It is looking less and less likely that Congress is going to move to fix the depreciation issues related to Qualified Improvement Property (QIP) under the Tax Cuts and Jobs Act (TCJA) prior to the end of tax season on April 15th. However, this is far from the only confusing area of depreciation which preparers must pay attention to under the new law. The TCJA also significantly changed Section 179. Due to these changes, it is important to closely review how bonus depreciation, the Tangible Property Regulations and Section 179 interact to ensure that deductions are maximized.
Under the TCJA, Section 179 was expanded and strengthened. As part of the TCJA the 179 deduction was increased to $1 million with a dollar for dollar phase out starting at $2.5 million. This means a company that acquires $2 million in 179 eligible assets can write off the first $1 million, then depreciate the remainder of the assets. Additionally, under the TCJA and 179, an expansion was made to include HVAC systems, roofs, and Qualified Improvement Property (for non-residential property) when executed after the building is placed in service. This creates an opportunity for taxpayers.
For example, take a company that spends $3.5 million renovating their facility in 2018. The $3.5 million can be split out as follows:
• Roof: $500,000
• Exterior Walls/Windows/Doors: $500,000
• QIP (Interior renovations): $1 million
• Personal property: $1.5 million
Due to the changes under the TCJA, roof replacement, QIP and personal property are all 179 eligible. Totaling these assets shows $3 million in 179 assets. Due to the dollar for dollar phase out at $2.5 million, the taxpayer is limited to $500,000 in 179.
The taxpayer will want to take the $500,000 in 179 against either the roof or the QIP since neither of these assets are currently bonus eligible. This will allow the taxpayer to take $500,000 in 179, as well as $1.5 million in bonus against the personal property, for a total deduction of $2 million.
Let’s take the above example a step further. If we assume the roof is eligible for treatment as a repair under the Tangible Property Regulations, then our total 179 eligible assets drops to $2.5 million. This means the taxpayer can take 179 on the full $1 million in QIP and bonus out the personal property. In this scenario, the taxpayer gets a first-year deduction of $2.5 million and a repair deduction of $500,000.
However, let’s assume the roof is not a repair. If the taxpayer completes a cost segregation study on the QIP they may find that $500,000 of the $1 million is personal property. This would then lower the amount of QIP to $500,000 while increasing the amount of personal property eligible for bonus to $2 million. This will allow the taxpayer to take bonus on $2 million of personal property and take 179 on either the QIP or the roof for another $500,000. This provides a first-year deduction of $2.5 million.
As with many changes to the tax code, the TCJA added additional complexity. For many taxpayers this complexity will allow for more deductions. However, it is critical to review these expenditures closely to ensure that the deductions are maximized.