Background
Depreciation has long allowed businesses to recover capital invested in tangible assets by spreading cost recovery over an asset’s useful life. The Tax Cuts and Jobs Act (TCJA) expanded near‑term write‑offs — notably larger Section 179 expensing and temporary bonus depreciation — which changed purchase timing and cash‑flow decisions for many small firms. For current program amounts and phasedown schedules, always check IRS guidance (see Publication 946 and the IRS depreciation pages).
Key ways depreciation affects small businesses
- Cash flow and tax timing: Accelerating deductions (Section 179 or bonus depreciation) shifts tax savings into earlier years, improving immediate cash flow but reducing deductions in later years.
- Investment decisions: Predictable tax treatment can make equipment purchases or lease-vs‑buy choices more attractive.
- Book vs tax differences: Depreciation for financial statements may differ from tax depreciation, affecting reported earnings and loan covenants.
How the main rules work (short primer)
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Section 179: Lets eligible businesses elect to immediately expense the cost of qualifying property up to an annual limit that is adjusted for inflation. Limits and phase‑out thresholds change year to year; verify current amounts on the IRS Section 179 page. See our in‑depth guide on the Section 179 Deduction for examples and planning strategies: Section 179 Deduction.
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Bonus depreciation: A separate code provision that allows a percentage of qualified property cost to be deducted in the year placed in service. The TCJA temporarily raised bonus depreciation to 100% for certain property, with a scheduled phase‑down thereafter; confirm the current percentage with the IRS (Publication 946).
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Regular (MACRS) depreciation: Most assets use the Modified Accelerated Cost Recovery System (MACRS) with standardized recovery periods (for example, 5‑year property for many vehicles and equipment, 7‑year for some machinery, 39‑year for nonresidential real property) — see IRS Publication 946 for the full tables.
Practical examples (illustrative)
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A small manufacturer buys a $200,000 machine. Electing Section 179 or taking available bonus depreciation can allow most or all of that cost to be written off in year one, materially lowering taxable income for that year. If instead the business uses straight‑line MACRS, the deduction spreads over the asset’s recovery life.
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A retail shop renovates a leased unit: tenant improvements may qualify as building improvements with a 15‑ or 39‑year recovery period depending on classification; proper asset classification determines the deduction schedule.
Who is affected / who can use these rules
Sole proprietors, partnerships, LLCs taxed as partnerships, S corporations, and C corporations can use depreciation and, where eligible, Section 179 and bonus depreciation. The ability to claim Section 179 can be limited by taxable income, business‑use rules, and annual dollar limits — check the current IRS guidance and consult your tax advisor before electing.
Strategies and professional tips
- Check current-year limits before year-end: Section 179 limits, bonus depreciation percentages, and cost recovery rules are updated or phased down over time.
- Bundle purchases strategically: Timing asset purchases near year-end can alter which tax year gets the deduction and may maximize benefits if limits apply.
- Classify assets carefully: Correct asset classification (personal property vs. building improvements) affects lives and eligibility for bonus/Section 179.
- Coordinate with financing: Financing terms and lender reporting needs may favor spreading deductions; compare tax savings vs. covenant effects.
- Keep contemporaneous records: Purchase invoices, placement‑in‑service dates, and business‑use mileage/logs are essential for audit defense (IRS Publication 946).
Common mistakes to avoid
- Assuming all purchases qualify for immediate expensing — some property types and improvements are excluded or have special rules.
- Forgetting business‑use percentage — only the business portion of an asset is depreciable.
- Overlooking recapture rules — if you sell an asset or stop using it in business, some previous depreciation may be taxable as gain.
Useful asset recovery lives (typical MACRS examples)
| Asset type | Typical MACRS recovery period |
|---|---|
| Passenger vehicles and many equipment items | 5 years |
| Machinery and certain specialty equipment | 7 years |
| Nonresidential real property (commercial buildings) | 39 years |
Note: These are common examples; refer to IRS tables in Publication 946 for exact classifications and exceptions.
Where to find authoritative, up‑to‑date guidance
- IRS — Publication 946, How To Depreciate Property (official recovery lives, rules, and examples): https://www.irs.gov/pub/irs-pdf/p946.pdf
- IRS Depreciation and Amortization overview: https://www.irs.gov/credits-deductions/individuals/depreciation
Further reading on FinHelp
- Our guide to Section 179 Deduction explains eligibility, limits, and examples: Section 179 Deduction.
- For side‑by‑side choices between expensing options, see: Business Depreciation Basics: Section 179 and Bonus Depreciation.
FAQ — quick answers
- Can I depreciate used property? Yes, used property placed in service for business generally qualifies for depreciation and may qualify for bonus depreciation if it meets the code requirements (see IRS Pub. 946).
- Does depreciation reduce basis on sale? Yes — accumulated depreciation reduces your tax basis and can create taxable gain on disposition.
Professional disclaimer
This article is educational and not individualized tax advice. Rules and dollar limits change; consult a qualified tax professional or the IRS to apply these rules to your situation.
Sources
IRS Publication 946; IRS Depreciation pages (see links above). Additional FinHelp guides linked in the article provide practical examples and planning worksheets.
