North Dakota State University
NDSU Extension Service

The Tax Relief Reconciliation Act of 2003

Extension Agribusiness Handout, September 2003

Dwight Aakre, Extension Farm Management Specialist

Depreciation

Recovering the cost of eligible machinery, equipment, buildings and livestock by deducting a portion of the cost as a business expense annually over  a specified period of time. 

The Tax Relief Reconciliation Act of 2003 impacts the timing of the deduction, not the amount of the deduction. the total amount of eligible depreciation remains the same. For purchases that do not involve a trade-in, the total purchase price is the tax basis to be depreciated. Purchases that involve a trade-in have a tax basis for depreciation determined by adding the cash portion of the purchase price plus the remaining un-depreciated basis in the machine traded in. The impact of this legislation is to increase the percentage of depreciation that may be deducted in the first year of use. This is accomplished through changes in the Section 179 Deduction and the Bonus Depreciation provisions.

Section 179 Deduction (new and used purchases)

Under Section 179 of the Internal Revenue Code, you can choose to recover all or a part of the cost of certain qualifying property, up to a limit, by deducting it in the year you place the property in service.

The expense method depreciation annual allowance, which was $25,000 for 2003, has been increased to $100,000 for tax years 2003, 2004 and 2005. thereafter, the limit returns to  $25,000 unless there is further legislation to change the amount. This deduction applies to new and used purchases.

The phase-out for eligible property is increased to $400,000 from $200,000 for the same tax years. The phase-out applies, dollar for dollar, to qualifying property placed in service each year above the phase-out amount. Example:  If you purchased $450,000 of seven-year property in 2003, your eligibility for Section 179 Deduction would be limited to $50,000.

If you buy qualifying property with cash and a trade-in, its cost for purposes of Section 179 Deduction includes only the cash you paid.

The dollar limit ($100,000) and the phase-out threshold amount ($400,000) will be adjusted for inflation for calendar years 2004 and 2005. The dollar limit will be adjusted in $1,000 increments and the phase-out amount will be adjusted in $10,000 increments.

Section 179 applies to machinery, equipment, breeding livestock, grain bins, agricultural fences and single purpose livestock or greenhouse structures.

Bonus Depreciation (only new purchases qualify)

After you have taken the Section 179 Deduction, you can take a bonus depreciation of 50 percent of the remaining value if the purchase was made after May 5, 2003. For purchases made prior to May 6, 2003, bonus depreciation of 30 percent applies. The 50 percent bonus depreciation applies to tax years 2003 and 2004 only. If you do not wish to claim the bonus depreciation, you must make this election by attaching a statement to your tax return indicating you elect not to claim the allowance.

Example: Purchase of a new combine in July 2003 for $200,000 with no trade-in.  Objective:  to maximize first year deductions.

Don't squander your depreciation.

You may be able to eliminate a tax bill this year but it may not be the best management decision in the long run. the tax bill lowers marginal tax rates, boosts the child tax credit and increases the standard deduction for married couples. A family of four (with two child credits) can have an adjusted gross income of almost $40,000 and not owe any federal income tax. If this is all self-employment income there would be a self-employment tax of approximately $6,000 however.

If your net earnings from self-employment is above $87,000, that portion above this level is not subject to the 12.4 percent social security tax. Increasing first year depreciation when your income is above this level  may yield less tax savings than if the extra depreciation were saved for future years. This would depend on projected income in the future relative to this year.

1.  Is your estimated 2003 net income significantly above this threshold?
2.  Is your typical net income at or below this threshold?

If you answer yes to both questions, you will want to be cautious about accelerating deductions.

Extension Agribusiness Handout, September 2003

NDSU Extension Service, North Dakota State University of Agriculture and Applied Science, and U.S. Department of Agriculture cooperating. Sharon D. Anderson, Director, Fargo, North Dakota. Distributed in furtherance of the Acts of Congress of May 8 and June 30, 1914. We offer our programs and facilities to all persons regardless of race, color, national origin, religion, sex, disability, age, Vietnam era veterans status, or sexual orientation; and are an equal opportunity employer.
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