Business Depreciation 101: What It Is and How It Impacts Your Taxes

If you run a business, chances are you’ve spent money on things that keep it running smoothly — maybe a new computer, point-of-sale system, delivery vehicle, or even a building. These aren’t everyday expenses you write off immediately. Instead, they’re considered business assets, and the cost of those assets is typically deducted over time through a process called depreciation. 

Understanding how depreciation works — and the choices you have each year — can make a big difference in your tax bill and cash flow. Here’s what you need to know. 

What Is Depreciation? 

Depreciation is how the IRS lets you deduct the cost of certain business assets over their useful life — the number of years they’re expected to last. For example, office equipment might depreciate over three, five or seven years, while commercial building or leasehold improvements can stretch to 15 years, and residential rentals can go for 27.5 years. 

A good rule of thumb: if you spent more than $2,500 on an item and it’s something you’ll use in your business for multiple years, it’s worth reviewing whether it should be depreciated rather than deducted all at once. 

Each year, you claim a portion of that asset’s cost as a deduction until you’ve fully written it off. The amount you can deduct in the first year depends on when the asset was placed in service. If you start using it in January, your first-year deduction is larger than if you start using it in December — but either way, by the end of its useful life, the asset’s cost will have been fully deducted. 

Section 179 and Bonus Depreciation: Accelerating Your Write-Offs 

In many cases, you don’t have to stick to the standard schedule. When you purchase an asset and place it in service, you may be eligible to deduct more of the cost in the first year using either Section 179 or bonus depreciation. 

• Section 179 deduction: Allows you to deduct all or part of the asset’s cost in the year you place it in service, up to annual limits set by the IRS

• Bonus depreciation: Lets you deduct a large percentage (sometimes up to 100%, depending on the tax year) of an asset’s cost in the first year. Bonus depreciation rules have changed over time, so the available percentage varies. 

These accelerated depreciation methods can be a valuable tax strategy — but they’re not always the right move. 

Choosing the Right Depreciation Strategy 

Deciding whether to take accelerated depreciation or stick with the standard schedule depends largely on your cash flow and tax situation. 

If your business is new or cash is tight, writing off more upfront can reduce your taxable income and free up cash now. But keep in mind: once you’ve taken that deduction, you can’t use it in future years. If your income increases down the road, you may have fewer expenses to offset it — and potentially a higher tax bill.

The good news is, you don’t have to choose the same approach for every offset. For example, you might elect bonus depreciation on one asset, Section 179 on another, and use the standard schedule for a third. Each asset is elevated on its own, and the choice is made each year you place a new asset into service. 

What Your Accountant Needs to Know

Accurate depreciation depends on good recordkeeping. For every asset you purchase, your tax preparer will need to know: 

• The date purchased 

• The cost of the asset 

• The date it was placed in service (i.e., when you started using it)

• If you sold or traded in the asset, the sale or trade-in amount and date

For example, if you bought equipment in December but didn’t start using it until January, you generally can’t claim depreciation until the following year. And if you trade in an old asset for a new one, additional reporting is required to properly adjust your asset records and calculate depreciation on the new purchase. 

Make the Most of Your Depreciation Strategy 

Depreciation isn’t one-size-fits-all — and the right approach depends on your cash flow, income, and long-term goals. If taking a larger deduction now won’t actually change your tax situation, it may be smarter to spread it out and save those deductions for a future year. On the other hand, if accelerated depreciation could qualify you for tax credits or improve your cash flow, it might be worth taking advantage of. 

Have new assets you need to depreciate this year? Contact us, and we’ll help you make the most informed decision for your bottom line.