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You just purchased a new computer or some office furniture for your business. And now you may be wondering, do you record these purchases as an asset or as an expense and what are the effects on your taxes of each option?
Small business owners who are keeping their books on a tax basis (they don’t have other reporting requirements such as GAAP) can chose to immediately expense something that is typically recorded as an asset as long as it is under the deminimis amount. This amount is $2,500 for businesses without audited financials and increases to $5,000 for businesses with audited financials.
It may not be beneficial to immediately expense these amounts even if you are allowed. It might be most beneficial for the business to spread out the depreciation over the life of the asset per the Internal Revenue Code. This can be especially beneficial if the income levels of the business are expected to increase in coming years and a higher tax bracket is expected for future years. Many small businesses however may not see much of a benefit in capitalizing the asset if the value of the total assets that falls under the deminimis amount is insignificant.
Another scenario in which this may be harmful is if the business is a flow through entity and the owner(s) are claiming the Qualified Business Income Deduction. In some instances the QBID can be limited by the value of assets that the company has (prior to depreciation). In these cases it may be beneficial to capitalize assets even if they fall under the deminimis limits.
When an asset is capitalized instead of immediately expensed to preserve the QBID accelerated depreciation can often be used to create the same taxable income result while still preserving the QBID. These accelerated methods include bonus depreciation and section 179 elections.
So when considering if you should categorize a purchase as an expense or an asset realize that there's not always a blanket rule you should apply across the board to all businesses. It really depends on the business's tax treatment, current income, and future income levels.