How Farmers Can Leverage Tax Deductions Before They Disappear

Key Takeaways:
  • Farmers should accelerate purchases of qualifying assets to maximize the benefits of bonus depreciation before it phases out by 2027.
  • Utilizing bonus depreciation can significantly improve short-term cash flow, allowing for reinvestment in farm operations and debt reduction.
  • Consulting with industry tax advisors is crucial for farmers to navigate the complexities of tax regulations and optimize their tax savings.

 

The agriculture industry is no stranger to the ebb and flow of tax regulations, and one of the most significant changes on the horizon is the phase-out of bonus depreciation. Introduced as part of the Tax Cuts and Jobs Act (TCJA) in 2017, bonus depreciation allowed farmers and other businesses to write off a substantial percentage of the cost of eligible assets in the year they were purchased. However, the 100% write-off of qualified property has expired, and the phase-out has begun. 

Understanding Bonus Depreciation 

Bonus depreciation is an additional first-year depreciation deduction enabling farmers to write off a significant portion of the cost of eligible assets in the year they are purchased. This provision has been a boon for the agriculture sector, providing immediate tax relief and incentivizing investments in new equipment and technology. The remaining cost of these assets can be deducted over their depreciable life using regular depreciation methods. 

Under the TCJA, bonus depreciation was enhanced to allow a 100% write-off for assets purchased and placed in service after Sept. 27, 2017 and before Jan. 1, 2023. This change dramatically increased the attractiveness of bonus depreciation, making it a valuable tool for managing tax liability and improving cash flow. 

The Phase-Out Schedule 

As of Dec. 31, 2022, the era of 100% bonus depreciation has come to an end. Unless there are new legislative changes, the bonus depreciation will decrease by 20% each year until it is completely phased out by 2027. The phase-out schedule is as follows: 

  • 2022: 100% 
  • 2023: 80% 
  • 2024: 60% 
  • 2025: 40% 
  • 2026: 20% 
  • 2027: 0% 

This gradual reduction means farmers need to carefully plan capital expenditures to take full advantage of the remaining bonus depreciation opportunities. 

What Qualifies for Bonus Depreciation?  

To benefit from bonus depreciation, farmers must ensure that their assets qualify. Qualifying assets include: 

  • MACRS property with a recovery period of 20 years or less.
  • Depreciable computer software.
  • Water utility property.
  • Qualified leasehold improvement property.
  • Vehicles with a useful life of 20 years or less.
  • Used equipment, provided it was placed in service in the current year.

Consult with a farm tax advisor to verify the eligibility of specific assets and ensure compliance with IRS regulations. 

Is Bonus Depreciation Subject to Recapture?  

Bonus depreciation is subject to recapture up to the amount of bonus depreciation taken. This recapture is taxed as regular income, with a cap on the tax rate at 25%. Farmers must be aware of this potential tax liability and plan accordingly. 

How Does Bonus Deprecation get Reported?  

To report bonus depreciation, farmers must claim it on form 4562 by the due date (including extensions) of the federal tax return for the year in which the property was placed in service. Proper documentation and timely filing are critical to ensure the benefits of bonus depreciation are realized without issues. If a farmer chooses not to claim bonus depreciation, then they will need to opt out.  

Post-Phase-Out: Section 179 Depreciation 

When bonus depreciation is completely phased out in 2027, farmers can still use Section 179 depreciation. However, Section 179 has limitations that could restrict the total deduction each tax year. Farmers must adhere to total purchase rules and total deduction rules under Section 179. For example, a 20-year farm building such as a machine shed would not be eligible for 179. However, it would be eligible for accelerated bonus depreciation until 2027. While this provides some depreciation relief, it is less generous than the current bonus depreciation provisions. 

Strategic Planning for Farmers 

With the phase-out of bonus depreciation on the horizon, farmers must strategize to maximize their benefits. Here are some key actions to consider: 

  • Accelerate Purchases: Farmers should consider accelerating the purchase of qualifying assets to take advantage of higher bonus depreciation rates before they decrease further. Investments made by the end of 2024 can still benefit from 60% bonus depreciation.
  • Cash Flow Management: Utilizing bonus depreciation can improve cash flow by reducing tax liabilities in the short term. This can provide additional funds for reinvestment in farm operations or paying down debt.
  • Incentive for Modernization: The availability of bonus depreciation creates a strong incentive to invest in new equipment and technology. Modernizing farm operations can lead to increased efficiency, productivity and long-term profitability.
  • Consult with Industry Tax Advisors: Given the complexity of tax regulations, it is important for farmers to work closely with tax advisors who understand the agriculture industry to ensure compliance and optimize tax savings. 

The phase-out of bonus depreciation represents a significant shift in tax planning for the agriculture industry. By understanding the qualifying criteria and planning strategically, farmers can continue to leverage these benefits and maintain a strong financial footing as they adapt to the evolving tax landscape. If you would like to discuss your farm tax strategies, contact an Adams Brown agriculture advisor.