Recently, the IRS released new statistics about corporate depreciationDepreciation is a measurement of the “useful life” of a business asset, such as machinery or a factory, to determine the multiyear period over which the cost of that asset can be deducted from taxable income. Instead of allowing businesses to deduct the cost of investments immediately (i.e., full expensing), depreciation requires deductions to be taken over time, reducing their value and discouraging investment. in 2012. While this may sounds like a painfully boring topic to many readers, the data is relevant to some of the most important taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. policy discussions going on in Congress today.
When a U.S. business makes an investment – such as purchasing a machine or building a factory – it is not allowed to deduct the entire cost of the investment from its taxable incomeTaxable income is the amount of income subject to tax, after deductions and exemptions. For both individuals and corporations, taxable income differs from—and is less than—gross income. immediately. Instead, businesses are required to deduct the costs of investment over a number of years, which is known as depreciation.
Every year, U.S. businesses report the new investments they’ve made to the IRS using Form 4562, so they can calculate the appropriate depreciation deduction for each tax year. As a result, the IRS is able to put together a decent dataset of new investments that occur in the U.S. in a given year.
As shown above, U.S. corporations reported $705 billion in new investments in 2012. For readers familiar with other measures of investment, the figures above may look a little bit small. After all, overall private investment in the United States was $2.43 trillion in 2012. This is because the IRS data only includes corporate investment; it does not include data about investments by pass-through businessA pass-through business is a sole proprietorship, partnership, or S corporation that is not subject to the corporate income tax; instead, this business reports its income on the individual income tax returns of the owners and is taxed at individual income tax rates. es, such as partnerships and S corporationAn S corporation is a business entity which elects to pass business income and losses through to its shareholders. The shareholders are then responsible for paying individual income taxes on this income. Unlike subchapter C corporations, an S corporation (S corp) is not subject to the corporate income tax (CIT). s, which account for a large portion of the economy. (In particular, the real estate industry is underrepresented in the IRS dataset, perhaps because a large portion of real estate investment is undertaken by REITs).
While the IRS depreciation data does not cover the entire U.S. economy, it does offers a useful snapshot of how businesses report and deduct investments on their tax returns. In particular, it sheds light on the issue of bonus depreciationBonus depreciation allows firms to deduct a larger portion of certain “short-lived” investments in new or improved technology, equipment, or buildings, in the first year. Allowing businesses to write off more investments partially alleviates a bias in the tax code and incentivizes companies to invest more, which, in the long run, raises worker productivity, boosts wages, and creates more jobs. , currently being debated before Congress.
Bonus depreciation is a provision in the tax code that lets businesses immediately deduct 50 percent of the cost of investments, rather than writing off the full cost over a period of time. Importantly, bonus depreciation only applies to certain categories of investment, such as equipment and software; it does not apply to most investments in buildings and factories.
Overall, American corporations took advantage of bonus depreciation for 67.2 percent of all of their investments. These companies were able to take an immediate $237 billion deduction on 50 percent of the cost of these investments, rather than spreading the deduction out over a number of years.
As the graph above shows, the availability of bonus depreciation varies widely by sector. Some industries, such as utilities, information technology, and educational services are apply bonus expensing to over 70 percent of their investments. Others, such as agriculture, forestry, fishing, and hunting, apply bonus expensing to less than 30 percent of their investments.
These statistics are important, because bonus depreciation is one of over fifty “tax extenders” – temporary provisions that have been renewed year after year, some for over two decades. In July, the Senate Finance Committee moved forward on a proposal to extend all of the provisions for another two years. However, some lawmakers have attempted to make a few extenders, including bonus depreciation, into permanent law.
In general, the quicker businesses are able to deduct the costs of investment, the more incentives businesses have to make additional investments. This is why a recent paper from my colleague, Alan Cole, finds that a permanent extension of bonus depreciation would boost the long-term level of GDP by over 1 percent. By this logic, the ideal tax treatment of investment costs would be full expensingFull expensing allows businesses to immediately deduct the full cost of certain investments in new or improved technology, equipment, or buildings. It alleviates a bias in the tax code and incentivizes companies to invest more, which, in the long run, raises worker productivity, boosts wages, and creates more jobs. – allowing businesses to deduct the entire cost of investment immediately.
While bonus depreciation would be a solid boost to the U.S. economy, it would not be as ideal as full expensing, and the statistics above show one reason why. While full expensing would apply to all investments, in every sector of the economy, the current bonus expensing regime applies unevenly, benefiting some industries more than others.
In the last month and a half of 2015, Congress will decide whether to extend bonus depreciation for another two years, or whether to let it expire altogether. Extending bonus depreciation would help grow the U.S. economy and move the tax code toward a better treatment of capital expenditures. But Congress should also keep its eye on the prize: enacting full expensing, which would apply to all investment, fully and equally.Share