The Tax Cuts and Jobs Act (TCJA) provides some changes to the recovery periods for certain property depreciated under the modified accelerated cost recovery system (MACRS) and the alternative depreciation system (ADS). This blog examines how the TCJA affects depreciation periods for nonresidential and residential properties, as well as improvement property. It also briefly discusses changes for bonus depreciation and Section 179 deductions.
Nonresidential and residential properties
The TCJA leaves intact the recovery periods for nonresidential real property at 39 years under the MACRS and 40 years under the ADS. For apartment buildings and other residential rental buildings, the recovery period is also unchanged at 27.5 years. However, the ADS recovery period for these properties is reduced from 40 years to 30 years for property placed in service after December 31, 2017.
Prior to the TCJA, the recovery period for qualified improvement property (QIP) is either 15 years or 39 years. If the QIP meets the definition provided for qualified leasehold improvement property (QLIP), qualified retail improvement property (QRIP), or qualified restaurant property (QRP), a 15-year recovery period will apply. Otherwise, the recovery period is 39 years.
After the TCJA, the separate definitions for QLIP, QRIP and QRP are eliminated. These categories will now be available and categorized as qualified improvement property (QIP). This term under the TCJA is generally defined as any improvement to the interior portion of a nonresidential real property that is placed in service after the building was placed in service. However, there are some exceptions.
In order to fit under the QIP category, the expenditures cannot be made for the enlargement of a building, the internal structural framework of a building, and any elevator or escalator. The recovery period for these expenditures will generally be 39 years.
In addition, due to a drafting error, the 15-year and 20-year (ADS) recovery period for QIP as intended by Congress is not reflected in the statutory language of the TCJA. Until a technical correction is made, QIP will not only be treated as 39-year nonresidential real property or 40-year under the ADS recovery period for property placed in service after December 31, 2017, but also ineligible for bonus depreciation.
Bonus depreciation and Section 179 deductions
As part of the new law, qualified property acquired and placed in service after September 27, 2017, and before January 1, 2023 is allowed a 100% bonus depreciation. The new law also expanded for used property to be eligible for this deduction, so long as the property was not used by the taxpayer at any time before acquisition and the property was not purchased from a related party.
For qualified property that was purchased prior to September 28, 2017, the 50% bonus depreciation rate will apply if the property is placed in service in 2017, and a 40% rate will apply if the property is placed in service in 2018. For written binding contracts for the acquisition of property, the bonus depreciation rate will be determined by the date the contract went into effect.
In addition, effective for property placed in service in tax years beginning after December 31, 2017, the Section 179 dollar and investment limitations are increased to $1 million and $2.5 million, respectively. The definition of qualified real property that taxpayers may elect to treat as Section 179 property is also expanded to include roofs, HVAC, security systems, fire protection and alarm systems.
Although the TCJA provides many expanded benefits for taxpayers, it may be important for restaurant owners to note that the new code Section 179 provision proves to be less favorable. Under prior law, external and internal improvements to a restaurant building were considered 15-year property that qualified for expensing under the qualified real property category. Under the new law, external improvements will no longer qualify, as it does not meet the defined requirements of qualified improvement property. As a result, these improvements will generally be depreciated over a 39-year recovery period.
The TCJA gives businesses a lot to think about. Discuss the tax law changes with your tax advisor to evaluate the right options for you.