Depreciation changes for 2023

The Tax Cuts and Jobs Act of 2017 (TCJA) brought significant changes to tax and corporate laws. It benefited manufacturers, specifically, allowing for a 100% deduction of property such as machinery, equipment, and other fixed assets if the said property has a useful life of 20 years or less, and was purchased after Sept. 27, 2017.

However, the TCJA also amended IRC Section 168(k), phasing out this 100% bonus depreciation by Dec. 31, 2022. Unless further legislation is passed, the percentage deduction will decrease 20% each year, before being fully removed in 2027.

• 80% deduction for property placed in service from Dec. 31, 2022 to Jan. 1, 2024.
• 60% deduction for property placed in service from Dec. 31, 2023 to Jan. 1, 2025.
• 40% deduction for property placed in service from Dec. 31, 2024 to Jan. 1, 2026.
• 20% deduction for property placed in service from Dec. 31, 2025 to Jan. 1, 2027.
• 0% deduction for property placed in service after Jan. 1, 2027.

As a result, companies, especially those in manufacturing, may benefit from accelerating their purchase schedule while the bonus depreciation still exists. 

One alternative to the TCJA deduction is Section 179, which also allows for the full expensing of qualified property. However, in 2023, it is limited to a certain threshold ($1,160,000 in 2023) as well as a service cap of $2,890,000, limiting the types of qualifying expenses. Furthermore, it is limited to taxable income, meaning that the Section 179 deduction cannot create a loss. 

For the 2023 tax year, it might be advisable to take the 80% bonus depreciation deduction for qualifying assets, and then take Section 179 on the remaining balance that would theoretically allow a client to write off 100% of an asset. The combined depreciation strategy would allow for companies to fully expense assets.

It should be noted that bonus depreciation can create losses at the entity level, while Section 179 depreciation will not create a loss situation because the deduction is limited to taxable income. Careful planning must be taken into consideration for multiple business owners who own pass-through entities—such as an S Corporation or partnership—who are electing Section 179. For example, if a business owner owns two S corporations with 100% ownership in both entities, and elects the maximum Section 179 deduction without any income limitations, then the entity will pass down $2,320,000 ($1,160,000 + $1,160,000) of Section 179 to the individual level. The issue becomes when the taxpayer receives more than the maximum amount of Section 179 deduction allowable for the 2023 year. The excess above $1,160,000 for 2023 becomes “lost,” and unfortunately no excess Section 179 amount will carry forward to future years. 

In addition, different states will either conform to federal depreciation, or not conform to the bonus and Section 179 depreciation rules. It’s important to understand the state tax impact of depreciation changes along with the federal changes when planning for your clients’ tax liability.

When doing tax planning for clients, a best practice is to enter in depreciable assets throughout the year as opposed to after year end. In doing so, tax practitioners are able to proactively prepare depreciation reports as fixed assets are being entered into their client’s general ledger, and allows the practitioner to forecast what taxable income will look like for the client’s quarterly tax estimates.