November 21, 2003

 

Specialists Reviews Income Tax Depreciation Changes for Agricultural Producers

"As the tax year draws to a close, agricultural producers need to be aware of a number of changes in tax depreciation regulations." says Ron Haugen North Dakota State University Extension Service economist.

The Jobs and Growth Tax Relief Reconciliation Act of 2003 passed by Congress had two major changes regarding depreciation. The first is increase in the bonus depreciation amount and the second is an increase in the 179 election to expense deduction.

Bonus depreciation: Bonus depreciation has increased from 30 percent to 50 percent. Bonus depreciation is for new purchases only with a recovery period of 20 years of less. For purchases that do not involve a trade-in, the total purchase price is the tax basis to be depreciated. Purchases that involve a trade-in have a tax basis for depreciation determined by adding the cash portion of the purchase price plus the remaining un-depreciated basis in the property traded in.

"If you do not wish to claim the bonus depreciation, you must make this election by attaching a statement to your tax return indicating you elect not to claim the allowance," Haugen says. If you fail to make an election not to claim the bonus deprecation, you will lose the opportunity to deduct that amount. Property acquired after May 5, 2003, qualifies for the 50 percent bonus, property acquired before May 6, 2003 qualifies for a 30 percent bonus. Bonus depreciation is in effect for property acquired before Jan. 1, 2005.

Section 179 Deduction: Under Section 179 of the Internal Revenue Code, you can choose to recover all or a part of the cost of certain qualifying property, up to a limit, by deducting it in the year you place the property in service.

The section 179 election-to-expense method of depreciation annual allowance, which was scheduled to be $25,000 for 2003, has been increased to $100,000 for tax years 2003, 2004 and 2005. Thereafter, the limit returns to $25,000 unless there is further legislation to change the amount.

The phase-out for eligible property is increased from $200,000 to $400,000 for the same tax years. The phase-out applies, dollar for dollar, to qualifying property placed in service each year above the phase-out amount. For example, if you purchased $450,000 of seven-year property in 2003, your eligibility for Section 179 Deduction would be limited to $50,000. This deduction applies to new and used qualifying property. The dollar limit ($100,000) and the phase-out threshold amount ($400,000) will be adjusted for inflation for calender years 2004 and 2005. The dollar limit will be adjusted in $1,000 increments and the phase-out amount will be adjusted in $10,000 increments.

The Section 179 expense deduction applies to machinery, equipment, breeding livestock, grain bins, agricultural fences and single purpose livestock or greenhouse structures. If you buy qualifying property with cash and a trade-in, its cost for purposes of the Section 179 deduction includes only the cash you paid.

Don’t squander your depreciation. "You may be able to eliminate a tax bill this year but it may not be the best management decision in the long run. The new legislation impacts the timing of the deduction, not the amount of the deduction. The total amount of eligible depreciation remains the same," says Dwight Aakre, NDSU Extension farm management specialist.

If your net earnings from self-employment is above $87,000, that portion above this level is not subject to the 12.4 percent social security tax. Increasing first year depreciation when your income is above this level may yield less tax savings than if the extra depreciation were saved for future years. This would depend on projected income in the future relative to this year.

If you answer yes to both of the next questions, you will want to be cautious about accelerating deductions.

An example: A new combine is purchased in July, 2003, for $200,000 with no trade-in. The objective is to maximize first-year deductions. The cost basis would be $200,000. The maximum 179 expense deduction would be $100,000. The remaining basis would be $100,000. The first-year 50-percent bonus depreciation would be $50,000. The balance to be depreciated would be $50,000. The regular first-year depreciation of a 150 percent declining balance, 7-year recovery, half-year convention (10.71%) would be $5,355. The total depreciation for 2003 would be $155,355. The depreciation for years 2004 to 2010 would be $44,645 for a lifetime depreciation of $200,000.

Any questions should be addressed to your tax professional or the Internal Revenue Service at (800) 829- 1040. Forms and publications my be ordered by calling (800) 829-3676.

###

Source: Ron Haugen, (701) 231-8103, rhaugen@ndsuext.nodak.edu
Editor: Tom Jirik, (701) 231-9629, tjirik@ndsuext.nodak.edu

Click here for a printable PDF version of this graphic. (7 Kb b&w table)
Click here for a printable EPS version of this graphic. (116 Kb b&w table)

Graphic

Depreciation on a New Combine
--------------------------------------------------------------
Objective: Maximize first year deductions

A. Cost basis                                       $ 200,000
B. Section 179 deduction                            $ 100,000
C. Remaining basis                                  $ 100,000
D. Bonus depreciation (50% X C)                      $ 50,000
E. Balance to be depreciated (7 years)               $ 50,000
F. 150% DB -- first-year depreciation (10.71% X E)    $ 5,355
  ------------------------------------------------------------
G. Total depreciation for 2003 tax year (B+D+F)     $ 155,355
H. Depreciation in 2004 (19.13% X E)                  $ 9,565
I. Depreciation in 2005 (15.03% X E)                  $ 7,515
J. Depreciation in 2006 (12.25% X E)                  $ 6,125
K. Depreciation in 2007 (12.25% X E)                  $ 6,125
L. Depreciation in 2008 (12.25% X E)                  $ 6,125
M. Depreciation in 2009 (12.25% X E)                  $ 6,125
N. Depreciation in 2010 (12.25% X E)                  $ 3,065
  ------------------------------------------------------------
O. Total lifetime depreciation                      $ 200,000
--------------------------------------------------------------
--------------------------------------------------------------