Extension of Bonus Depreciation

Dec. 18, 2015

By Richard C. Farley, Jr. and John B. Hoover

Recently, Congress has introduced a bill that provides for a year-end tax extenders agreement, The Protecting Americans from Tax Hikes Act of 2015 (“the Act”). The House and Senate passed the Act on Dec. 18, and the president is expected to sign it into law shortly thereafter.

Among the provisions contained in the act is the extension of the 50-percent special allowance for depreciation (“bonus depreciation”) for qualified property through 2019, including a phase-down of bonus depreciation rates as follows:

Consistent with current law, there are transition rules which permit certain qualifying aircraft to use the 30 percent bonus depreciation rate if placed in service in 2020 and subject to a binding written purchase contract in place at the end of 2019. Likewise, the transition rules permit such qualifying aircraft to use the 40 percent bonus depreciation rate if placed in service in 2019 and subject to a binding written purchase contract in place at the end of 2018.

There does not appear to be a corresponding transition rule that would permit an aircraft to use the 50 percent bonus depreciation rate if placed in service in 2018 and subject to a binding written purchase contract in place at the end of 2017. This omission may be a drafting error in the statute, since there is no apparent reason to deny the transition rule with respect to the Jan. 1, 2018, transition date, but allow it for the Jan. 1, 2019, and Jan. 1, 2020, transition dates.

The act, confusingly, extends the current 50 percent bonus depreciation rate to the end of 2015 and then re-writes the relevant provision of the Internal Revenue Code (§168(k)(2)) for 2016 through 2019. Accordingly, this article describes (a) the one-year extension through 2015, (b) the re-written provision for 2016 through 2019 with phase-downs in the bonus depreciation rates, and (c)the transition rules.

One- Year Extension Through 2015

Prior to the act, 50-percent bonus depreciation was extended through the end of 2014 for qualified property in the Tax Increase Prevention Act of 2014, enacted Dec. 19, 2014. Under the Act, 50-percent bonus depreciation is extended through 2015 for qualified property (“50-percent bonus depreciation property”) that meets certain requirements, including that it is:

1. Depreciable property of a specified type (e.g., tangible personal property with a recovery period of 20 years or less, such as, non-commercial and commercial aircraft);
2. The original use of the depreciable property must commence with the taxpayer after Dec. 31, 2007;
3. The depreciable property must be acquired by the taxpayer
   •  after Dec. 31, 2007, and before Jan. 1, 2016, but only if no written binding contract for the acquisition was in effect before January 1, 2008, or
   • Pursuant to a written binding contract which was entered into after Dec. 31, 2007 and before Jan. 1, 2016; and
4. The depreciable property must be placed in service before Jan. 1, 2016.  (see below regarding the confusing extension of the transition rule)

However, depreciable property that must use the MACRS Alternative Depreciation System (straight line depreciation over the class life of the property) is not eligible for any bonus depreciation.  For example, aircraft used predominantly outside of the U.S. and aircraft used predominantly for non-business purposes would generally be ineligible to use bonus depreciation.

The act modifies the acquisition requirement (No. 3 above) and the placed-in-service requirement (No. 4 above) for 50-percent bonus deprecation property by extending them from Jan. 1, 2015, to Jan. 1, 2016 (as indicated above).  This change results in a taxpayer favorable seamless extension of 50-percent bonus depreciation that does not restart the front-end acquisition testing date. 

The act, confusingly, also extends the transition rule with respect to this one-year extension through 2015. The extension of the transition rule suggests that the one-year extension of 50 percent bonus depreciation to 2015 will also apply to aircraft placed in service during 2016, if there was a binding written contract in place to purchase the aircraft by the end of 2015 and if certain other requirements are met.  However, this transition rule with respect to aircraft placed in service in 2016 is rendered irrelevant by the replacement of the bonus depreciation provision (described below) for property placed in service after Dec. 31, 2015. 

Accordingly, it does not appear there is any need to enter into a binding written contract by Dec. 31, 2015, to be eligible to use 50 percent bonus depreciation in 2016 under the re-written provision described below.

Extension for 2016 Through 2019

As noted above, the act extends and modifies bonus depreciation for 2016 through 2019. This extension is effective for qualified property placed in service after Dec. 31, 2015. For such property, bonus depreciation is available for qualified property that meets the following requirements:

1. Depreciable property of a specified type (e.g., tangible personal property with a recovery period of 20 years or less, such as, non-commercial and commercial aircraft);
2. The original use of the depreciable property must commence with the taxpayer; and
3. The depreciable property must be placed in service before Jan. 1, 2020.

Thus, the current acquisition rule requirement has been removed from the modified bonus depreciation rules for property placed in service on or after January 1, 2016, and prior to January 1, 2020.

In addition, the act provides for a phase-down of the bonus depreciation percentages to 40% for property placed in service during 2018 and 30 percent for property placed in service in 2019.

