How to Handle the 100% Bonus Depreciation Phase-Out

Bonus depreciation is a form of accelerated depreciation allowing businesses to deduct a large portion of an asset’s cost in the year of purchase. The Tax Cuts and Jobs Act (TCJA) of 2017 introduced a temporary 100% bonus depreciation provision that has since expired. The benefit is now gradually phasing out.

The Phase-Out Schedule and Rules

The 100% bonus depreciation provision ended on December 31, 2022, and a phase-out schedule is now in effect. The allowable bonus percentage decreases each year for property placed in service during that calendar year.

• 2024: 60%
• 2025: 40%
• 2026: 20%
• 2027: 0%

To be eligible, an asset must be “qualified property.” This includes property under the Modified Accelerated Cost Recovery System (MACRS) with a recovery period of 20 years or less, such as business vehicles, furniture, manufacturing equipment, machinery, and computer software.

A requirement is that the property must be “placed in service” during the relevant year to qualify for that year’s percentage. An asset must be ready and available for its specific use in the business. For instance, equipment bought in December 2024 but not installed until January 2025 would be subject to the 40% rate for 2025, not the 60% rate for 2024.

The rules also permit bonus depreciation for used property, provided the asset is new to the taxpayer. Qualified improvement property, which covers many interior upgrades to nonresidential buildings, is also eligible for bonus depreciation.

Calculating and Claiming Bonus Depreciation

A business determines the deduction by multiplying the asset’s cost basis by the applicable bonus percentage for the year it was placed in service. For example, if a business places a qualifying $100,000 piece of equipment into service in 2024, it can claim a bonus depreciation deduction of $60,000. The remaining basis is then depreciated over its regular lifespan using standard MACRS methods.

This deduction is reported to the IRS on Form 4562, Depreciation and Amortization. It is taken after any Section 179 expense deduction but before calculating regular MACRS depreciation.

Businesses also have the option to decline this tax incentive for any class of property. A taxpayer might choose to opt out to better manage taxable income over several years, especially if they anticipate being in a higher tax bracket. The election is made separately for each property class, such as 5-year or 7-year property.

Interaction with Section 179 Expensing

As bonus depreciation phases down, businesses are looking more closely at Section 179 expensing as an alternative. Section 179 allows taxpayers to expense the full purchase price of qualifying equipment and software, but the two provisions operate under different rules.

A primary distinction is their limitations. Section 179 has an annual deduction limit ($1,220,000 for 2024) and a total investment phase-out threshold ($3,050,000 for 2024). If a business’s total investment exceeds this threshold, the Section 179 deduction is reduced. The deduction also cannot exceed the business’s net taxable income for the year.

Bonus depreciation has no annual deduction limit, no investment spending cap, and can be used to generate a net operating loss. A common tax strategy is to apply the Section 179 deduction first, up to its limit. Then, bonus depreciation is applied to the remaining cost basis of the qualifying assets.

State Tax Treatment Considerations

A compliance challenge arises from how different states treat bonus depreciation. State tax codes do not automatically follow the federal Internal Revenue Code (IRC), so a large deduction claimed on a federal return may not be allowed at the state level, leading to different taxable income figures.

States fall into one of three categories regarding federal tax law. Some have “rolling conformity,” automatically adopting most changes to the IRC. Others use “static conformity,” conforming to the IRC as of a specific date and ignoring subsequent federal changes. The third group “decouples” from provisions like bonus depreciation, requiring a separate calculation for state tax purposes.

This lack of uniformity requires businesses to perform a state-specific analysis. For example, a state that decouples from bonus depreciation may require a taxpayer to add back the federal bonus deduction to state income and then depreciate the asset according to state rules. Because these rules are subject to frequent legislative changes, businesses must verify the current conformity status for every state in which they have a filing obligation.