While most of the good news about the Jobs and Growth Tax Relief Reconciliation Act of 2003 applies to individuals, there are some beneficial provisions for the small-business owner. Let's take a look at the highlights.
Increase in Section 179 allowance
The very best part of the new law for the small-business owner is the enormous increase in the Section 179 provisions for expensing furniture, fixtures, and equipment that you purchase.
Normally, these types of assets must be depreciated over a number of years (generally five or seven years), so your tax deduction takes a while to be fully realized. But under the new provisions in the law for Section 179 expensing (Internal Revenue Code Section 179 allows this expensing -- hence the name), you can now immediately deduct 100% of the cost of most new and used personal property (not including real estate) in the year that you place them into service.
Under the old rules, the Section 179 limit was $25,000 in qualifying assets. Under the new law for tax years 2003, 2004, and 2005, that amount has been increased to $100,000. Most businesses can expense all of the assets in the year of purchase. Owners will no longer have to mess with depreciation schedules.
There is a taxable income limitation (you can only take the expense up to the amount of your taxable income), and another limitation if you add more than $400,000 of total purchases in the same tax year. But these limitations are a small price to pay for the increase in the Section 179 expensing provisions.
The new law also now makes computer software eligible for the Section 179 expense deduction. Under the prior law, you generally had to depreciate computer software costs over a 36-month period.
And yes, there are sunset provisions for the new Section 179 expensing deduction. These changes will cease to exist after the 2005 tax year unless Congress acts to make the changes permanent. If that doesn't happen, the Section 179 expensing deduction will fall back to the former rules ($25,000 of assets allowable for expensing).
Larger bonus depreciation
Under the old tax law, there was a special depreciation deduction of 30% of the cost of new (but not used) fixtures and equipment placed into service. The new law has made this bonus depreciation even bigger and better.
If you purchase more assets than you can expense in one year, and are forced to depreciate the balance of those assets, you'll be allowed to deduct a very generous 50% of the cost in the form of bonus depreciation. This applies to assets purchased after May 5, 2003, and before 2005. These new provisions will disappear after 2004 unless Congress makes them permanent.
If you use your car for business purposes, you know of the unfavorable depreciation rules relative to business autos. But the larger bonus depreciation rules will apply here also.
Under the old rules, the maximum first-year depreciation expense for a new (but not used) vehicle was just $7,660. But under the new 50% bonus depreciation rules, you can now deduct up to $10,710 in first-year depreciation for new vehicles purchased after May 5, 2003. (Remember that business autos don't qualify under the Section 179 expensing rules, so don't plan on taking a Section 179 expense deduction for the brand-new Mercedes that you're placing into business use.)
Sometimes bigger is better. In an odd quirk in both the old and new laws, large business vehicles, such as sport utility vehicles, that weigh more than 6,000 pounds aren't considered a luxury auto. As such, they don't apply for the first-year depreciation rules noted above for luxury autos (maximum $10,710 in regular and bonus depreciation). If your business vehicle exceeds the 6,000-pound limit, you can bypass the restrictive rules relative to luxury autos and move directly to the Section 179 expensing rules -- which allow for a first-year deduction of up to $100,000.
So consider Jack, who buys that $50,000 Lexus and uses it 100% for business. His first-year depreciation would amount to $10,710 since this vehicle is less than 6,000 pounds and is therefore subject to the luxury auto rules. The balance of the cost of the vehicle will be depreciated over a five-year (and perhaps longer) period.
But Jill, who buys that tricked-out Hummer for $100,000 and uses it 100% for business, will be able to use Section 179 to expense all $100,000 of that baby, since it weighs more than 6,000 ponds.
Make any sense to you? If tax policy is little more than ways to encourage (or discourage) certain types of investments, it sounds like Uncle Sam wants every business owner in a gas hog. How you spend your money is up to you, but this type of tax policy just leaves me scratching my head.
But regardless of the business assets you purchase, the new law will help you greatly reduce your taxable income and, thus, your associated income taxes.
Roy Lewis lives in a trailer down by the river and is a motivational speaker when not dealing with tax issues, and he understands that The Motley Fool is all about investors writing for investors. You can take a look at the stocks he owns as long as you promise not to ask him which stock to buy. He'll be glad to help you compute your gain or loss when you finally sell a stock, though.