The United States Internal Revenue Service (IRS) provides tax deductions for the costs of buying assets in a business. These deductions are formally known as depreciation, which allows you to deduct a percentage of the price of your purchased asset every year you are using it for your business. Now, you will also have the option to speed up the schedule, which is known as accelerated depreciation. This way you can take higher deductions at present in exchange for lower deductions in the future. While this option is said to have a good intent, it does not come without criticism. Here are the advantages and disadvantages of accelerated depreciation:
List of Advantages of Accelerated Depreciation
1. It reduces start-up deductions.
This option can reduce start-up costs by increasing deductions that are taken during your business’s first years of operation. This will allow you to reduce your overall business tax debt, which means that you will have more money that you can use for marketing, purchasing equipment and growing your company. This also means that you will have increased chances to succeed in the market.
2. It allows you to take a higher upfront deduction.
Another huge advantage of accelerated depreciation is that it allows you to immediately take a higher deduction, and so, you can reduce your current tax bills. This is really helpful especially when you have a new business that might be having problems with short-term cash flow. Also, by maximizing deductions today, you will be able to avoid delayed deductions in the future when it happens that your business no longer exists.
3. It works as a tax deferral.
As this depreciation system creates increased deductions, your business will be able to defer a portion of its tax debt. If your company is trying to reduce taxes that it currently owes, deferring tax debts with the use of this approach will provide you additional time before the time when you must pay your taxes in full amount.
List of Disadvantages of Accelerated Depreciation
1. Its lower future deduction can be a problem for growing businesses.
Accelerated depreciation only speeds up the recognition of deductions and does not create larger tax deductions, with higher upfront deductions coming at the expense of lower deductions in the future. Now, this can be a problem for a growing business, where its income would move it into higher tax rates. By accelerating deductions, you will basically have fewer options to reduce your taxes in the future, as your business would be in a higher tax bracket.
2. It is regarded as a clear preference.
Those who oppose this system argue that it is a clear preference that allows businesses to deduct expenses quicker than assets actually wear out. They say that this can distort businesses decisions of what, when and how much to invest. Moreover, the current system is said to be tremendously outdated and needlessly complex.
3. It poses the risk of recaptured depreciation.
Under accelerated depreciation, you can decide to sell a long-term asset before it is deemed worthless based on its depreciation schedule, but if you sell it for more than its existing accounting value, your profit will be regarded as recaptured depreciation. Now, the IRS will take back your deductions because the asset was not able to lose value as quickly as expected, where your recaptured depreciation profits will be taxed as income.
By weighing down the advantages and disadvantages of accelerated depreciation, you already know what to do when you are presented with such an option.
Natalie Regoli, Esq. is the author of this post and the editor-in-chief of our blog. She received her B.A. in Economics from the University of Washington and her Masters in Law from The University of Texas School of Law. In addition to being a seasoned writer, Natalie has almost two decades of experience as a lawyer and banker. She is a child of God, devoted wife, and mother of two boys. If you would like to reach out to contact Natalie, then go here to send her a message.