Business Tax Preparation · Advising the business taxpayer

Deductions and credits for tax planning (e.g., timing of income and expenses, NOL, depreciation versus IRC Section 179 versus bonus depreciation)

Most planning advice in this area is arithmetic in the wrong order. The useful questions are whether a deduction has anywhere to go this year, whether the taxpayer will be in a higher or lower position later, and which of the several limitations will stop it — because they operate in a sequence the taxpayer cannot rearrange.

The rule

Three ways to recover the cost of an asset, and they are not alternatives in the way clients assume. IRC § 168(k) applies first and automatically unless elected out — 100 percent of the adjusted basis of qualified property, with the basis reduced by that allowance before any other depreciation is computed^TY2026 and permanent — Pub. L. 119-21 § 70301(b)(1)(A) substituted "100 percent" for "the applicable percentage" in IRC § 168(k)(1)(A), § 70301(b)(1)(B) repealed the phase-down table at IRC § 168(k)(6) and IRC § 168(k)(8), and § 70301(a)(1) struck the requirement in IRC § 168(k)(2)(A)(iii) that the property be placed in service before 1 January 2027^TY2026, with a taxpayer may elect out of the additional first year depreciation for any class of property for a taxable year, and the election may be revoked only with the Secretary’s consent — so the choice is made class by class and is effectively final^TY2026 (IRC § 168(k)(7)). IRC § 179 is elective and capped — $2,560,000 — the aggregate cost of IRC § 179 property a taxpayer may elect to expense for a taxable year beginning in 2026^TY2026 and $4,090,000 — the 2026 limitation is reduced, but not below zero, by the amount by which the cost of IRC § 179 property placed in service during the year exceeds this figure^TY2026 (Rev. Proc. 2025-32 § 3.24) — and has an income ceiling the others do not: the IRC § 179 deduction after the dollar limitation and the phase-out may not exceed the taxpayer’s aggregate taxable income derived from the active conduct of any trade or business, with the disallowed amount carried forward^TY2026 (IRC § 179(b)(3)). Ordinary MACRS takes what is left.

Losses carry forward but do not shelter everything. a net operating loss arising in a taxable year beginning after 31 December 2017 is carried forward indefinitely, with no carryback except for the farming and insurance company categories the section preserves^TY2026 (IRC § 172(b)(1)(A)(ii)(II)), subject to losses arising in years beginning after 31 December 2017 may offset only 80 percent of the excess of taxable income, computed without the net operating loss, IRC § 199A and IRC § 250 deductions, over the pre-2018 losses used — so a company with a large carryforward always has taxable income^TY2026 (IRC § 172(a)(2)), applied in the order pre-2018 losses are used first and without the percentage limitation, and only then are post-2017 losses applied against the 80 percent ceiling on what remains^TY2026.

The limitations run in a fixed sequence. Basis first — a partner’s distributive share of partnership loss is allowed only to the extent of the adjusted basis of the partnership interest at the end of the partnership year in which the loss occurred, the excess being allowed when the basis is restored^TY2026 (IRC § 704(d)) or a shareholder’s losses and deductions may not exceed the sum of the adjusted basis of the stock and the adjusted basis of any indebtedness of the corporation to that shareholder — a second tier partnerships do not have — with disallowed amounts carried forward indefinitely^TY2026 (IRC § 1366(d)); then at-risk under IRC § 465; then passive activity under IRC § 469; then IRC § 461(l). A deduction that clears one may be stopped by the next.

Timing is governed, not chosen. the all events test is not treated as met any earlier than when economic performance occurs. Where the liability arises out of services or property provided to the taxpayer, economic performance occurs as they are provided; where it requires the taxpayer to provide property or services, as the taxpayer provides them; and where it requires a payment under a workers compensation act or arising out of a tort, as the payments are made (IRC § 461(h)(1), (2))^TY2026 (IRC § 461(h)), relaxed by an item may be treated as incurred before economic performance where the all events test is otherwise met, economic performance occurs within the shorter of a reasonable period after the close of the year or 8½ months after it, the item is recurring and consistently treated that way, and either the item is not material or accruing it earlier produces a more proper match against income — the treatment on financial statements being taken into account (IRC § 461(h)(3))^TY2026 (IRC § 461(h)(3)) — so year-end acceleration works only where the statute allows it.

Credits have their own ordering and their own carryovers. The general business credit under IRC § 38 is limited by tax liability, with unused amounts carried back one year and forward twenty, and the components are taken in a prescribed order.

Current figures

How it works in practice

Ask where the deduction goes before accelerating it. A business with a loss gains nothing from expensing an asset — the deduction simply increases a carryforward that the 80 percent rule will release slowly. In that position ordinary MACRS, or an election out of bonus depreciation, produces deductions in years when there is income to absorb them, which is worth more than the same deduction now.

Know why a client would ever choose IRC § 179 over bonus depreciation. Bonus is automatic, uncapped and applies class by class; § 179 requires an election, is capped, phases out on total purchases and cannot create a loss. Its advantages are precision and reach: it can be applied to individual assets rather than a whole class, so a taxpayer can expense exactly enough to reach a target, and it covers qualified real property — roofs, HVAC, fire protection, alarm and security systems on non-residential buildings — that § 168(k) does not.

The election out of bonus depreciation is class-wide and effectively final. IRC § 168(k)(7) applies to a whole class of property for the year and may be revoked only with the Secretary’s consent. A taxpayer who wants some assets expensed and others not should use § 179 for the ones it wants, not try to fine-tune the bonus election.

