Cost Recovery Modifications Under Tax Cuts and Jobs Act
The Tax Cuts and Job Act has modified various cost recovery rules under Sec. 179 and 168 under Rev. Proc. 2019-8. Signed into law in December 2017, its end goal is to eliminate personal exemptions, increase standard deductions, and among many other updated guidance for taxpayers and business owners.
Sec. 179 – Deducting Expenses
Under Sec. 179, this deduction applies to tangible personal property owned by businesses who can deduct the full purchase price of qualified equipment and software purchased or financed during the tax year.
Before the TCJA, three qualified real property (QRP) categories for “immediate expensing” included leasehold improvement property, restaurant property, and retail improvement property.
For an improvement to fall under the categories, the improvement had to be placed in service more than three years.
The TCJA has since expanded the QRP category to a broader term to qualified improvement property (QIP). To be considered QIP, it is any improvement to an interior portion of a building.
The nonresidential rental property includes improvements towards roofs, fire protection, alarm systems, HVAC, and security systems qualifies as an improvement. These improvements apply to property placed in service in tax years beginning after 2017.
Sec. 168 – Deducting Depreciation
TCJA also enforced taxpayers and businesses to use alternative depreciation system (ADS) under Sec. 168(g). This requirement allowed businesses to opt to retain their full interest expense deduction by electing out Sec. 163(j) that is “electing real property trades or businesses” or “electing farming businesses.” Instead of other depreciation methods, ADS requires a more extended recovery period.
The required types of property that can depreciate under ARS include1:
- Any tangible property used outside the U.S.;
- Any tax-exempt use property;
- Any tax-exempt bond-financed property;
- Certain imported property covered by executive order (Sec. 168(g)(6)); and
- Any property to which an election to use the ADS applies (Sec. 168(g)(7)).
Two new and additional types of property were added. As defined in Sec. 168(g)(7)(B) and Sec. 163(j)(7)(C), they are2:
1. Nonresidential real property, residential rental property, and qualified improvement property held by an electing rental property trade or business.
2. Any property with a recovery period of 10 years or more, held by an electing farming business.
*Nonresidential real property has a recovery period of 39 years and are not eligible for bonus depreciation.
Rev. Proc. 2019-8
When switching to ADS, Rev. Proc. 2019-8 provides detailed guidance for “electing businesses” on several rules3.
- How to make an election to treat the qualified real property as Sec. 179 property;
- How a business making a Sec. 163(j) election can correct its previous failure to shift to the ADS; and
- What ADS deprecation tables are available for residential rental property place in service after 2017.
The recovery period for residential rental property under ADS is now 30 years.
More modifications in the cost recovery sector will occur in the future as TCJA continuously updates its guidance for taxpayers and business owners.