Transition Rules

As noted above, the act retains the transition rules, which generally permit certain qualifying aircraft to use the bonus depreciation rate applicable to the prior year if there was a binding written contract to purchase the aircraft in place at the end of such prior year and certain other requirements are met. 

Thus, qualifying aircraft with a binding written purchase agreement in place by Dec. 31, 2019, that are placed in service in 2020, could use the 30 percent bonus depreciation rate. Likewise, the transition rules would permit such qualifying aircraft with a binding written purchase agreement in place by Dec. 31, 2018, that are placed in service in 2019, to use the 40 percent bonus depreciation rate.

However, there does not appear to be a transition rule that would allow an aircraft placed in service in 2018 and subject to a binding written purchase contract prior to Jan. 1, 2018, to use the 50 percent rate. There is no apparent reason for the transition rule to not be available with respect to the phase-down of the rate from 50 percent to 40 percent at the end of 2018. It may be a drafting error in the statute.

These transition rules apply to aircraft that qualify as either longer production period property (LPPP), or certain aircraft.

Longer production period property

LPPP is property that:

1. Meets the requirements of (1) and (2) listed above under “Extension for 2016 Through 2019;”
2. Is placed in service before Jan. 1, 2021 (to qualify for the 30 percent rate) or before Jan. 1, 2020 (to qualify for the 40 percent rate);
3. Is acquired by the taxpayer (or acquired pursuant to a written contract entered into) before Jan. 1, 2020 (to qualify for the 30 percent rate) or before Jan. 1, 2019 (to qualify for the 40 percent rate);
4. Has a recovery period of at least 10 years or is transportation property;
5. Is subject to § 263A; and
6. Has a production period exceeding one year and a cost exceeding $1 million.

Transportation property is personal property used in the trade or business of transporting persons or property.

LPPP, including transportation property, is subject to a special basis rule. Under this rule, qualifying basis eligible for the 50-percent bonus depreciation is limited to the adjusted basis related to production before Jan. 1, 2020 (to qualify for the 30 percent rate) or before Jan. 1, 2019 (to qualify for the 40 percent rate).  Thus, for property constructed by a third party, this basis is limited to the lesser of the amount paid or percentage of work performed as of Dec. 31, 2019 (or Dec. 31, 2018, with respect to the 40 percent rate). Accordingly, a taxpayer whose payments as of Dec. 31, 2019 (or Dec. 31, 2018, with respect to the 40 percent rate), represent less work than has been performed to construct the aircraft as of that date, may wish to make additional payments to make up any deficit.

Certain Aircraft

As noted above, certain aircraft that meet specific requirements also have an extended placed in service date of prior to Jan. 1, 2020, for 30 percent bonus depreciation (Jan. 1, 2019, for 40 percent bonus depreciation).

The special basis rule (discussed above) applicable to LPPP (including transportation property) does not apply to such non-commercial aircraft. Therefore, the full basis of qualifying aircraft placed in service in 2020 with respect to 30 percent bonus depreciation (2019 with respect to 40 percent bonus depreciation) is eligible for bonus depreciation.

In order to qualify for the extended placed in service date, the certain aircraft must:

1. Meets the requirements of (2) described above under “Extension  for 2016 Through 2019;”
2. Be placed in service before Jan. 1, 2021 with respect to 30 percent bonus depreciation (Jan. 1, 2020, with respect to 40 percent bonus depreciation);
3. Be acquired by the taxpayer (or acquired pursuant to a written contract entered into) before Jan. 1, 2020 with respect to 30 percent bonus depreciation (Jan. 1, 2019, with respect to 40 percent bonus depreciation);
4. Not be transportation property (other than for agricultural or firefighting purposes), as defined above;
5. Be purchased and at the time of the contract for purchase the taxpayer must have made a non-refundable deposit of at least the lesser of 10 percent of the cost, or $100,000;
6. Have an estimated production period exceeding four months; and
7. Have a cost exceeding $200,000.

Summary

In summary, the act provides significant benefits for purchasers of new aircraft by extending bonus depreciation for qualified property through 2019, with a phase down beginning in 2018.

Aircraft that do not qualify as either LPPP (including transportation property) or certain aircraft must be acquired and placed in service prior to the end of 2019. For LPPP (including transportation property) and certain aircraft to utilize the extended placed in service year of 2020 with respect to 30 percent bonus depreciation (2019, with respect to 40 percent bonus depreciation), a written binding contract to purchase the aircraft must be in place prior to the end of 2019 with respect to 30 percent bonus depreciation (2018, with respect to 40 percent bonus depreciation). 

Richard C. Farley, Jr. is a Director within the New York office of PricewaterhouseCoopers LLP.  He can be contacted at (646) 471-4084 or richard.c.farley@pwc.com.  John B. Hoover is a senior counsel with the tax practice of Cooley LLP in Washington, DC. He can be reached at (202) 776 2391 or jhoover@cooley.com.