REDUCE YOUR TAXES BY DEDUCTING THE COST OF BUSINESS EQUIPMENT

Almost all businesses have at least two things in common. They experience cycles in which their income rises or falls, and they periodically need to replace worn out or obsolete equipment with new equipment. Although businesses cannot completely eliminate the inevitable slow periods in the cycles, through proper planning they can satisfy their need for new equipment while also reducing their taxes during years in which their income increases.

Discussions about income taxes generally revolve around the Internal Revenue Code (the "Code"), and this case is no exception. Although the Code allows income tax deductions for the cost of new equipment, it generally requires businesses to take the deduction over three or more years, depending on the type of equipment. These deductions are called depreciation deductions.

Section 179 of the Code creates an exception to the standard depreciation deduction rules. In some instances, Section 179 allows an income tax deduction for the entire cost of new equipment in one year rather spreading out the deduction over three or more years.

During 2002, businesses can deduct up to $24,000 for the cost of equipment purchased at any time during the year. (Strangely, Section 179 deductions are not allowed for air conditioning or heating equipment.) The deduction increases to $25,000 for 2003 and subsequent years. Acquisition costs exceeding these amounts may be carried forward and taken in later years. However, Section 179 imposes the following five technical requirements that businesses must satisfy to take the deduction:

• The equipment must constitute property as defined by Section 179. Property under Section 179 includes only items that generally last a while. Items that ordinarily are quickly consumed are excluded. For example, a photocopier generally continues working for a while, while in comparison the toner ordinarily is quickly consumed. The photocopier, but not the toner, would constitute Section 179 property.

• The property must be acquired as defined by Section 179. Property is acquired under Section 179 only if it is purchased from a vendor who is unrelated to the purchaser. Property purchased from a spouse, parent, child, or a company owned fifty percent or more by the purchaser is not deemed to have been ""acquired"" under Section 179 and will not qualify for the deduction. Property the purchaser receives through barter, gift, or inheritance is also not deemed to have been ""acquired"" under Section 179.

• The property must be timely placed in service. Section 179 deductions are available only if the acquired property is placed in service during the year of acquisition. Property is deemed to be ""placed in service"" when it is ready and available for use by the business. Generally, the property must be operational and at the work site. The deduction is the same whether property is placed in service on the first or last day of the year. Property that is paid for but is not delivered, or property that is even if paid for and delivered but is not operational, is not ""placed in service"" under Section 179 and therefore does not qualify for the deduction.

• The property must be used for an active trade or business. Section 179 property must be used in an active trade or business. An active trade or business includes any activity that is conducted with the intent to make a profit. Most businesses clearly meet this test. Doubts sometime arise when an activity resembles a hobby, such as sailing. Owning a sailboat is probably not an ""active trade or business"" unless the owner transports paying passengers or rents the boat often enough and for a high enough price so that there is a reasonable chance of making a profit. If, in the year of acquisition, a purchaser uses property for both business and non-business uses, the deduction is reduced in proportion with the non-business use, provided that the business use is at least fifty percent. The deduction is not available, however, if, during the year of acquisition, the property is used more than fifty percent for non-business purposes, even if the property is thereafter shifted entirely to business use.

• The total annual acquisition cost for all property must not exceed $200,000. Section 179 is fully available only if the cost of all property the business acquires and places in service is less than $200,000 per year. Because Congress intended that Section 179 should apply primarily to small businesses, the deduction is reduced dollar-for-dollar to the extent that the equipment acquisition costs during any year exceed $200,000. For example, if all the property a business acquires and places in service during 2002 costs $210,000, the Section 179 deduction is reduced from $24,000 to $14,000. (The $24,000 Section 179 deduction is reduced by $10,000, which is the excess beyond the $200,000 acquisition limit). If the acquisition costs during 2002 were as $225,000, the Section 179 deduction would be zero.

Operating a successful business is no easy task, and making every dollar count is crucial. The Section 179 tax deduction can help ease these financial burdens of business owners who know how the tax code can work for them.