Why Depreciation No Longer Exists for Small Businesses

With Congress' passage of the Protecting Americans From Tax Hikes Act of 2015 (PATH), Congress did more than just protect Americans from tax hikes...they eliminated depreciation altogether for most small businesses.  

In PATH, Congress extended Section 179 depreciation permanently, which means that from 2015 until infinity, a business can expense 100% of the cost of most new or used assets in the year of purchase, as long as the cost doesn't exceed $500,000 or the total assets purchased don't exceed $2 million.  

This new law achieves what small business owners have been vying after for some time - that cash spent is directly related to a tax deduction.  

Couple this new law with the repair regs, which allow a small business to elect all expenses $2,500 or less are repairs and maintenance, and Congress has effectively eliminated the need for depreciation to extend over a number of years.  

Think about it: if a small business buys a new computer for $1,000, they can expense it.  If they buy a new x-ray machine for $25,000, they can expense it.  The only time a small business will get into a situation of having to depreciate an asset is if it does not qualify for Section 179 or it costs more than $500,000.  

This is a dream come true for small business owners that live by cash flow and want all of their purchases to translate into tax deductions.  

Why mileage?

When it comes to cars, self employed individuals and small business owners usually have the same two questions: how much of the initial purchase can I write off, and should I keep up with mileage or actual expenses?  I will address the first question in a later article once Congress retroactively increases the depreciation limits for 2015.  The second question is a little more straightforward but with a few special circumstances to consider.  

Taxpayers that use a vehicle for business purposes and are not eligible to be reimbursed for their expenses can deduct either mileage or actual expenses on their tax return.  This is especially handy for self employed individuals that spend quite a bit of time in the car, such as real estate agents or commercial salespeople.  Often, taxpayers assume actual expenses will generate a higher deduction, but that is not always the case.  

Consider this: taxpayer drives a Toyota Camry that has a 17 gallon gas tank and gets 25 miles per gallon on average.  Assuming gas is $2/gallon, that means the taxpayer could drive 425 miles for $34.  The mileage rate for 2015 is 57.5 cents per mile, which means that same 425 miles would generate a $245 deduction using the standard mileage rate.  In this case, mileage is a much better method to use than actual expenses, and that will almost always be the case when the taxpayer has a fuel efficient vehicle in an environment of low gas prices.  

There are a few precautions to take when deciding whether to use actual expenses or mileage on a vehicle.  One is once the decision is made, it usually cannot be changed in the future i.e. a taxpayer cannot take actual expenses one year and mileage the next.  Another is the historical trend that the IRS is usually 1-2 years behind in aligning the mileage rate with expected actual expenses.  The mileage rate is designed to be one number that covers gas, maintenance, and depreciation on a per-mile basis.  From 2014 to 2015 the standard mileage rate increased 1.5 cents, while average gas prices decreased.  It can be expected then that the 2016 rate most likely will be less than 57.5 cents per mile due to the decrease in gas prices, but that will not necessarily be consistent with gas prices in 2016 (which could go up).

Mileage rates for 2016 are expected to be released close to the end of the year (December 2015).  My guess is 55 cents per mile.   

How Being Politically Active Can Help Your Business

I went to a small liberal arts school in college and, as a result, I have a lot of friends that are very interested in politics.  When I scroll through my Twitter feed or my Facebook timeline, there is no shortage of opinions on everything from taxes to immigration to funding for the local library.  I have never been heavily active in politics, meaning I have done the bare minimum in keeping myself up to date from whatever Matt Lauer says in the first 10 minutes of the Today show in the mornings.  But, in my career both as a CPA advising clients and as a small business owner, I have found myself paying more attention not to what elected officials are saying, but to how new laws could affect businesses, both mine and my client's.  

I heard a speaker a few weeks ago tell a story about a state legislator here in Arkansas.  The legislator said that all it took was 10 people from his district to voice an opinion on a matter to cause him to vote one way or another.  Legislators are meant to be guided by the people that they represent, which is the exact reason why business owners should stay on top of legislative issues, both at the Federal level and in their local communities.  

At the Federal level, the biggest issue I have is the delay in extending tax law.  Because I serve many small business clients, I am a huge proponent of Section 179 and Bonus depreciation.  In 2014, they passed this extender in late December.  What was the business supposed to do?  I'm not a huge fan of saying "I don't know" to a client (unless I really don't know), but last October and November I had to say that a lot when clients asked if they should buy their new truck/x-ray machine/tractor.  I could not advise them one way or another because I did not know what the depreciation benefit would be.  

States also have a tricky way of garnering more tax revenue through a well known method called sales tax.  Here's a good example: the sales tax rate in Little Rock is a cumulative 9% (6.5% state, 1.5% city, 1% county).  The sales tax in Bryant, which is a whopping 10 miles down the road is 9.5% (6.5% state, 3% city, 0% county).  That means that buying a product in Bryant will cost 0.5% more than buying a product in Little Rock.  If you're a business owner trying to decide where to open your next store, isn't Little Rock the more attractive option?  

As a business owner, it is important to stay up to date on what your Federal and local legislators are up to.  A sudden change in Federal tax law or an incremental increase in a sales tax rate could have a big impact on the business's bottom line.  Keep up with changes that are in the works and write to your legislators.  They have a responsibility to vote with the voice of the people, so let your voice be heard.  

Outsourced accounting

Small business owners are predominantly known for "doing it all".  In most small businesses, the owners are responsible for all aspects of the business, from customer relations to product delivery.  Yet, one of the most important business management tasks, commonly known as "the books" is often overlooked or thrown together quickly.  There are a variety of reasons for this lack of attention.  

First, most small business owners do not have sophisticated financial knowledge, which makes "the books" cumbersome and intimidating.  These are the clients that come to a CPA and hand over their books with the disclaimer "well, I'm not an accountant, so I apologize for the shape the books are in".  Well of course you're not an accountant!  If you were, you probably would have gotten a job in accounting, not have started your business.  

Second, most small business owners run relatively simple, cash-basis operations that do not require accruals and adjustments on a monthly basis.  These are the clients that determine the success of their business based on how much money is in their bank account.  

Third, most small business owners simply do not have time to focus on the financial side of their business.  By the time they are done dealing with customers and vendors, filling orders, managing employees and putting out other fires that come up during the day, the last thing most small business owners want to do is reconcile their bank statement.  

All of these reasons, albeit legitimate, can wreak havoc in a small business if left unchecked for a long period of time.  This is where small business owners can most benefit from outsourced bookkeeping and accounting services.  By outsourcing, the business owner is getting another set of eyes on the books.  This set of eyes can point out unusual charges, identify trends in the business finances, reconcile bank accounts and advise the business owner on their cash position.  

Outsourcing is most effective when combined with tax planning and preparation.  When the business owner's CPA can advise the client monthly or quarterly then the year-end planning and preparation are much less complicated and time consuming.  Outsourcing typically has a lower cost impact than hiring a part- or full-time bookkeeper.  Having the books analyzed by an accounting professional for a few hours each month, and then the tax return prepared by the same professional at the end of the year is more cost effective than only allowing the accountant to look at the books once a year.  Furthermore, the accounting professional will most likely set the accounting records up in a formal accounting software such as Quickbooks or Peachtree, which will give the business owner historical data going forward.  

If you are a small business owner and the burden of "the books" has become too much for you to handle, consider outsourcing your monthly accounting function.  This will free up more time for you to focus or running your business, which is why you started it in the first place!