by Bob Rywick
There are dollar limits on the depreciation deductions (including deductions under the IRC §179 expensing election) that can be claimed with respect to passenger automobiles. That limit is adjusted annually for inflation.
For 2002, the last year for which an adjustment has been made, the limit is $3,060 for the first year that the automobile is in service. For certain electric cars, the limit is tripled so that the first-year limit for cars placed in service in 2002 is $9,180. The limit is proportionally reduced if the car isn’t exclusively used in business.
Under the rules in effect before the Jobs and Growth Tax Relief Reconciliation Act of 2003, a new passenger automobile acquired after Sept. 10, 2001, was treated as qualified property eligible for 30 percent bonus depreciation.
However, the bonus depreciation could not be taken to the extent that the total of first-year depreciation and the amount (if any) expensed under IRC ¤ 179 exceeded the first-year limit. The first-year limit was increased by $4,600 (to $7,660 in 2002) for passenger automobiles (other than electric automobiles), and by $13,800 (to $22,980 in 2002) for electric automobiles. The $4,600 and $13,800 amounts weren’t indexed for inflation.
Effect of the JGTRRA
The Jobs and Growth Tax Relief and Reconciliation Act of 2003 increased the bonus depreciation to 50 percent for property that is acquired after May 5, 2003, and before Jan. 1, 2005 (before Jan. 1, 2006, for certain property with longer production periods). The act also increased the first-year limit for passenger automobiles other than electric automobiles to $7,650 (instead of $4,600), plus the annual inflation-adjusted amount.
Thus, if the annual inflation-adjusted amount remains $3,060 for 2003, the total first-year limit for non-electric passenger automobiles acquired after May 5, 2003, that qualify as 50 percent bonus depreciation property will be $10,710. For electric automobiles, the addition to the first-year limit would be $22,950 (three times $7,650), and the total first-year limit would be $32,130 ($22,950 plus $9,180 [again assuming that the 2003 limit remains the same as the 2002 limit]).
Neither the $7,650 nor $22,950 amounts are indexed for inflation.
Observation: The Internal Revenue Service calculates the inflation adjustment for the limits on deducting depreciation on passenger automobiles for each calendar year. However, as this article goes to press, it has not yet made the calculation for 2003. Accordingly, in the examples set out in this article, I’ve assumed that the limits will be the same as for 2002.
Example 1: On June 30, 2003, your client, a calendar-year taxpayer, bought and placed in service a new, non-electric passenger car for $50,000 that was used exclusively for her business. It meets the definition of 50 percent bonus depreciation property.
Without the first-year limit, she could (if otherwise eligible) expense the full cost of the automobile, or deduct depreciation of $30,000 ($25,000 of bonus depreciation plus $5,000 of regular depreciation [20 percent of $25,000 balance after deducting bonus depreciation]). Taking the first-year limit into account, your client is allowed depreciation for 2003 of $10,710 ($3,060 plus $7,650).
Example 2: The facts are the same as in Example 1, except that the car that your client bought was an electric automobile. If your client elects to expense part of the cost of the automobile, her deduction for 2003 will be limited to $32,130. (The Jobs and Growth Act increased the maximum amount that can be expensed for eligible property bought in 2003 to $100,000.)
If she depreciates her automobile, your client’s deduction will be limited to the $30,000 she could deduct under the depreciation rules, since this is less than the first-year limit of $32,130.
Example 3: The facts are the same as in Example 1, except that, in 2003, your client uses the automobile 70 percent for business and 30 percent for personal activities. Your client’s first-year depreciation for 2003 is limited to $7,497 (70 percent of $10,710).
Example 4: The same facts pertain as in Example 2, except that, in 2003, your client uses the electric automobile 80 percent for business and 20 percent for personal activities. If your client elects to expense, her first-year deduction will be limited to $25,704 (80 percent of $32,130). If your client depreciated the automobile, her first-year depreciation deduction will be limited to $24,000 (80 percent of $30,000).
The Jobs and Growth Act allows taxpayers to elect out of 50 percent bonus depreciation and claim 30 percent bonus depreciation, or to elect not to claim any bonus depreciation.
If the election is made for a class of property, it applies to all property in that class placed in service during that tax year. Thus, if a taxpayer wants to elect out of 50 percent bonus depreciation for a passenger automobile for 2003, that taxpayer would also have to elect out of using 50 percent bonus depreciation for any otherwise eligible five-year MACRS property bought in 2003.
The election out of any bonus depreciation property, however, is applied separately to qualified property that is eligible for 50 percent bonus first-year depreciation, and other qualified property (i.e., property eligible for 30 percent bonus first-year depreciation).
Example 5: On March 15, 2003, your client, a calendar-year taxpayer, bought and placed in service $50,000 of new five-year MACRS property. On July 6, 2003, your client bought and placed in service $75,000 of new five-year MACRS property, including a passenger automobile that cost $45,000. He doesn’t buy any other five-year MACRS property during 2003.
Your client may elect not to claim 30 percent bonus first-year depreciation for the five-year MACRS property placed in service in March. Even if this election is made, he may still claim 50 percent bonus first-year depreciation for the property placed in service in July (including the automobile), even though it’s in the same class as the property placed in service in March.
Recommendation: A taxpayer should consider making an election-out or reduced election if he either has about-to-expire net operating losses, or anticipates being in a higher tax bracket in later years.
Caution: A taxpayer who elects out of bonus first-year depreciation for a class of qualifying property that is eligible for 50 percent or 30 percent bonus depreciation will be subject to the AMT depreciation adjustment for that class. That means AMT depreciation is computed using the 150 percent declining balance method (switching to straight-line in the year necessary to maximize the allowance), except that straight-line must be used for property for which straight-line depreciation must be used for regular tax purposes. The recovery period is the same for AMT and regular tax purposes.
On the other hand, there is no AMT adjustment for the entire recovery period of qualified property for which either 30 percent or 50 percent bonus depreciation is taken.
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