To help stimulate the economy, the U.S. Government created a tax incentive, ‘Section 179,’ to encourage business owners to invest in new equipment. Under Section 179, instead of spreading the financial benefits of depreciation across multiple years, you are able to deduct 100 percent of the cost of equipment to reduce taxes during the current year. Many business owners don’t think about taxes until tax time, but by then it’s too late. By planning ahead, you can take advantage of tax strategies designed to reduce the amount of taxes you will owe.
Let’s look at a few examples to see how Section 179 can benefit your business. For these examples, we will make the assumption your business is profitable, has a 30 percent effective tax rate and you are purchasing $10,000 of equipment in December:
Example 1: Tax Savings from Traditional, Straight-Line Depreciation
- Equipment is depreciated on a straight-line basis – evenly – over 5 years, or 60 months. As a result, your business recognizes a $167 depreciation expense this year – one month of depreciation out of 60 total months, times the $10,000 cost of the equipment.
- Tax Savings for 2017: $50
- If you did not have the $167 depreciation expense related to the equipment purchase to reduce your taxable income, your income would be higher by $167 and you would have to pay taxes on a higher amount of income, or 30 percent, of $167, which is a $50 increase in your tax bill.
Example 2: Tax Savings Using the Section 179 Deduction
- The full cost of the equipment purchase can be deducted this year using Section 179. Accordingly, your business recognizes a $10,000 depreciation expense this year – 100 percent of the cost of the equipment purchase.
- Tax Savings for 2017: $3,000
- If you did not have the $10,000 depreciation expense under Section 179, your taxable income would be $10,000 higher, and you would owe $3,000 of additional taxes at your 30 percent tax rate.
Example 3: Depreciation Using Section 179 + Equipment Financing
- The full cost of the equipment purchase can still be deducted this year using Section 179 – even though you have financed the purchase – and your business recognizes a $10,000 depreciation expense this year related to the equipment.
- By financing the cost of the equipment, you significantly reduce the amount of cash needed to take advantage of the Section 179 deduction. For example, instead of paying the full $10,000 cost, you may only need to pay $1,000 – documentation fee plus first and last month’s lease payment.
- Tax Savings for 2017: Still $3,000
- Your taxable income is still reduced by the full $10,000 cost of the equipment – saving you $3,000 in taxes this year – but instead of paying $10,000 to generate $3,000 of tax savings, by financing the purchase, you only pay $1,000 to generate the same $3,000 of tax savings. The government has essentially paid you $2,000 to put your new equipment to use.
By financing an equipment purchase near the end of the year, you get all the benefits of the Section 179 tax deduction without having to actually come out of pocket to cover the cost of the equipment. Interested in exploring how this can impact your business? The team at Rigquipment Finance has created a free online calculator to help you run the numbers. Check it out today!