A Great Time to Invest in Business Aircraft and aircraft upgrades
- Potential drop in flow-through tax rates for small businesses from 39% to 15% or 25% may make the value of deductions substantially exceed the expected recapture at sale
- 179 Expensing Election of $500,000; phase out starts when equipment purchases exceed $2,000,000.
- 50% Bonus depreciation for factory new equipment
Potential Cuts to Business Taxes Make 2016 Deductions More Valuable This Year
With the inauguration of President Elect Donald Trump just around the corner, tax professionals and business owners are anticipating potential significant tax code changes, perhaps the largest tax overhaul in decades. One cornerstone of the Trump tax plan is a significant decrease in corporate tax rates, as well as taxes paid by owners of flow-through businesses, including S corporations, partnerships, and Schedule C businesses that flow through to 1040 returns. Current corporate rates at 35% are proposed to be cut to 15% in the Trump plan, and although that may be not be politically feasible, the Kiplinger Tax Letter believes that a top rate of 25% is politically likely. Perhaps even more significantly, flow-through profits from S corporations, partnerships and Schedule C businesses which are currently taxed at the owners’ 1040 rates are also subject to significant cuts, with a proposed rate of 15%.
Why does this rate shift in 2017 make aircraft purchases or purchases of new equipment installed on aircraft in 2016 a unique opportunity? Deductions taken for expensing property or depreciation are commonly referred to a “timing differences, ” given that any deduction taken, to the extent that it exceeds the actual loss in value in the property, is subject to recapture at the time the property is sold or no longer used for business. While there is no reason to believe at this time that recapture would not occur in future tax years, that recapture would be treated as ordinary business income in the year the property is taken out of service. Assuming a significant and potentially lasting change in business tax rates, the deduction taken for the property in 2016, at 2016 rates, is likely to save significantly more tax dollars than those due at the time the property is sold, given the reduction in rates. For example, if corporate taxes decrease by 50% as proposed, the tax savings at purchase will double that owed upon disposition.
Given this potentially unique moment in business investment opportunities, what deductions are currently available for aircraft purchases?
50% Bonus Depreciation
Under the Bonus Depreciation rules, purchases of new aircraft, or new aircraft component parts installed, i.e., a new avionics suite, are eligible for an accelerated bonus-depreciation allowance in the year they are placed in service. Absent a change in law, for tax years 2016 and 2017, the bonus-depreciation allowance will be 50% of the cost; this reduces to 40% in 2018, 30% in 2019, and is phased out thereafter (although some 2020 acquisitions may qualify, where a written binding purchase contract was in place before 2020). The additional first-year depreciation deduction is allowable both for regular income tax purposes and alternative minimum tax. Aircraft eligible for bonus depreciation must be new, used primarily for qualified business purposes, and meet other tests necessary to qualify for depreciation under the modified accelerated cost recovery system (MACRS). Bonus depreciation excludes property acquired under written binding contracts in effect prior to January 1, 2008. Special rules may apply to agricultural and firefighting aircraft.
Bonus depreciation is generally limited to factory-new property. In calculating cost eligible for bonus depreciation, a taxpayer may include the cost of installation, inspection, certification, and the like. If refurbished equipment includes both new and used components, the entire cost may be subject to bonus depreciation if less than 20% of the total value is attributable to the used component/s.
Section 179 Expensing Election Retroactively Enhanced and Made Permanent
The expensing election, which is available to both new and used business property, is in addition to the bonus depreciation allowance, and can benefit businesses which engage in eligible investments of less than $2,500,000 within the year. The expensing allows a taxpayer to write-off up to $500,000 of equipment, but in no case more than the taxpayer’s income. Further, the available write-off decreases dollar-for-dollar to the extent that the taxpayer’s total investment in qualifying property for the year exceeds $2,000,000. The major advantage of the expensing election over bonus depreciation is its availability for used property.
Ordering of Deductions
When both bonus depreciation and Section 179 expensing are available and desired, the deductions are calculated by applying Section 179 first, followed by bonus depreciation, and last the regular depreciation allowance.
Example: New non-commercial aircraft placed in service within the first three quarters of the year by a taxpayer able to use the Section 179 deduction:
|S179 Deduction:||$300,000||($500,000 reduced by ($2,200,000-$2,000,000))|
|Bonus Depreciation||$950,000||(50% of ($2,200,000 – $300,000))|
|Ordinary Depreciation||$190,000||(20% (the normal first-year depreciation amount), of the remainder – i.e., $2,200,000 – $300,000 – $950,000))|
|Total Yr. 1 Write-Off:||$1,440,000|
|% of Purchase Price:||
Although Congress has encouraged investment in new equipment through these incentive provisions, taxpayers must exercise extreme care to sustain the deductions under IRS scrutiny. The IRS has a number of tools at its disposal to claw back tax savings so graciously provided by the legal tax incentives. Careful adherence to the myriad use, structuring, and recordkeeping requirements is particularly important where taxpayers expect to receive large tax benefits in a given year. It is critical to consult with a qualified expert, not only on whether a particular transaction qualifies for the incentives, but also on whether associated tax rules may take away benefits the incentive programs may have made available. This article is merely an overview of the topic, and not necessarily comprehensive.
November 30, 2016
Suzanne Meiners-Levy, Esq.
Advocate Consulting Legal Group, PLLC is a law firm whose practice is limited to serving the needs of aircraft owners and operators relating to issues of income tax, sales tax, federal aviation regulations, and other related organizational and operational issues.
Tax Disclosure. Any tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under tax laws, or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.
 Volume 91, No. 23 (Nov. 18, 2016). The House GOP Blueprint calls for 20% corporate rates and 25% flow through rates- the Trump plan calls for both rates to cap at 15%.