If you’re a business owner, you may already know that certain commercial assets are depreciable, which means you can expense a portion of those assets’ costs each year you use them. Many business owners love this accounting technique because it decreases their reported net income for tax purposes.
However, what many business owners don’t know is that you don’t have to purchase an asset outright to depreciate it. Instead, you can use commercial equipment financing to acquire the equipment and still gain the full benefits of depreciation. Not only that, but several other tax benefits also apply to equipment purchased using a loan, lease, or finance agreement. Keep reading to learn more.
The Difference Between Loans, Leases, and Finance Agreements
With a traditional loan, you borrow money to purchase equipment your company needs. So, you own that equipment, but the amount that you pay in interest versus principal can vary over the life of the loan. With an equipment finance agreement (EFA), you also own the equipment, and the amount of interest you’ll pay over the life of the loan remains fixed.
Because you own the equipment either way, the two financing options often have the same tax benefits as if you purchased the equipment outright.
With an equipment lease, you do not own the equipment. Instead, you pay the lessor for the use of the equipment, much like a rental agreement. While there are many benefits of leasing equipment over finance agreements or loans, the fact that you don’t own the equipment may make some tax benefits unavailable.
For a more detailed comparison of the three types of financing options, check out the blog below.
RELATED: Loans, Leases, and Finance Agreements: Which One Is Right for My Business?
The Tax Benefits of Commercial Equipment Financing
Section 179 Benefits
Section 179 is a tax incentive for businesses. This benefit is designed to help small and medium-sized businesses purchase equipment and invest in business development. Section 179 allows you to treat qualifying assets as business expenses and expense the costs of those assets immediately.
You must meet several qualifications to receive Section 179 benefits:
- Qualifying equipment: Equipment and property that can qualify for Section 179 includes:
- Equipment purchased for business use
- Tangible personal property that you use for business purposes
- Business vehicles that weigh more than 6,000 pounds
- Computers
- “Off-the-shelf” computer software (in other words, software that’s available to the public and not custom-designed)
- Office furniture
- Office equipment
- Property attached to your building that isn’t a structural component of the building (for example, a printing press or large manufacturing tools and equipment)
- Equipment purchased for partial business use (you can deduct a percentage of the equipment that matches the percentage of time you use it for business purposes; note that the asset must be used at least 50% of the time for business purposes)
- Certain improvements to existing non-residential buildings, such as:
- Fire suppression
- Alarms
- Security systems
- HVAC
- Roofing
- Equipment use: You must acquire and use the equipment between January 1 and December 31 of the tax year you are claiming
- Value caps: Section 179 comes with limits:
- $1 million maximum write-off
- The deduction begins to phase out after you spend $2.5 million on equipment
- The deduction goes away completely once you spend $3.5 million on equipment
- Financing options: Financing agreements, loans, and leases can all create eligibility for Section 179
Keep in mind that the rules for Section 179 benefits can change from year to year. For example, the IRS occasionally changes the value caps. The amounts listed above are for the 2019 tax year.
Bonus Depreciation (First-Year Depreciation)
While traditional depreciation allows you to slowly recover some of the equipment’s cost over its lifespan, bonus depreciation lets you recover a large percentage of the cost all at once. However, you must take bonus depreciation in the first year that the depreciable equipment is placed in service.
So, how does this benefit help businesses? If your total equipment purchases exceed the $1 million maximum write off for Section 179, you can apply bonus depreciation to the remainder of your purchase amount.
- Qualifying equipment:
- The equipment must have a set lifespan (loses value over time)
- You must plan to use the equipment for more than one year
- You must use the equipment for business purposes at least 50% of the time
- Amount depreciable: 100% of the equipment cost for 2019
- Financing options: Financing agreements and loans can create eligibility, but most leases can’t
Note that the current rules and limits for bonus depreciation will expire in 2023.
Now, let’s look at how bonus depreciation pairs with Section 179 benefits. If your company had $1.7 million in qualifying equipment purchases, you could qualify for a $1 million deduction from Section 179. Because of the current 100% bonus depreciation, you can then depreciate the remaining $700,000 for the same year, creating an additional deduction.
In previous years, when depreciation rates were less than 100%, using Section 179 first and then depreciating the remaining amount usually yielded higher overall deductions. Now, thanks to the 100% bonus depreciation rate for 2019, you could choose to depreciate the full $1.7 million and receive the same total deduction.
However, there are other factors to consider when deciding how to apply 100% bonus depreciation and Section 179 deductions. Speak with your tax advisor to determine which option is right for you.
Ask Team Financial Group About the Tax Benefits of Commercial Equipment Financing
Still have questions about the tax benefits (or many other benefits) of commercial equipment financing? Team Financial Group can help. Get in touch with us by calling 616-735-2393 or filling out our convenient online contact form. Or, if you’re ready to apply for fast, flexible financing today, fill out our easy online application and let us do the rest.
The content provided here is for informational purposes only. For financial advice, please contact our commercial financing experts.