Economics Department
By Dr. Ruby Ward, Extension Economist
and Assistant Professor, Economics
Department, Utah State University.
There are still some very favorable
depreciation rules for 2004. These include a
change in the allowable section 179
deduction and a 50 percent special
depreciation. Both of these give farmers
additional flexibility in managing their
income taxes.
The information provided in this article is a
brief overview of these new depreciation
allowances. Additional details can be found
in chapter 8 of Publication 225, The
Farmer's Tax Guide for preparing 2003 tax
returns
1
. Farmer's may want to seek the
help of an income tax professional in
determining whether these depreciation rules
would be beneficial.
Section 179 deduction.
Section 179 of the Internal Revenue Code
allows the taxpayer to "write-off" the cost of
an asset as an expense rather than depreciate
it over many years. The amount that is
written off during the year is referred to as
the "section 179 deduction."
Section 179 property. There are limits on
the type of property that can be used for a
section 179 deduction. In general property
that qualifies for the deduction includes
personal property (machinery and
equipment), single purpose agriculture or
horticulture structures, and storage facilities.
Off-the-shelf computer software now
1
Copies can be downloaded from the following web
page http://www.irs.gov.
qualifies for the section 179 deduction.
There are special rules for trucks, vans, and
business cars. Real property, including
buildings with multiple uses, generally does
not qualify as Section 179 property.
Maximum Deductions. For 2004 tax
returns, there is a maximum limit of
$102,000 that can be deducted for a section
179 deduction. This is a significant increase
over the $24,000 limit that existed in 2002.
The limit is scheduled to increase with
inflation for the 2005 through 2008 tax
returns. We don't really know what it will
do beyond then.
Dollar Limit. There is a dollar limit
effectively phasing out the deduction when
the taxpayer purchases property qualifying
for the section 179 deduction that totals
more than $410,000
2
. If the taxpayer
purchased more than $410,000 of property
that qualified for the Section 179 deduction,
the amount of the deduction is reduced by
$1 for every $1 over $410,000 that was
purchased. This means that if you
purchased $500,000 or more during 2004
you are not eligible to take any section 179
deduction. This is a significant increase
over 2002 when the dollar limit was
$200,000.
Recapture of deduction. If the business
use of an asset falls below 50 percent or the
property is disposed of, part of the section
179 deduction must be recaptured. The
recapture does not affect the total income
that would be reported when the asset is
2
Married couples are treated as one taxpayer. If joint
returns are not filed the $410,000 dollar limit is
allocated between both returns.
Agriculture Tax Issues Fact Sheet
Econ/tax-2003-01
Depreciation Rules for 2004
disposed of, but may affect the income that
is considered a capital gain versus ordinary
income.
Special Depreciation allowance.
There is a special depreciation allowance of
50 percent that can be taken the first year
property is placed in service. In general,
these special allowances are available for
most types of depreciable property including
tangible property and some computer
software.
To qualify for a special depreciation
allowance property must meet a few criteria.
A farmer must have acquired and placed the
property in service after September 10,
2001
3
and before January 1, 2005. This
must also be the original use of the property.
If someone else previously used the
property, it may not qualify for the special
allowance. The special 50 percent
deduction is figured as 50 percent of the
asset's basis.
Election not to use special depreciation
allowances. Because of tax management
issues, some farmers may not want to take
the special depreciation allowances. If that
is the case, taxpayers on a timely filed
return, must make an election not to use a
special depreciation allowance.
Using multiple allowances for the same
asset.
Taxpayers may use a section 179 deduction,
a special depreciation allowance, and the
normal MACRS depreciation allowance on
the same asset in the same year. For
3
This allowance is only for the first year's
depreciation of the property. Generally this will be
property purchased in 2004. However, property may
have been purchased earlier, but not placed in service
until 2004.
example, suppose a taxpayer purchased an
asset for $200,000 during 2004. The
taxpayer may elect to take a section 179
deduction of $102,000 on the asset. In
addition, the taxpayer may take a 50 percent
special depreciation allowance of $49,000
4
.
The taxpayer then has the remaining
$49,000 that can be depreciated using the
regular MACRS deduction.
Why might taxpayers not want to use all
of the deductions allowed?
Farmers commonly view tax management as
taking all deductions possible. This may not
be the most beneficial option for a taxpayer.
If all assets are completely depreciated
during the year they are purchased, there is
no depreciation deduction that can be taken
in future years. This may mean a smaller
tax bill in the first year, but larger tax
obligations in future years. The most
optimal use of these deductions will need to
consider both 2004 tax obligations as well as
tax obligations in future years
5
. Farmers and
ranchers need to also remember that assets
that are purchased have to be paid for (yield
a positive return) and not just reduce taxes to
increase the equity of the operation.
4
After taking the $102,000 section 179 deduction,
the remaining basis of the asset is $98,000. 50
percent special allowance of the remaining basis is 50
% * $980,000 or $49,000.
5
For information on this issue see Ward, R. "Need
to consider multi-year effects of tax issues." Utah
State University Extension. Econ/tax-2005-02.