Thanks to the IRS and changes in federal law, the rules governing bonus depreciation in cost segregation have continued to transform over the years. This article reviews the most significant recent changes and discusses their implications. (Trigger warning for non-CPAs: the discussion is highly technical!)
General rules for bonus depreciation
The IRS Code Section168(k)(7) election: This is an election to not take bonus depreciation. If the taxpayer didn't elect out, they are required to take the bonus depreciation on the property.
For 2016 and 2017
For property that was placed in service in 2016 or 2017, IRS Revenue Proclamation (Rev. Proc.) 2019-33, Section 5.02 Section – Deemed Election states:
… a taxpayer that timely filed its federal tax return for the 2016 taxable year or the 2017 taxable year also will be treated as making the §168(k)(7) election for a class of property that is qualified property acquired after September 27, 2017 by the taxpayer and placed in service by the taxpayer during its 2016 taxable year or 2017 taxable year, if the taxpayer: (a) On that return, did not claim the 100-percent additional first-year depreciation for that class of property;…
For the tax year 2017, if you’re taxpayer, you need to revoke the 168(k)(7) election. You can do so using Rev. Proc. 2020-50 (or Rev. Proc. 2020-25). Under Section 6 of Rev. Proc. 2020-50, you revoke the 168(k)(7) election by filing:
- A federal amended income tax return or amended Form 1065 for the placed-in-service year of the property on or before December 31, 2021, but in no event later than the applicable period of limitations on assessment for the taxable year for which the amended return is being filed; or
- A Form 3115 with the taxpayer’s timely filed federal tax return for the first, second, or third taxable year succeeding the 2016 taxable year or the 2017 taxable year.
For 2018, 2019, or 2020
For property placed in service in 2018-2020, there was no deemed election out of bonus depreciation for these years. If the taxpayer failed to take bonus depreciation and qualified, then they are using an impermissible method. Section 4 of Rev. Proc. 2020-50 allows the taxpayer to correct the impermissible method to a permissible method and thereby take the bonus depreciation (even if the property was only placed in service for one year, which would normally not be a method that needs to be changed) by filing:
- A federal amended income tax return or amended Form 1065 for the placed-in-service year of the depreciable property on or before December 31, 2021, but in no event later than the applicable period of limitations on assessment for the taxable year for which the amended return is being filed
Note: you may want to file amended returns for this, as it may generate NOLs that can be carried back to prior years under the CARES Act.
- A Form 3115 with the taxpayer’s timely filed original federal income tax return or Form 1065 under the automatic change procedures in Rev. Proc. 2015-13. Rev. Proc. 2015-13 requires a timely filed (including extensions) original income tax return for the requested year of change. It also provides a six-month window if you filed an original non-extended return and failed to include Form 3115; you can go back and file Form 3115 with an amended return to correct it.
As final regulations specify, the election out has to be made on your original return. If you missed bonus depreciation and discovered it in a later year, you can amend if you catch it in 2022. If you catch it in 2023 or later, file 3115 under Rev. Proc. 2015-13.
This chart illustrates how the new changes to bonus depreciation rules work
As bonus depreciation rules continue to change, we’ll be reporting it in this space. Stay tuned!