Tax Trap #4 -- The Quagmire of Depreciation

If you are a Small Business Owner or Self-Employed Person, there's one especially lucrative tax break that not only puts money in your pocket, it also makes the filing of your business tax return much simpler.

What am I talking about? It's called the Section 179 deduction, and if there's one tax break you need to understand, this is it. Here's why:

The Section 179 deduction enables the Small Business Owner to "expense" (i.e. deduct in the current year) up to $102,000 of the cost of most business equipment, rather than use those stingy and complicated depreciation rules that require you to write-off the cost over five or more years.

What's so great about that?

Think about it like this: I've got a dollar and I'd like to give it to you. You have two choices -- I give it to you now, or I give it to you 5 years from now.

Which do you prefer?

Obviously, you'd rather have it now, right?

And why is that?

Because of what you learned way back in Finance 101: something your banker calls "the time value of money."

I'll spare you a boring textbook definition. Instead, let's just assume we agree on this simple point: Is a dollar worth more today or 5 years from today?

It's worth more today.

And that's why the Section 179 deduction is so valuable.

Huh?

Let's use an example to bring all this financial theory into reality.

You buy $5,000 worth of office equipment in 2004. Under normal depreciation rules, you wouldn't get to take a deduction for $5,000 in 2004. Instead, you'd write off the $5,000 over 6 years -- part in 2004, part in 2005, etc.

If you're in the 35% tax bracket, you get your $1,750 in tax savings over 6 years. Yawn. That's a long time!

You'd get your deduction, and the resulting tax savings, but you'd have to wait 6 years to realize all the benefits.

Section 179 says that if you meet certain requirements, you can deduct the full $5,000 in 2004. You reduce your taxes by $1,750 in Year 2004.

So let me repeat my rhetorical question: Uncle Sam has $1,750 he'd like to give you. When do you want it? All at once, or spread out over 6 years?

That's the beauty of Section 179.

But you have to meet certain requirements to benefit from Section 179. One requirement concerns the total amount of equipment you can deduct rather than depreciate. In 2002, the amount was $24,000. And for 2003, the amount was originally set at $25,000.

Then Congress and the President passed a new tax bill in late May 2003 that raised that amount to a whopping $100,000. And since that $100,000 gets adjusted for inflation, in 2004 the maximum Section 179 deduction is now $102,000.

Never liked depreciation? Well, you can pretty much kiss it good-bye now. If your business buys more than $102,000 of equipment in a single year, it ain't so "small" any more! So this new law should cover all small businesses. Enjoy!

One final note: A few other requirements must be met to claim the Section 179 deduction. Here's a brief, but not comprehensive, overview:

1. Most personal property used in a trade or business can be deducted via Section 179. Real property cannot. Typical examples of personal property include: office equipment such as computers, monitors, printers and scanners; office furniture; machinery and tools. Real property means buildings and their improvements.

2. The $100,000 amount (adjusted for inflation) can be used through 2007. In 2008, unless new legislation is passed, the amount goes back down to $25,000.

3. There are special rules regarding the application of Section 179 to the purchase of business vehicles. (Where there are tax breaks, there are always expections!) For example, the special "SUV rule" that allowed 6,000 LB vehicles to be fully deducted (up to the $100,000 amount) was recently changed to $25,000, effective October 22, 2004.

4. Your total Section 179 deduction is limited to the business' annual profit. In other words, you cannot use the Section 179 to create or increase a loss.

This is known as the "taxable income limitation." For "C" Corporations, this limitation is very cut and dried. But if your business is an "S" Corporation, Partnership, LLC, or Sole Proprietorship, it may not be as limiting as it seems. For these non-"C" Corp businesses, the Section 179 deduction can be used to offset both business and non-business income.

And if you're married filing jointly, the Section 179 deduction can offset your spouse's income, including W-2 income.

Example: You start a new business in 2004 that ends up with a loss for the year of $5,000 (before taking the Section 179 deduction). Your spouse has W-2 income of $60,000. Even though your business is unprofitable, you can still take the full Section 179 deduction of $5,000 (again, assuming your business is an entity other than a "C" Corporation).

Be sure to consult with your tax professional to get the scoop on all the Section 179 rules.

