Bonus Depreciation, Pass-Through and R&D Deductions Could Help SMBs

Gene Marks, host

Hey everybody, it's Gene Marks and welcome to this week's episode of the Paychex THRIVE Week in Review. This is where we take three items in the news that impacts your small business and mine and we talk about them a little bit. Now, this week's episode is a little bit special. We're not going to take three items, we're going to take one item, and that item has to do with taxes because taxes is what's really been dominating the news this past week, particularly when it has to do with small businesses.

The House of Representatives passed their version of the GOP's big, beautiful tax and spending bill just this past week. Now, that version is now going to the Senate. The Senate is going to be deliberating this bill over the next week or two, at least. They will pass their own bill, hopefully, and then that bill goes to reconciliation between the House and the Senate before it's sent to the president's desk for signing.

The goal is to have a bill signed no later than July 4. It is in my opinion that we are going to reach that goal, so we can all expect it.

Although there are still a lot of deliberations to be happening about this bill, most of them are focused on some big picture things like deficits and our national debt, spending on Medicare, and even certain localized things like the state and local sales tax deduction, tax deduction that a lot of people are talking about, as well. So those things still need to be ironed out.

However, there are some provisions, quite a few provisions in this bill that impact your business and mine, and there are at least three big provisions that I believe will absolutely survive through the final bill. So, it's well worth talking about them now so we can start thinking about them and making our plans, okay?

So, the first has to do with bonus depreciation. Right now, today, if you were to purchase a new asset like machinery and equipment or furniture and fixtures or computer hardware, computer software, vehicles for the business use for your business, you would only be able to deduct 40% of that cost in the first year and then you would have to amortize it over the remaining life of the asset.

Next year, if nothing changes, you would only be able to deduct 20% of that cost in the first year and the remainder gets amortized over the life of the asset.

However, in this new bill that just passed by the House – and I believe will also remain in the Senate –now you will be able to deduct 100% of these assets again, machinery, equipment, business use vehicles, furniture and fixtures, computer hardware, computer software. You will be able to deduct 100% of the cost of these items in the first year of purchase.

Now, there are some stipulations about this that you need to know. Number one, this is not a permanent change. is a temporary change through 2029. So, we can take advantage of it for the next five years. Number two, it goes back to any purchases made from Jan. 19, 2025, onward. Number three, if you, you, you can't take the deduction unless you put the asset into use. It's got to be in service. So, if you buy something on Dec. 30 of this year, you won't be able to take the deduction for it unless, again, it's in service before the end of the year. So, you got to be planning out those purchases well in advance.

And finally, because of that in-service rule, there is a benefit to you, which means that you can finance these equipment or asset purchases – and yes, I know interest rates are relatively higher than they've been historically. But, if you finance this stuff and pay it off in the future, you can still take the full deduction in the first year as long as you put that asset into service during this year.

So, lot of things to consider and a lot of big benefits now for business owners as you're considering making your capital acquisitions this year. This is a great tax incentive to do just that. So, you want to be huddling with your accountant. So that's number one.

Number two has to do with the small business pass-through deduction. It's otherwise called the qualified business income deduction or the Section 199A deduction that us as accountants talk about. This deduction, which became a law back in 2017, allows a business that's a pass-through entity – an S corporation, or a partnership, or a limited liability company as examples – you can deduct 20 % of your income from your business before that income passes through to your individual return.

So, right now, if you make a $1,000 in your business this year, only $800 would be taxable on your individual return at individual rates as that income passes through. Well, that deduction is going to be ending at the end of 2025, and it will be zero. We won't be allowed to take that deduction anymore.

However, in the House bill that's going to the Senate, and which I do expect to survive and be passed by the Senate this stipulation, that small business tax deduction – that pass-through deduction – will not only remain, but number one, it is being made permanent so it's not just being temporarily extended and number two, the deduction rate is increasing from 20% to 23%.

So, assuming this gets passed – I think there's a high probability that it will – you will not only get a bigger tax deduction, it will be a permanent tax deduction and also some of the income thresholds have been increased so that more business owners can take advantage of this deduction, as well. So, it's a big deal for a lot of business owners.

You want to talk to your accountant because now that this deduction is being made permanent, it may be a good idea to take a closer look at the business structure of your company and the tax structure of your company. Maybe it makes sense to convert from being a C corporation to an S corporation or a partnership because now over the longer term, you'll have more tax benefits for doing that. I don't know. It depends on your own personal tax situation, but this specifically should encourage you to talk more to your accountants and figure out what you want to do.

So, number one is the bonus depreciation. Number two is that a pass-through deduction, and number three is a new deduction or a revised deduction for research and development costs.

Now, as of 2022, if you incurred any research and development costs in your business, you were not allowed to deduct them all in that first year. You had to amortize them over five years. You can only deduct 20% the first year and then the remaining over the next four years.

Research and development costs include materials, supplies, outside contracting, internal employees, as well. Let's assume that you're working on a new product or a new product idea or a new market and you hire outside consultants or a marketing firm or you're doing tests on samples and materials. Those are the kinds of things that could be eligible for the research and development tax deduction.

Well, in this new bill that was passed by the House of Representatives, you can now deduct 100% of those costs in the first year, which means that whatever you incur, you no longer have to just take a 20% deduction and then amortize it over the next four years, you can deduct it all in just the first year.

So, this applies to all businesses. You don't have to necessarily be in the pharmaceuticals industry to take advantage of research and development. I have lots of clients, manufacturers, distributors that working on new products and product lines, and they have R&D related costs. And now they can take those entire costs and deduct them all in the first year instead of being forced to amortize them over the next few years.

Now look, there are lot of other things that are going on in this bill that will affect businesses, as well. There's going to be a limit on interest that can be deducted. There's an increase in the exemption now that's being proposed for estate taxes, which can really help with estate and succession planning, as well. And there's also some new changes to charitable deductions that we're allowed to take.

I do expect this bill to pass. I do expect there to be some changes, but I'm not expecting to see significant changes being made to the three big items that I just discussed here. So, keep a close eye, watch closely, talk to your accountant. This is going to happen. It's going to be real and it's going to motivate you to make some big decisions about spending in your business that will be tax incentivized once this becomes reality, which I do expect to happen no later than July 4.

You've been watching and listening to the Paychex THRIVE Week in Review. My name is Gene Marks, and I hope this information has been helpful.

If you need any tips or advice or help in running your business, sign up for a Paychex THRIVE newsletter. Go to paychex.com/thrive. In the meantime, I will be back with you next week with three items in the news that impacts your business. Hey, might be taxes again for all we know – it's ever changing – but for sure I'll be back with some good news items that impacts your business and stuff that we will talk about so that we are all clear on how this impacts your business so we can run our businesses as effectively as possible.

Thanks so much for watching and listening. We'll see you again next week. Take care.

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