Run the loss limitations in order and stop at the first one that binds. Basis, at-risk, passive, then IRC § 461(l). A partner with ample basis may still be stopped at at-risk by non-recourse financing; a taxpayer past both may be stopped by passive activity treatment; and a taxpayer past all three may still find IRC § 461(l) deferring the excess. Advising on the first limitation while the third is the binding one produces recommendations that change nothing.

Year-end acceleration is narrower than clients think. An accrual taxpayer cannot deduct a liability before economic performance, and the recurring item exception has its own conditions. Prepaying an expense does not help either, because Reg. § 1.263(a)-4(f) capitalises a prepayment reaching beyond the 12-month window whatever the method. What does work is paying amounts already incurred, and completing services or receiving property before year end.

Credits are usually worth more than deductions and are more often wasted. A credit reduces tax directly, but the IRC § 38 limitation ties it to the year’s liability and the carryback is a single year. A business planning a large credit should plan the liability to absorb it — which sometimes means not accelerating deductions, since a deduction that reduces liability to nothing strands the credit for up to twenty years.

Scenarios

Traps

How this has changed

The planning landscape moved twice, in opposite directions. Pub. L. 115-97 made net operating losses carry forward indefinitely but removed the carryback and imposed the 80 percent limitation, turning losses from a source of immediate refunds into a slow-release asset. It also raised bonus depreciation to the full rate with a scheduled phase-down, so for several years the question was whether to accelerate before the rate fell.

Pub. L. 119-21 removed that second pressure. Section 70301(b)(1)(A) substituted the full percentage for the applicable percentage, § 70301(b)(1)(B) repealed the phase-down provisions, and § 70301(a)(1) struck the placed-in-service deadline — so bonus depreciation is permanent at the full rate and there is no longer any reason to accelerate a purchase for rate reasons alone. The one-year transition election in IRC § 168(k)(10) applies only to the first taxable year ending after 19 January 2025.

Two limitations became permanent at the same time. IRC § 461(l) lost its expiry under § 70601(a) and is indexed for the first time in 2026, so the excess business loss limitation is now a standing part of the sequence rather than a temporary overlay. And IRC § 199A no longer expires, which changes the value of a deduction that reduces qualified business income — accelerating a deduction now reduces the section 199A deduction as well, which is a second-order cost worth quantifying.

Exam focus

Know the order of the three cost recovery routes and what distinguishes them: bonus is automatic, uncapped, class-wide and can create a loss; § 179 is elective, capped, phased out, asset by asset, cannot create a loss, and reaches qualified real property.

Know the IRC § 179(b)(3) income limitation precisely — aggregate taxable income from the active conduct of a trade or business, with the excess carried forward.

For net operating losses, know the indefinite carryforward for post-2017 losses, the absence of a carryback outside the preserved categories, the 80 percent limitation and the ordering that uses pre-2018 losses first and without the limitation.

Memorise the loss limitation sequence and be ready to identify which one binds on given facts.

Finally, remember that credits and deductions compete for the same liability, and that the IRC § 38 carryback is one year against a twenty-year carryforward — so a wasted credit is a long deferral.

Check yourself

1. A sole proprietor with $60,000 of business income buys $200,000 of equipment. May the whole cost be expensed under IRC § 179?

Answer: No. The dollar limitation and the phase-out are satisfied, but IRC § 179(b)(3) caps the deduction at the aggregate taxable income derived from the active conduct of a trade or business — $60,000 here — with the disallowed $140,000 carried forward to later years. Bonus depreciation under IRC § 168(k) has no such ceiling and would deduct the whole $200,000, creating a loss. Which is better depends on whether the proprietor has other income for the loss to offset, and on what the carryforward would be worth.

2. A corporation has $500,000 of taxable income before any net operating loss deduction, a $200,000 loss from 2016 and a $600,000 loss from 2022. How much may it deduct?

Answer: $440,000. IRC § 172(a)(2)(A) applies the pre-2018 loss first and without limitation, using the whole $200,000 and leaving $300,000. Then § 172(a)(2)(B) allows the lesser of the post-2017 losses carried to the year or 80 percent of that remaining $300,000 — so $240,000. Total deduction $440,000, taxable income $60,000, and $360,000 of the 2022 loss carries forward indefinitely. The corporation pays tax despite having losses far exceeding its income.

3. Why might a preparer advise electing out of bonus depreciation?

Answer: Because the deduction has nowhere useful to go. A business already in a loss position, or one expecting materially higher rates or income later, gains more from ordinary MACRS deductions spread into profitable years than from a large current deduction that becomes a carryforward released at 80 percent of income. Two cautions: the election under IRC § 168(k)(7) applies to a whole class of property for the year, not asset by asset, and may be revoked only with the Secretary’s consent — so it needs to be made deliberately.

4. A partner has $90,000 of basis, is at risk for $40,000, and is allocated a $70,000 loss from a passive activity with no other passive income. How much is deductible?

Answer: None of it this year, and identifying why matters. IRC § 704(d) allows the loss up to basis, which $90,000 covers. IRC § 465 then limits it to the amount at risk, $40,000, suspending $30,000. IRC § 469 then disallows the remaining $40,000 because it is a passive loss with no passive income to absorb it. So the binding limitation is the third, not the first — and advice aimed at increasing basis would have changed nothing.

5. Why does accelerating a deduction now cost more than it used to for a pass-through owner?

Answer: Because it reduces the section 199A deduction as well as taxable income. Qualified business income is computed after the business’s deductions, so expensing an asset reduces QBI and therefore reduces the 20 percent deduction built on it — an additional cost of roughly a fifth of the acceleration for a taxpayer getting the full deduction. That cost used to be temporary, since section 199A was scheduled to expire; Pub. L. 119-21 § 70105(b)(1) made it permanent, so it now applies to every year of the analysis rather than only to the next few.