Bonus Depreciation Rules Set To Expire At Year End

By James Gagne

In a 2004 report, Long-Term Machinery Forecast, researchers at Yengst Associates estimated that the combined IC and electric industrial lift truck market will experience an 11% growth in sales in 2005 over 2004. This growth trend has already begun, as the Industrial Truck Association (ITA) reports that North American industry shipments through June of this year were up 26% over 2003 comparable shipments. These statistics are probably no surprise to the many lift truck distributors experiencing increasing customer demand for both the rental and purchase of lift truck units.

One of the factors driving the increase in new equipment purchases is the bonus tax depreciation that is part of the Jobs and Growth Tax Relief Reconciliation Act of 2003. Since inventory is not eligible for bonus depreciation under the Act, dealers are left out of many of the tax benefits of the specific provisions designed to encourage new equipment purchases. However, equipment held for dealer rental fleet use is eligible for bonus depreciation, and dealers should consider the Act's financial and tax impact.

While some distributors may plan to wait until early next year to contemplate expanding their rental fleets, the bonus depreciation rules set to expire at the end of 2004 are reason to closely evaluate your market needs right now. For qualifying new equipment purchased by corporate taxpayers in 2004, as much as 60% of the equipment cost can be depreciated in the 2004 tax year. Allowable first year depreciation for the 2005 tax year will return to 20% as the bonus depreciation benefit expires.

As you evaluate your rental fleet equipment needs for 2004 and 2005, it is important to understand the impact that bonus depreciation has related to the timing of 2004 and 2005 purchases. Various finance structures exist that allow you to maximize the existing bonus depreciation benefits while maximizing your cash flow position.

Bonus Depreciation Defined
The Act includes a 50% bonus depreciation benefit, designed to promote immediate new investment in certain equipment, property and leasehold improvements. Owners of qualifying new equipment can take the full 50% depreciation bonus provided the equipment is acquired and put into service in 2004, even if the “in service” date is December 31, 2004.

The remaining 50% of the equipment value is then depreciated using the normal Modified Accelerated Cost Recovery System (MACRS) depreciation. For example, for a five-year property with an original equipment cost of $100,000, first year depreciation is $60,000 [(50% x $100,000) + (20% x $50,000)], versus $20,000 under the old rules (20% x $100,000).

Further, used equipment that is refurbished or upgraded may be eligible for bonus depreciation for the cost of refurbishment or upgrade. Any equipment to which the alternative depreciation rules apply is excluded. As a side note, leasehold improvements to buildings older than three years are also eligible.

2004 vs. 2005 Comparison
With very limited exceptions, the bonus depreciation rules are set to expire on December 31, 2004, and revert back to the standard MACRS rates. By accelerating your capital expenditures to the fourth quarter of 2004 rather than waiting until 2005, your company can take advantage of the bonus depreciation rules set to expire at year-end. The table on page 111 highlights the extent of the potential savings which could be realized with respect to a five-year property asset when the company is in a taxpaying situation and owns the asset for tax purposes.

As shown in the table, taking advantage of the 2004 bonus depreciation schedule results in a 40% higher depreciation expense in the first year. Translating this difference to tax savings, assuming a tax rate of 40%, $16 of tax per $100 of equipment cost are saved in the first year.

Rental Fleet Financing
Accelerating rental fleet purchases into 2004 does not necessarily mean accelerating the cash outflow into 2004 as well. Talk to your lender about your rental fleet needs. Many lenders will provide rental fleet financing for distributors and allow scheduled skip payments as a cash flow management tool. If your company needs to minimize its 2004 cash outflow for the acquisition of additional rental fleet equipment, ask your lender about scheduling the first loan payment in 2005. For instance, a dealer might purchase rental fleet equipment in the fourth quarter of 2004 to take advantage of the 50% bonus MACRS and request that the lender schedule the first loan payment in the first quarter of 2005.

Conclusion
As the year-end quickly approaches, the sun is beginning to set on the bonus depreciation benefits provided under the Jobs and Growth Tax Relief Reconciliation Act of 2003. Bonus depreciation has the ability to materially impact your bottom line tax position and your cash flow for 2004 and 2005 relative to your rental fleet equipment needs. Structured financings are available that will assist you in taking advantage of bonus depreciation. As you contemplate your equipment needs and the timing of those purchases, contact your accountant and tax advisors to discuss the tax implications of bonus MACRS depreciation and contact your financial professional to discuss financing structures to meet the needs of your business.

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The MHEDA Journal • Fourth Quarter 2004 • Volume 33, No. 4 • Contents are Copyright © Data Key Communications, Inc.
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