The IRS has issued final regulations regarding bonus depreciation for businesses. The final guidance clarifies requirements that must be met for property to qualify for the deduction, and addresses recent legislative changes to the depreciation rules for qualified improvement property (QIP). Read up on the final regulations below.

First, some background:

What is bonus depreciation?

For income tax purposes, businesses can deduct their ordinary business expenses. But certain expenses — such as the cost of investing in machinery, equipment and other long-lived assets — can’t be immediately deducted. Instead, these costs generally must be capitalized (reported on the balance sheet), and then depreciated (expensed gradually over their useful lives).

The TCJA allows 100% bonus depreciation for qualifying new and used assets with recovery periods of 20 years or less that are placed in service between September 28, 2017, and December 31, 2022.

What is QIP?

QIP refers to an improvement to an interior portion of a nonresidential building that’s placed in service after the date the building was first placed in service.

Due to a drafting error in the TCJA, any QIP placed in service after December 31, 2017, wasn’t eligible for 100% bonus depreciation. Instead, the cost of QIP had to be deducted straight-line over a 39-year period.

Fortunately, the CARES Act, signed into law on March 27, 2020, corrects the TCJA drafting error for QIP. Thus, most businesses now have the choice to either:

• Claim 100% bonus depreciation for QIP placed in service after December 31, 2017, or
• Depreciate the QIP placed in service after December 31, 2017, straight-line over 15 years.

What do the final regulations provide?

The final regulations clarify the requirements that must be met for property to qualify for the deduction, including used property.

The final regulations stipulate that property is treated as used if the taxpayer or predecessor had a depreciable interest in the property at any time prior to the acquisition (does not matter if the taxpayer or predecessor claimed depreciation deductions for the property). Only the five calendar years immediately prior to the taxpayer’s current placed-in-service year of the property are taken into account when determining this.

In addition, the regulations provide:

• Rules for consolidated groups.
• Rules for components acquired or self-constructed after September 27, 2017 (for larger self-constructed property for which manufacture, construction or production began before September 28, 2017).
• Rules for applying the mid-quarter convention under Section 168(d).
• Changes to the definitions of the 2019 final regulations for the terms QIP, predecessor and class of property:
  • QIP must be made by the taxpayer.
  • Predecessor is intended to be property specific.
  • Class of property is meant to be partner-specific.

Questions on the final rules? We can help. Contact our team.