Understanding Section 179 and passive income

Section 179 of the Internal Revenue Code allows a taxpayer to elect immediate expensing on qualifying assets purchased during the year, rather than the default asset capitalization rules, which require the asset cost to be written off over several years.  Qualifying property is generally limited to tangible, depreciable, personal property which is acquired by purchase for use in the active conduct of a trade or business.

Section 179 expense is only allowed to be taken against active income, which includes wages and income from a business in which the taxpayer actively participates. This determination is made at the individual/1040 level, so even though Section 179 flows through on the business return (i.e. reported on the K-1), it may still be disallowed on the individual’s tax return if that person is a passive investor in the business and has no active income reported on that year’s tax return.

When preparing a company tax return in which some of the owners are passive, ShindelRock makes sure to evaluate whether it’s more beneficial to take bonus depreciation instead of Section 179. Bonus depreciation is a tax incentive that allows a business to immediately deduct a large percentage of the purchase price of eligible assets, such as machinery, rather than write them off over the “useful life” of that asset. Unlike section 179 rules, bonus depreciation does not have the “active income requirement”, which means that even passive investors can take advantage of this tax incentive.

Our analysis takes all owners into consideration, as well as potential other tax ramifications, such as states that don’t conform to Federal bonus depreciation, tax basis ordering rules, and/or Qualified Business Income Deduction (QBID) effects.

For more information or additional questions on this topic, contact a ShindelRock tax professional today.