On December 16, 2014, the Senate voted to renew a collection of expired tax provisions commonly referred to as “tax extenders,” while the House approved the same bill earlier this month. As such, we expect the President to sign the full bill before Christmas. The Tax Increase Prevention Act of 2014 will provide for the reinstatement for one year several tax provisions in connection with tax depreciation under the Modified Accelerated Cost Recovery System (MACRS).
Most notably, the Tax Increase Prevention Act of 2014 will extend the 50% first-year bonus depreciation allowance for one year for qualifying property placed in service in the tax year through 2014. For anyone that has dealt with tax depreciation from both a federal and state tax perspective, bonus depreciation shouldn’t be a foreign issue. In fact, bonus depreciation has been in play every year since September 11, 2001, with the exception of a three-year hiatus for the tax periods from 2005 through 2007.
The special depreciation allowance under Section 168(k) generally provides the following four requirements for property to be eligible for 50% bonus depreciation:
- The depreciable property must be a certain type [i.e., qualified property—tangible property under MACRS with a recovery period of 20 years or less (including off-the-shelf software) and qualified leasehold improvement property];
- The original use of the depreciable property must commence with the taxpayer after the relevant bonus depreciation date (i.e., bonus depreciation is available only for new equipment);
- The depreciable property must be acquired by the taxpayer before January 1, 2015; and
- The depreciable property must be placed in service before January 1, 2015.
The most pressing issue for taxpayers at this time is placing their new acquisitions into service before January 1, 2015. Federal tax rules define “placed in service” as property that is ready and available for its intended use. For example, if a taxpayer builds out office space that is ready and available for use before January 1, 2015; however, the space isn’t occupied until February of 2015, the leasehold improvements would still qualify for bonus depreciation, as well as qualified leasehold improvement property as noted below, if all the other requirements are met.
In addition to the bonus depreciation changes, the Tax Increase Prevention Act of 2014 will reinstate the 15-year recovery period for qualified leasehold improvements, including restaurant and retail improvement property. Generally, most lessees’ improvements will qualify as qualified leasehold improvement property; however, the biggest hurdle for qualified leasehold improvement property, as well as bonus depreciation, is that the improvement needs to be placed in service more than three years after the date the building was first placed in service. For example, if the taxpayer leased and built out space in a building that was only two years old, the leasehold improvements would neither qualify for bonus depreciation nor the 15-year recovery period and would be deemed as leasehold improvement property (not qualified leasehold improvement property) and thus depreciated over a 39-year recovery period without qualifying for bonus depreciation.
Further, the Tax Increase Prevention Act of 2014 will extend the Energy Efficient Commercial Buildings Deduction through December 31, 2014. Section 179D offers a tax deduction (not to be confused with the energy tax credits for alternative energy sources—solar, geothermal, wind, etc.) of up to $1.80/sf to those investing in energy-efficient improvements to reduce energy use within the building envelope (e.g., insulation, doors, windows, etc.), heating ventilation and air conditioning, and energy-efficient lighting. The building’s energy systems must be a specified percentage more efficient than the American Society for Heating, Refrigerating, and Air-Conditioning Engineers (ASHRAE) 2001 standards to qualify. Since the deduction is totally predicated on square footage, taxpayers with a significant amount of square footage (i.e., 50,000 square feet or more) would be prime candidates. There is also a provision in Section 179D that allows designers of government buildings (which includes architects and engineers) to take the deduction for any federal, state, or municipal property they designed.
The Tax Increase Prevention Act of 2014 also increases the deduction and investment limits under Code Section 179. Generally, Section 179 permits a business that satisfies limitations on annual investment to elect to expense the cost of qualifying property rather than depreciate the cost over time. For the tax year beginning in 2014, taxpayers are permitted to expense up to $500,000 of the cost of qualifying property under Section 179, reduced (dollar by dollar) by the amount by which the qualified investment exceeds $2,000,000. Qualifying property includes new and used equipment, as well as off-the-shelf software that are used in the active conduct of a trade or business.
The one-year extension for incentives to invest in business property will be retroactive to purchases from January 1, 2014 and will expire once again for purchases made in the 2015 tax year.
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