How to Use Bonus Depreciation as a Tax Strategy

January 22, 2024

As you continue to grow a more profitable childcare business, you will want to explore the various tax incentives available to you as a business owner. In the following guide, we cover everything you need to know about a common tax strategy for small businesses: bonus depreciation. Keep reading to learn more.

What Is Bonus Depreciation?

Bonus depreciation is a tax incentive that allows business owners to deduct a large percentage of the cost of a qualified asset for the tax year in which it was purchased, while depreciating the remaining cost over a fixed schedule of several years. Bonus depreciation is advantageous to businesses because it provides an opportunity for a large tax write-off upon the purchase of an eligible asset, thereby reducing the business’s taxable income in that tax year. Here’s what you need to know about bonus depreciation:

Initially, bonus depreciation was created as a tax incentive by Congress through the Job Creation and Worker Assistance Act of 2002 after the terrorist attacks of 9/11 to encourage small businesses to invest and stimulate the economy. Since then, the Tax Cuts and Jobs Act (TCJA) of 2017 made significant changes to the rules for bonus depreciation. Notably, the TCJA enacted 100% bonus depreciation from the period of time from September 27, 2017 through December 31, 2022 with a scheduled phase-out on the following timeline (unless the law changes):

2022 – 100%
2023 – 80%
2024 – 60%
2025 – 40%
2026 – 20%
2027 – 0%

Which Assets Qualify for Bonus Depreciation?

Only certain business assets are eligible for bonus depreciation. Qualifying property must have a maximum useful life of 20 years and can be used for either personal use or business use. The following are considered qualifying assets:

  • Modified Accelerated Cost Recovery System (MACRS) Property such as office furniture or computer equipment.
  • Depreciable Computer Software
  • Qualified Leasehold Improvement Property, including any improvement to the interior of a commercial (non-residential) building
  • Vacation Property if used as a short-term rental meeting the requirements set forth for a Qualified Leasehold Improvement Property
  • Residential Real Estate if the taxpayer conducts a cost segregation study
  • Vehicles
  • Used Equipment (must not have been used by the taxpayer prior to purchase)

Additional assets may qualify for bonus depreciation, and the requirements for each eligible asset must be met in full, so we always recommend working with a qualified tax professional who understands the rules for bonus depreciation.

How to Report Bonus Depreciation

In order to report bonus depreciation on your federal tax return, you would need to file Form 4562, Depreciation and Amortization (Including Information on Listed Property). The same form is used to report other types of depreciation, including Section 179 expensing. Using Form 4562, you will need to calculate bonus depreciation:

  1. Bonus Depreciation Rate X Cost of Qualified Business Asset = Amount of Bonus Depreciation
  2. Cost of Qualified Business Asset – Amount of Bonus Depreciation = Depreciated Value of the Business Asset

Here’s an example:

  1. 20% (Bonus Depreciation Rate) multiplied by $1,000,000 (Cost of Qualified Business Asset) = $200,000 (Amount of Bonus Depreciation)
  2. $1,000,000 (Cost of Qualified Business Asset) - $200,000 (Amount of Bonus Depreciation) = $800,000 (Depreciated Value of the Business Asset)

Ultimately, you will want to consider taking advantage of bonus depreciation as a useful tax saving tool for your Early Childhood Education business. Since calculating bonus depreciation, understanding qualified expenses, and adhering to the depreciation phase-out schedule set forth by the IRS can be confusing elements in the process, we encourage you to contact our team of professional accountants for all of your bonus depreciation needs.

Reach out to the experts at Honest Buck Accounting today!

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