The new tax and spending legislation referred to as the One Big Beautiful Bill Act (OBBBA) makes permanent the Sec. 168(k) 100% first-year bonus depreciation deduction. Real estate businesses now can immediately deduct the full cost of eligible property, rather than spreading out depreciation deductions over several years.

Bonus Depreciation in a Nutshell

Bonus depreciation generally refers to the amount of depreciation a business can deduct on eligible assets in the year they are placed in service. Under the OBBBA, businesses can deduct 100% of the cost of qualified property acquired and placed in service after Jan. 19, 2025. Qualified property placed in service after that date, but acquired before it, is eligible for only the 40% first-year deduction allowed under the Tax Cuts and Jobs Act.

Qualified property includes:

• Property with a recovery period of 20 years or less (for example, machinery, equipment, furniture, and certain vehicles);
• Depreciable computer software;
• Qualified improvement property (QIP), which refers to interior improvements to nonresidential property (including certain short-term rentals), excluding elevators, escalators, interior structural framework and building expansion; and
• Land improvements (for example, swimming pools, paved parking areas, docks, and fences).

The IRS automatically applies bonus depreciation to qualified property. Businesses that prefer a longer depreciation period must elect out of the treatment. Elections apply to all qualified property in the same class of property that are placed in service in the same tax year (for example, all five-year MACRS property).

Bonus Depreciation vs. Sec. 179

Bonus depreciation is sometimes confused with Sec. 179. But rather than a first-year deduction, the latter is more accurately described as first-year expensing.

Under Sec. 179, businesses can expense 100% of the purchase price of new and used eligible assets, including:

• Software;
• Computer and office equipment;
• Certain vehicles and machinery;
• QIP; and
• Improvements to nonresidential real property (including certain short-term rentals), including roofs, heating, ventilation and air-conditioning property, fire protection and alarm systems, and security systems placed in service after the nonresidential real property was first placed in service.

Land improvements are not eligible.

The OBBBA increases the Sec. 179 expensing limit to $2.5 million, effective for 2025; no acquisition date requirement applies. It also raises the phaseout threshold to $4 million, above which the deduction begins to phase out dollar-for-dollar. Bonus depreciation is not subject to these limits.

In addition, Section 179 deductions are limited to taxable income, but excess amounts may be carried forward or deducted as bonus depreciation. Bonus depreciation, by contrast, can be used to create losses that businesses can carry forward.

Depending on various factors, it may be advisable to apply Sec. 179 to the extent possible for assets with longer lives (for example, QIP) and reserve bonus depreciation for the excess and for assets with shorter lives.

Entity Structure Considerations

Both pass-through entities and C corporations can claim bonus depreciation. The deduction for pass-throughs is claimed on the tax return of individual shareholders or partners, while corporations take the deduction at the entity level.

Pass-through owners should bear in mind that bonus depreciation reduces their taxable income. Taking bonus depreciation, therefore, could reduce their qualified business income (QBI) deduction, which is limited by the taxpayer’s taxable income.

Potential Pitfalls

The IRS’s recapture rules require businesses and real estate investors to increase their gain on the sale of depreciable business assets by the amounts previously claimed as depreciation. The recaptured depreciation generally is taxed as ordinary income. If bonus depreciation is claimed, and the asset is sold before its recovery period has ended, the amount subject to recapture will be greater than if depreciation were spread out over the full period.

Bonus depreciation also can create passive activity losses for business owners who do not materially participate in the business. These losses generally can offset only active income (for example, wages), not passive income.

Further, states take different approaches when it comes to conforming with the federal tax law. It is important to know how the relevant state will treat federal bonus depreciation deductions.

Tax Planning Tips

Although bonus depreciation is not available for commercial real property, which is depreciated over 39 years, it can apply to a building’s components. A cost segregation study can identify components eligible for bonus depreciation or shorter recovery periods (5, 7, or 15 years), accelerating deductions and improving cash flow by lowering current-year tax liabilities.

Businesses should align their bonus depreciation strategy with year-end tax planning and income forecasting. Since depreciation affects income-based deductions like the QBI deduction, timing matters. If higher future tax rates are expected, preserving depreciation deductions may yield greater tax savings.

If you have any questions or concerns, please contact your ORBA Advisor or Tyler Adams at [email protected] or (312) 670-7444 to review your personal tax situation. Sign up here to receive our blogs, newsletters and Client Alerts.