dec. 31, 2009. For these assets, your business can generally claim first-year bonus depreciation deductions equal to 50% of the cost that’s left over after subtracting allowable Section 179 deductions (if any).
One important point: Unlike Section 179 deductions, bonus depreciation write-offs can be used to create or increase an overall business tax loss for the year — which can, in turn, create or increase a net operating loss (NOL) for the year.
If you have a personal NOL for your 2009 tax year, you can generally carry it back to 2007 and 2008 and recover some or all of the federal income taxes you paid in those years. Or you can choose to carry the entire NOL forward to the next 20 years (starting with 2010) to offset income earned in those years that might otherwise be taxed at higher rates (possibly much higher rates).
In most cases, essentially the same rules apply if you have a C corporation business that creates or increases a corporate NOL by purchasing assets that are eligible for bonus depreciation deductions. Even better, if your non-calendar year C corporation runs up an NOL in the current tax year that began in 2008 and has not yet ended (for example, a tax year that will end on Oct. 31, 2009), that current-year NOL can probably be carried back for as many as five years. Your company can then recover some taxes paid in those years and use the money to help pay for the very bonus depreciation assets that contributed to the current-year NOL in the first place. Just keep in mind that while Congress could decide to extend the Dec. 31 deadline for taking advantage of bonus depreciation, don’t bet the house on it.
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