Tax Incentives for Purchases

As you plan your equipment purchases, keep in mind that Uncle Sam will help you out by letting you deduct some or all of the equipment's cost on your federal income tax return. Your state tax agency may also provide some tax-saving incentives.

Expensing election. Perhaps the biggest tax incentive that's available is your ability to elect to immediately expense (deduct in the current year) the cost of certain equipment you purchase for use in your business. In other words, rather than having to recover the cost for tax purposes over several years via depreciation deductions, you can recover all or a portion of the cost on your return for the year that you start using the equipment in your business. In general, you can expense up to $24,000 in equipment costs for purchases in 2001 and 2002 and $25,000 for 2003.)

If the equipment is a passenger car, computer, or related peripheral equipment, cellular telephone or similar telecommunications equipment, T.V., camera, or stereo equipment, you can't elect to expense the cost of such item (termed "listed property" for tax purposes) unless more than 50 percent of its use is related to your business.

Accelerated depreciation. For tax purposes, you account for the equipment costs that you don't or can't elect to immediately expense through depreciation deductions. To encourage businesses to invest in equipment and other business assets, current federal tax law permits you to claim a greater percentage of an item's cost as depreciation deductions during the earlier years of the item's use.

For example, for equipment like computers that the law assumes has a five-year useful life, you can claim a first year deduction of up to 20 percent of the item's cost, and a second year deduction of up to 32 percent of the cost.


Save Money

Properly planning the timing of your equipment purchases can produce significant tax savings. For example, the equipment expensing election applies whether you purchase and start using a given piece of equipment during the first month of your tax year, or the last month.

So, if towards the end of your tax year you're contemplating a purchase of equipment, you may do well to complete the purchase and start using the equipment before the end of the year if you can benefit from deducting the equipment's cost on your current year's tax return.

Timing is also important for depreciation purposes. For the first year that you use an item in your business, you'll usually be allowed to claim six-month's worth of depreciation, regardless of when you actually start using the item. For this reason, there is some benefit to delaying your purchases until the last half of your tax year. However, you don't want to wait too long because if more than 40 percent of your purchases fall in the last quarter of your tax year, the rules change. The MACRS deduction for property is subject to the "midquarter convention." In English that means that if you place an asset into use in during the year, you compute the full year's depreciation and then multiply it by the following percentages, depending on which quarter it was placed in service: First quarter-87.5%, Second quarter-62.5%, Third quarter-37.5% and Fourth quarter-12.5%. Consult your tax advisor for further details as this can get very complicated.

If you're planning one or more major purchases, we suggest you have your accountant "run the numbers" so you can see how different purchase dates can affect your tax bill.

State tax incentives. The tax laws of most states track the federal laws, so you'll get the same expensing allowance or depreciation deduction on your state tax returns. You should also be on the lookout for other tax incentives. For example, your purchase of certain manufacturing machinery may entitle you to a state income tax credit or a state property tax exemption. Or, perhaps you'll be allowed to make the purchase free of state and local sales taxes. Consult a local tax advisor or your state department of revenue for the most current laws in your state.