Does Arkansas Allow Bonus Depreciation for Rental Properties?

Understanding how Arkansas treats bonus depreciation for rental properties is important for property owners looking to maximize tax benefits. Bonus depreciation allows a significant portion of an asset’s cost to be deducted in the year it is placed into service, but state tax rules do not always align with federal provisions. Arkansas has specific guidelines regarding how depreciation can be applied, and property owners must be aware of these differences to ensure accurate tax filings and avoid unexpected liabilities.

Conformity with Federal Depreciation

Arkansas does not fully conform to federal depreciation rules, particularly regarding bonus depreciation. Under the federal Tax Cuts and Jobs Act (TCJA) of 2017, businesses and property owners can deduct 100% of the cost of qualifying assets in the year they are placed in service. This provision, outlined in Section 168(k) of the Internal Revenue Code, applies to most tangible personal property with a recovery period of 20 years or less. However, Arkansas has chosen to decouple from this rule, meaning taxpayers cannot claim the same level of accelerated depreciation on their state tax returns.

Instead, Arkansas requires taxpayers to follow a different depreciation schedule. Under Arkansas Code 26-51-428, assets must be depreciated using the standard Modified Accelerated Cost Recovery System (MACRS) without the additional first-year deduction. While federal tax law permits an immediate write-off, Arkansas taxpayers must spread the deduction over the asset’s useful life. For example, if a rental property owner purchases new appliances for a rental unit, they may be eligible for 100% bonus depreciation federally, but for Arkansas state tax purposes, they must depreciate the cost over the standard five-year MACRS schedule.

Eligibility Criteria

While Arkansas does not allow bonus depreciation, it still permits standard depreciation under MACRS. The eligibility of an asset depends on factors such as its recovery period, classification as tangible property, and whether it qualifies as an improvement expense.

Recovery Period Requirements

Depreciation rules categorize assets based on their expected useful life, known as the recovery period. Under MACRS, residential rental property has a 27.5-year recovery period, while commercial rental property has a 39-year recovery period. These long recovery periods mean that buildings themselves are not eligible for bonus depreciation at the federal level, and Arkansas follows the same approach. However, certain components within a rental property, such as appliances, carpeting, and furniture, have shorter recovery periods—typically five or seven years. These assets qualify for accelerated depreciation under federal law, but in Arkansas, they must be depreciated over their designated MACRS recovery period without any additional first-year deduction.

For example, if a landlord purchases a $2,000 refrigerator for a rental unit, federal tax law would allow a full deduction in the first year under bonus depreciation. In Arkansas, however, the refrigerator must be depreciated over five years using MACRS, meaning the taxpayer can only deduct a portion of the cost each year.

Types of Tangible Property

Arkansas follows federal guidelines in defining tangible property but does not extend the same depreciation benefits. Tangible personal property includes physical assets that are not permanently attached to a building, such as equipment, furniture, and fixtures. These assets typically have shorter recovery periods, making them eligible for accelerated depreciation at the federal level. However, since Arkansas does not conform to federal bonus depreciation rules, these assets must be depreciated over their standard MACRS recovery periods.

For instance, a rental property owner who installs new carpeting in a unit would classify it as a tangible asset with a seven-year recovery period under MACRS. While federal tax law allows for immediate expensing through bonus depreciation, Arkansas requires the cost to be deducted incrementally over seven years. This affects cash flow planning, as property owners must account for a slower depreciation schedule when calculating state tax liabilities.

Improvement Expenditures

Improvements to rental properties are treated differently from routine repairs and maintenance. Under IRS regulations, an improvement is defined as an expense that enhances the property’s value, extends its useful life, or adapts it to a new use. Examples include roof replacements, HVAC system upgrades, and structural renovations. These expenditures must be capitalized and depreciated over the appropriate recovery period rather than deducted as an immediate expense.

Arkansas applies the same recovery periods but does not allow bonus depreciation on improvements. For example, if a landlord spends $15,000 to replace a roof on a rental property, federal tax law requires the cost to be depreciated over 27.5 years for residential properties or 39 years for commercial properties. Arkansas follows these same recovery periods, meaning the taxpayer can only deduct a small portion of the cost each year. Unlike federal Section 179 expensing, which allows certain improvements to be deducted immediately under specific conditions, Arkansas does not conform to these provisions for real property improvements.

Adjustments on Arkansas Returns

Since Arkansas does not allow bonus depreciation, taxpayers must adjust their state returns to account for the difference between federal and state depreciation rules. The primary adjustment involves adding back any bonus depreciation claimed on the federal return to Arkansas taxable income. This ensures the accelerated deduction taken federally does not reduce Arkansas state tax liability beyond what is permitted.

When preparing an Arkansas tax return, taxpayers must refer to the Arkansas Individual Income Tax Instructions or the Corporation Income Tax Instructions, depending on their filing status. Line items related to depreciation adjustments require taxpayers to report the difference between federal and state depreciation calculations. For example, if a taxpayer deducts $10,000 in bonus depreciation on their federal return but Arkansas only allows $2,000 under standard MACRS depreciation, the remaining $8,000 must be added back as an adjustment to Arkansas taxable income. This adjustment is reported on the applicable Arkansas tax form, such as Form AR1000AD for individuals or Form AR1100REC for corporations.

Beyond depreciation addbacks, Arkansas requires taxpayers to track the difference in accumulated depreciation over the life of the asset. Since Arkansas spreads depreciation deductions over a longer period, taxpayers can claim state deductions in subsequent years that were disallowed in the first year due to the bonus depreciation addback. While the initial tax burden may be higher in Arkansas compared to federal taxes, future state tax deductions will be larger as the asset continues to depreciate under the MACRS schedule. Proper recordkeeping ensures these future deductions are not overlooked.

Adjustments to Arkansas taxable income can also affect other deductions or tax credits. If a taxpayer’s Arkansas taxable income increases due to a bonus depreciation addback, it could impact deductions based on a percentage of adjusted gross income (AGI), such as certain business expense deductions or net operating loss (NOL) carryforwards. Additionally, Arkansas limits NOL carryforwards to five years under Arkansas Code 26-51-427, shorter than the federal allowance of indefinite carryforwards under the TCJA.

Documentation for Compliance

Maintaining thorough records is necessary to ensure compliance with Arkansas depreciation rules and substantiate deductions in the event of an audit. Rental property owners should keep detailed depreciation schedules that reflect the differences between federal and Arkansas tax treatment. These schedules should outline the acquisition date, cost basis, recovery period, and annual depreciation expense for each asset. Given Arkansas requires a separate depreciation calculation, maintaining a dual reporting system—one for federal purposes and another for state compliance—helps prevent errors and ensures accurate filings.

Supporting documents such as purchase invoices, receipts, and contracts provide the necessary evidence to justify depreciation claims. These documents should indicate the nature of the expenditure, the date the asset was placed in service, and whether the cost was allocated to a capital improvement or a repair expense. For assets that are part of larger renovations or property upgrades, breaking down costs into individual components allows for proper classification under Arkansas depreciation rules. If an audit arises, the Arkansas Department of Finance and Administration (DFA) may request proof that assets were depreciated correctly under state guidelines.