Lodging Industry Tax Planning: Don’t Ignore the Role Depreciation Plays in Year-End Tax Planning
Over the next several weeks, lodging industry owners and investors will meet with their tax advisors for advice on how to lighten their income tax load—and there are plenty of tools available to do just that. From identifying credits and incentives, to choice of entity, to the timing of investments in the business, there’s a lot to consider.
One often overlooked aspect of tax planning is managing the deductions available through asset depreciation. Managed correctly, depreciation can have a significant effect on a profitable business’s taxable income. In addition, the Tax Cuts and Jobs Act (TCJA) enhanced many of these depreciation benefits. As you go through the tax planning process this year, don’t forget to consider the following opportunities to help reduce your current-year income tax.
Section 179 Expensing
Businesses that have invested in tangible personal property, like furniture or equipment, and some building improvements, like HVAC systems, may qualify for §179 expensing. Under §179 taxpayers may deduct the cost of qualified business property placed in service in the tax year, up to certain limits. The TCJA increased the limits for §179 expensing. For property placed in service during 2019, the deduction limit is $1.02 million, and it’s phased out dollar for dollar once the investment in eligible property starts to exceed $2.55 million.
Bonus depreciation allows a taxpayer that invested in qualifying business property during 2019, which generally would be capitalized and depreciated over an established useful life, to deduct 100 percent of the cost in the first year the asset is placed in service. Like §179 expensing, the TCJA made bonus depreciation more valuable. The bonus depreciation amount for 2019 has increased from 30 percent to 100 percent, and used property now qualifies in addition to new property. There’s no phaseout threshold for bonus depreciation, but other qualifying factors, including purchase or construction contract dates, apply.
Property that qualifies for 100 percent bonus deprecation includes assets eligible for the Modified Accelerated Cost Recovery System (MACRS) depreciation with a depreciation life of 20 years or less. In the lodging industry, investments in furniture, computers, equipment and other property should be analyzed by a tax professional to determine eligibility for bonus depreciation.
Cost Segregation Studies
For most lodging companies, real estate represents the most significant investment in the business. Building assets in this industry generally are depreciated over 39 years. However, there are opportunities to accelerate some of that depreciation. Cost segregation is an established tax planning tool that allows a building owner to identify portions of the building’s cost that can be allocated to shorter depreciable lives that may be eligible for bonus depreciation.
During a cost segregation study, engineers specifically trained in tax depreciation methods identify assets embedded in a building’s construction or acquisition costs that can be depreciated for tax over five, seven or 15 years rather than the standard 27.5 or 39 years. Those assets are then reclassified, allowing the building owner to accelerate depreciation of the property for tax purposes. Assets identified in a cost segregation study as qualifying for MACRS depreciation treatment of 20 years or less also may qualify for bonus depreciation. For property to be eligible for bonus depreciation, other qualifying factors apply, so taxpayers should consult a cost segregation professional with both engineering and tax expertise.
Taxpayers also are allowed to apply cost segregation retroactively on buildings placed in service in prior years. Taxpayers can catch up the accelerated depreciation in the current year without amending tax returns. Any real estate investment made in the last 15 years should be considered for cost segregation.
Deduction for Energy-Efficient Commercial Property (§179D)
Currently expired, §179D allows an immediate deduction of up to $1.80 per square foot for the installation of energy-efficient property, up to the cost of the qualifying property. This immediate deduction is in lieu of depreciating the property over generally a 39-year period. New construction or retrofit projects placed in service between 2006 and 2017 can qualify for the deduction. At the time of this article, the deduction hasn’t been extended for the 2018 or 2019 tax years. However, like cost segregation, building owners can claim the deduction retroactively without amending tax returns. So, projects that qualify and were completed in prior years that qualify for §179D may be applied to reduce a 2019 tax liability by catching up the accelerated depreciation in the current year.
Depreciation can be a powerful tax planning tool in the lodging industry and should be proactively managed. To learn more about how to use depreciation to manage your taxable income, reach out to your BKD trusted advisor or use the Contact Us form below.