The tax words, in one line each
- Section 179: a rule that lets a business deduct the cost of qualifying equipment in the year it starts using it, up to a yearly limit.
- Bonus depreciation: a separate rule that deducts a set percent of the cost in year 1. It has no income limit.
- Regular depreciation (MACRS): the standard schedule that spreads the cost over 5 or 7 tax years.
- Phase-out: the Section 179 limit shrinks once you buy more than the threshold in one year.
- Income limit and carryforward: Section 179 cannot go past the business's taxable income. The unused part moves to next year.
- Recapture: when you sell, the deductions you took are taxed back as ordinary income. If business use falls to 50% or less, part of the deduction is added back too.
- True lease: a lease the IRS treats as renting. A $1 or token buyout looks like a purchase instead, and then the payments are not simply deductible.
- Heavy SUV cap: Section 179 covers only a set amount of an SUV over 6,000 lb.
- Today's dollars: later cash is discounted, so a tax saving next year counts for a bit less than one today.
- Break-even tax rate: the tax rate where buying and leasing cost the same.
How this estimates
- You buy or sign on day 1. Loan and lease payments are monthly. The tax saving from a year's deductions arrives at the end of that year. You sell at the end of the last year.
- Every payment and tax saving is divided by the discount rate for the time you wait, month by month, to get today's dollars. After-tax cost is cash out, less tax saved, less the sale.
- Section 179 takes the smaller of the cost (or the SUV cap) and the limit after the phase-out in year 1, but never more than your income. What is left over carries forward. The rest of the cost follows regular depreciation.
- Bonus takes the bonus percent of the cost in year 1, with no income limit. Regular depreciation uses the half-year tables for 5-year and 7-year property, with half a normal year in the year you sell.
- One combined tax rate applies to every deduction. This assumes the business is profitable enough to use them all. A loss would carry forward, which is not modeled.
- On a sale, the gain is the sale price less the cost not yet deducted. It is taxed at the same rate. A loss saves tax.
- The loan uses the standard payment formula and its interest is deducted in the year paid. A loan longer than your years of use is paid off from the sale.
- A lease is deducted as paid. A buyout is a new purchase that starts the year after the lease ends and uses the write-off you chose.
- Each option's cost moves in a straight line with the tax rate, so the break-even rate is where the two lines cross. The implied lease rate is the yearly rate at which the payments plus the end value equal the price.
- Not included: cars under 6,000 lb, business use under 100%, the mid-quarter rule, state rules, alternative minimum tax, self-employment tax, the 20% business income deduction, insurance, upkeep, lease fees and deposits, and $1 buyout leases. The mid-quarter rule gives a different first-year percentage when more than 40% of a year's equipment is bought in its last three months.
This is not tax advice. The rules and limits change and depend on your facts. Confirm with a tax professional before you buy or sign a lease. State rules often differ from the federal ones, so ask your preparer. Read more at IRS Publication 946, IRS Topic 704 on depreciation, Form 4562 and Rev. Rul. 55-540 (copy) on what counts as a true lease.