Both Tax Deductions and Asset Depreciation Can Benefit Your Business
The Tax Cuts and Jobs Act, effective January 1, 2018, changed the rules for business deductions versus depreciation of assets on your federal tax return. As a business owner, it is more important than ever to know whether to expense an asset you recently acquired or to capitalize it. You should consider several factors prior to making these tax decisions and consult a New Jersey tax attorney if you need assistance.
How Did TCJA Change Business Tax Deductions?
The TCJA relaxed federal tax regulations regarding depreciable assets. Under these new guidelines, businesses can immediately deduct all or part of new assets, such as vehicles or equipment, as long as their deductions for the year total less than $1 million, an amount that is twice as much as in previous years.
What Is the Advantage of Taking the Immediate Tax Benefit?
Rather than spreading out the cost of a depreciable asset over a number of years, under the revised TCJA, you can recover your expenditure in a lump sum deduction in the year you purchased the asset. That will reduce the income tax you owe, perhaps offsetting the cost of the item. An immediate tax benefit is also a hedge against inflation, which over the longer term could reduce the value of the tax benefit.
What Is the Main Disadvantage of Expensing?
The main disadvantage of expensing your big purchases for a same-year deduction is the way it affects your profit and loss statement. It will show the purchase as an expense instead of an asset.
If you expect that someone else will be looking at your books in the year ahead and it is important they reflect a healthy income, you might want to opt for a long-term tax benefit. This will keep the asset’s value on the ledger.
What Is the Main Advantage of Capitalization?
When you choose to depreciate an asset over a number of years, you are capitalizing the cost. When you choose to take an immediate deduction of the full purchase price, that expense shows up in the deficit column of your yearly profits, reducing your taxable income accordingly.
If you elect to capitalize the asset, its value remains on your books until the depreciation period is over. Your bottom line for the year looks better to investors, prospective partners, and lenders. This has a direct bearing on the current and future economic health of your enterprise.
What Is the Main Disadvantage of Capitalization?
The easiest way to get the IRS benefits your business is entitled to is to deduct an asset the same year you acquired it. In comparison, depreciation can be daunting and complex. Before you capitalize an asset, you must determine:
- The correct depreciation method to use
- The recovery period
- The depreciation rate for the recovery period
- Whether you wish to expense part of the asset before depreciating it
- If there is a first-year depreciation bonus
The IRS does provide a number of tables to help you clarify the depreciation process. However, if you are new to this type of deduction, you can benefit from some professional help. Otherwise, a simple error could lead to problems with the IRS.
Get Professional Help With Tax Planning and Filing Decisions
The decisions you make when completing your federal business tax return carry over to your state income tax return too. That’s why one of the smartest decisions you can make is getting the professional help you need to make the right financial choices. If you do business in the South Jersey and Greater Philadelphia region, get in touch with a New Jersey tax attorney at Dopkin Law Firm of Cherry Hill. Call us today at 215-519-4269 or contact us on our website for more information on how we can help you with your tax planning. We want to help you make the best choice for your business.