The shackles are off. The expanded Section 179 deduction and first-year bonus depreciation deductions are restored, with certain modifications, retroactive to the beginning of 2015. You can combine these two tax breaks with your company’s regular depreciation for a generous write-off of business assets.

The Protecting Americans from Tax Hikes- PATH Act which was signed into law on December 18, 2015, allows your business recover the cost of qualified business assets placed in service during the tax year within generous limits. These are the three main types of write-offs now available.

1. Section 179 deduction. Your business can expense the cost of new or used business property up to the maximum threshold for the tax year (see the article in the box below). The expanded limits provide a near-instant tax break for most small and midsize manufacturers. But the property must be placed into service during the year, not just purchased by year end. The PATH Act retained and made permanent the 2014 maximum $500,000 allowance for qualified property. This limit will be indexed for inflation beginning in 2016.

2. Bonus depreciation. The PATH Act restores the 50% first-year bonus depreciation retroactive to the beginning of 2015. It also extends the tax break for several years, along with a few technical modifications, under this schedule:

Bonus depreciation applies to only new assets, not used ones. The bonus depreciation program is set to expire in 2019, unless Congress reinstates it.

3. Regular depreciation. For federal tax purposes, depreciation deductions for business assets placed in service are typically calculated under the Modified Accelerated Cost Recovery System (MACRS). That method uses a graduated percentage based on the useful life of the property that lets you write off the cost earlier than the straightline method. Most types of business equipment are considered to have a seven-year useful life. Computers are classified as five-year property.

MACRS treats property placed in service at any point during the year as being placed in service on July 1 under a “midyear convention.” This allows your business to benefit from a half-year’s deduction even on property placed in service late in the year.

Important note. Deductions may be reduced if more than 40% of the cost of the property (excluding real estate) is placed in service in the final quarter.

Three PATH Act Breaks in Action

This is how you can combine the three tax breaks:

1. Claim the Section 179 allowance,
2. Take first-year bonus depreciation on any purchases that haven’t been written off, and
3. Depreciate the remainder using traditional MACRS tables.

For example, an auto parts manufacturer placed $1 million of new machinery in service in 2015. The machinery has a seven-year useful life. Assuming the company didn’t make any other qualified purchases, it can maximize the combined deductions in 2015:

Section 179 deduction. It would first claim an immediate Section179 deduction of $500,000, or half of the cost, leaving a balance of $500,000.

Bonus depreciation. Then, it would take a bonus depreciation deduction equal to 50% of the remaining balance, or $250,000.

MACRS deduction. Finally, using the table for seven-year property, it could write off 14.29% of the remaining $250,000 cost of the property, or $35,725.

The total deduction for all three tax breaks is $785,725. Only $214,275 of the $1 million cost remains to be depreciated over the next six years.

Also, note that the MACRS percentage for seven-year property jumps to 24.9% of the cost in the second year. In the example provided, the company would be able to deduct another $62,250 in the second year. In other words, you can essentially depreciate almost 40% of the remaining cost (14.29% plus 24.9%) in the first two years.

Two Key Limits under Section 179

While the PATH Act permanently preserves the generous $500,000 Section 179 allowance, it encompasses two other important provisions:

Income limit. The Section 179 deduction can’t exceed your net taxable income from business activities. For example, if your business generates $400,000 a year in net taxable income and it places $450,000 of business property in service, the deduction is limited to $400,000. Bonus depreciation can be used to reduce your taxable income below zero, however.

Spending threshold. If the cost of assets exceeds an annual threshold, the maximum Section 179 deduction is reduced on a dollar-for-dollar basis. This threshold was moved in lockstep with the allowance, but now the PATH Act retains a $2 million limit, retroactive to 2015 (subject to indexing starting in 2016). If you placed in service $2.1 million of assets last year, for example, the Section 179 deduction is reduced to $400,000. The bonus depreciation program isn’t subject to a spending limit, however.

Professional Advice

Factor these enhanced tax breaks into your plans for purchasing equipment and you likely can substantially reduce your company’s tax liability. Contact your Cornwell Jackson tax adviser for more details on these tax-saving opportunities, including any rules and restrictions.