Tax Law Allows for Greater Write-Offs
Big Train Inc. is building up steam, thanks to the tax-cut package recently signed by President Bush.
The new law, rich with tax breaks for parents and investors, also provides a significant boost in federal write-offs for companies that buy equipment ranging from computers to cars over the next three years.
Those potential tax savings helped persuade the owners of Foothill Ranch-based Big Train to invest in the costly machinery they needed to begin producing the company’s blended coffees and chai teas instead of relying on outside suppliers.
“Our company has been growing so rapidly that we needed to invest in some manufacturing equipment anyway,” Big Train President Paul Roy said. “But the tax relief provided in this law makes that decision much easier.”
Roy’s company probably will spend hundreds of thousands of dollars over the next three years to take advantage of a tax break created by the new law. Other businesses are likely to do the same, tax experts said.
However, they should proceed carefully. The law offers generous breaks, but there are limitations that could derail the plans of unwary executives.
The law quadruples so-called Section 179 expensing, which allows companies to write off up to 100% of the cost of “qualifying property” in the year it is put into service. Previously, the maximum that companies could expense under this rule in any one year was $25,000. Companies can now write off as much as $100,000 a year in purchases, thus lowering their taxable income by the same amount.
“Qualifying property” includes most business furniture and equipment, including computers and machinery. And it doesn’t matter whether the equipment was purchased new or used, said Mark Luscombe, principal tax analyst with CCH Inc., a Riverwoods, Ill.-based publisher.
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Breaks for Large SUVs
Some larger sport utility vehicles, if purchased for business use, also qualify for the break. That excited opposition among anti-SUV forces during the debate over the tax bill.
Normally, expensive automobiles would fall under strict luxury tax rules, but vehicles weighing more than 6,000 pounds -- as many of the larger SUVs do -- are exempt from these restrictions. That means a new Cadillac Escalade, purchased exclusively for business use, could be completely written off in the year purchased.
There is one caveat: The ability to expense equipment in the year purchased phases out for businesses that spend more than $400,000 on qualifying property in any given year. By the time a company purchases $500,000 in equipment, it loses the $100,000 Section 179 deduction completely, said Philip J. Holthouse, partner in the Santa Monica tax law and accounting firm of Holthouse Carlin & Van Trigt.
That phaseout is designed to restrict the deduction to small businesses, which presumably are more cash-strapped than big corporations, tax experts said.
That doesn’t mean the company can’t write off those purchases. It just means the company will need to spread the deductions over a longer period.
Normally, the cost of new equipment is written off, or in tax-speak “depreciated,” over periods ranging from three to 39 years. These write-offs reduce the company’s taxable income, and thus, the company’s federal income tax obligation.
Depreciation write-offs are not limited to any set dollar amount. Technically, the new law doesn’t change how much can be written off, it simply speeds the process, providing the write-offs in an accelerated fashion.
The new law also created an accelerated depreciation schedule for some types of property that normally would be written off using standard depreciation tables. For property purchased after May 5, 2003, businesses can choose to claim 50% “bonus” depreciation, which is added on to the normal depreciation write-off for that particular property.
For example, if the property normally would be written off over a five-year period, the taxpayer could write off 60% of it in the first year -- the 50% bonus, plus 20% of the remaining amount.
This 50% bonus depreciation applies to new property purchased after May 5, Luscombe noted. If the property was purchased earlier in the year, it qualifies for a 30% bonus depreciation rule contained in the 2001 tax law.
Businesses that qualify for either the 30% or the 50% bonus can choose the depreciation schedule that is most advantageous to them, Luscombe said.
“If your crystal ball is good enough, you might elect to use a slower depreciation schedule to take advantage of the write-offs in a later year when the company may be more profitable and taxed at a higher rate,” he said. “It becomes a planning issue.”
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Planning the Spending
The other big planning issue: Like much of the 2003 tax law, both the bonus depreciation provision and the new expensing rule are temporary, Holthouse said. If these provisions aren’t extended, the $100,000 expensing rule will expire Dec. 31, 2005, and the 50% bonus depreciation will expire Dec. 31, 2004. Any property purchased after that would be subject to the far less generous expensing and depreciation rules that were in effect before last month.
That encourages small business owners to speed up planned purchases, Roy said.
“It makes it extremely attractive for us to ask if we need new trucks or new equipment each year that this is available,” Roy said. “Knowing that we can write off 50% of the cost of some equipment and expense up to $100,000 takes a little bit of the stress out of our buying decisions.”
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Times staff writer Kathy M. Kristof, author of “Investing 101” and “Taming the Tuition Tiger,” welcomes your comments and suggestions but regrets that she cannot respond individually to letters or phone calls. Write to Personal Finance, Business Section, Los Angeles Times, 202 W. 1st St., Los Angeles, CA 90012, or e-mail kathy.kristof@ latimes.com.
