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Bonus Depreciation is a legal tactic aimed at speeding up the depreciation process for assets with a useful life of 20 years or fewer. Businesses that use cost segregation may claim 100% depreciation in the first year using this technique.
Cost segregation is an IRS-endorsed technique for depreciating commercial real estate, allowing property owners to lower their federal income tax obligations. It stands as the most accurate and efficient method for depreciating commercial properties purchased or constructed after 1986.
Through cost segregation, assets are analyzed, and specific improvements, such as Tangible Personal Property or Land Improvements, are classified and depreciated over shorter periods of 5, 7, or 15 years, instead of the standard 39 years for commercial properties or 27.5 years for residential buildings. These identified assets are depreciated using either a 200% declining balance method for 5- and 7-year assets, or a 150% declining balance method for 15-year assets, further boosting depreciation. You may increase your business’ cash flow and reduce your tax obligation with this accelerated depreciation.
Bonus Depreciation can be applied when an asset is purchased or constructed, as well as for assets that have been owned for several years. U.S. tax law provides an opportunity for owners to recover depreciation that was previously under-reported through a “Look-Back” study. This allows for the deduction of “catch-up” depreciation on the current year’s tax return, without the need to file amended returns for previous years.
This process involves submitting Form 3115 Change in Accounting Method, along with a 481(a) adjustment.
“Accordingly, a taxpayer could request “automatic consent” for a change in accounting method through the filing of a Form 3115 with a timely filed return (including extensions), and deduct the “catch-up” depreciation in the year of change with a 481(a) adjustment.”
The Tax Cuts and Jobs Act of 2017 (TCJA) provided 100% bonus depreciation for qualified property built between September 27, 2017, and December 31, 2022. However, this provision is not permanent. Below is the Phase-out schedule to illustrate how depreciation deduction decreases over time:
Bonus depreciation started phasing out in 2023 with a 20% reduction annually until it reaches 0% in 2027.
The current political administration has pledged to restore TCJA full bonus depreciation. Currently the administration is working to help commercial and business property owners to go back to deducting 100% of the depreciation in the first year, while using cost segregation.