Wayne M. Davies is author of 3 tax-slashing eBooks for the self-employed, available separately or as a 3-volume set, "The Ultimate Small Business Tax Reduction Guide". http://www.YouSaveOnTaxes.com/ultimate-guide

To get your free copy of Wayne's 25-page report, "How To Instantly Double Your Deductions" visit: http://www.YouSaveOnTaxes.com

---

The Seven Deadly Tax Sins: Commonly Missed Deductions

It's that time again, the April 15 tax deadline is... Read More

Surprising Truths About Tax Preparers

Choosing the right tax preparer for your business is a... Read More

Tax Audits: What Signs Make You More Likely to be Audited by the IRS?

It's a major fear for most Americans: A notice from... Read More

Access to E-records by Taxing Authorities: A Case for Pakistan (Part I)

Background issues of access to recordsTo assess the records at... Read More

Fraudulent Tax Shelters ? KMPG Goes Down Hard

In the largest criminal tax case ever filed, KMPG has... Read More

Tax Strategy - Let Washington Pay for Your Corvette, Porsche, or Air Plane

Deducting Your Auto ExpensesAuto deductions are a very complex topic.... Read More

Truly Bizarre Taxes: The Tax on Illegal Drugs

One can never underestimate the enthusiasm that politicians have for... Read More

Failure To Pay Employment Taxes ? Penalties

As an employer, you must pay employment taxes if you... Read More

Taxation of Isle of Man Companies from April 2006

At the present time a company incorporated in the Isle... Read More

Six Urban Myths About Taxation

Six Urban Myths ? Taxation"I am proud to be paying... Read More

Tax Trap #4 -- The Quagmire of Depreciation

If you are a Small Business Owner or Self-Employed Person,... Read More

Taxation of Forgiven Debt: The 1099C & You

Often people fall on hard times and stop paying on... Read More

How To Claim CHILD TAX CREDIT The Right Way And Add An Extra $2,000 To Your Refund

The U.S. Department of Agriculture estimates that it costs nearly... Read More

Tax Secrets - How Drew Miles Helped Me

How about a Tax Tip?As we all know Taxes are... Read More

State Tax Information

All states also have their own tax system. Typically there... Read More

Tax Trap #2 -- Double Taxation: Isnt Once Enough?

Have you been thinking about incorporating your small business or... Read More

How to Check the Status of Your Tax Refund Online

So, you were pleasantly surprised to learn that you are... Read More

How To Get An Extension To File Your Business Tax Returns

Yes, the tax season is upon with the first filing... Read More

Tax Reduction Tips

In the rush to get tax returns prepared and filed... Read More

Military Reservists, Enlistees May Get Deferral of Back Taxes

Reservists called to active duty and enlistees in the armed... Read More

1031 Exchange Rules and Requirements

Following is a reproduction of the IRS's rules and requirements... Read More

Reducing Taxes Through Dividend-Salary Mix Calculations

Should I take wages or dividends from my privately owned... Read More

Employment Taxes ? Depositing With The IRS

If your business has employees, you must pay employment taxes.... Read More

Slash Tax when Buying a Business

When buying a business, how the "purchase price" is made... Read More

Are You Overpaying Taxes If You Use Tax Preparation Software?

For many business owners the answer to this quandary is... Read More

Small Business Tax Issues for Self-Employed Individuals

The United States is a nation of entrepreneurs. There are... Read More

A Taxing Investment

April 15 - The most dreaded day of the year... Read More

Save Money on Taxes - Is the Only Way to Get Your Tax Savings is to Sleep With an IRS Agent?

Tilting the Tax Laws in Your Favor.In order to accelerate... Read More

Income Tax Returns Your Accountant Should Not File

You've been feeling uneasy (perhaps even guilty) because you've failed... Read More

Tips and Simple Guidelines on How to Calculate Payroll Taxes

Managing a business small, medium or big requires you to... Read More

Employment Taxes ? What Are They?

If you have employees, you are responsible for paying a... Read More

How to Maximize Your Home Business Tax Deductions for 2005

Someone once said, 'the best way to calculate your taxes... Read More

Access to E-records by Taxing Authorities: A Case for Pakistan (Part II)

All tax authorities to e-commerce transactions should investigate the record... Read More