Bonus Depreciation – Use It or Lose It!

Due to changes enacted by the Tax Cuts and Jobs Act of 2017, bonus depreciation was significantly enhanced and can present advantageous planning opportunities for taxpayers who take action before the enhancements expire. Such planning opportunities can even include being able to expense the full value of a corporate jet in the year of purchase, if done before January 1, 2023. In this article I will refer to the purchase of a corporate jet as an example to demonstrate some of the key concepts.

First year depreciation (or bonus depreciation) under Internal Revenue Code (“IRC”) §168(k) allows taxpayers to accelerate the recovery of costs for certain qualified business use property acquired and placed in service after September 27, 2017, but before January 1, 2023. Taxpayers must deduct bonus depreciation in the same tax year in which the qualified property is placed in service for use in the taxpayer’s trade or business or for the production of income (unless the taxpayer elects out of the bonus depreciation).¹ The value to be deducted for property placed into service before 2023 is the adjusted basis of the property, which is generally cost basis.² After 2023, the applicable percentage available as bonus depreciation decreases by 20% per year until it is fully phased out in 2027.

This means if a new corporate jet is purchased in 2022 for use in the taxpayer’s trade or business, it must be deducted in 2022. The value to be deducted is generally the purchase price, with some exceptions. So, if a jet is purchased for $40,000,000 dollars, the bonus depreciation deduction would also be $40,000,000. If purchased in 2024 for the same amount, the bonus depreciation deduction would be reduced by 40% (20% for each year starting in 2023) and only $24,000,000 (or 60% of the purchase price) could be deducted in the same year it was acquired.

Here are some other items to consider when planning for bonus depreciation:

1. The Entity Taking the Deduction Should Hold Title to the Qualified Property
   The qualified property should be owned by the entity who will be using it for the production of income or for business purposes. If title is taken by an entity that is not related to the business activities, it may call into question the validity of both the bonus depreciation for the cost of the asset and the ongoing expenses to maintain it.
   
   
2. What Constitutes Qualified Property
   An asset is qualified property under IRC §168(k) if:³
   
   
   • it is depreciable property used in the trade or business or property held for the production of income;
     
     
   • it has a recovery period of twenty (20) years or less;
     
     
   • it must either be new property or if used not have been used by the taxpayer or a predecessor or related party at any time before the taxpayer acquired it (including a controlled group); and
     
     
   • it is placed into service before January 1, 2027.
     
     

   Item iii brings up the important point that bonus depreciation property can either be new or used property. Many different kinds of assets can be qualified property receiving bonus depreciation as long as the rules above are met.

3. In the Case of a Corporate Jet, the Taxpayer Must Document and Maintain Business Records for All Business and Personal Travel to Deduct Ongoing Expenses

The costs of maintaining and using a corporate jet can be deducted if they are an ordinary and necessary business expense under IRC §162. Each expense claimed must be paid or incurred in the carrying on of a trade or business. IRC §274(d) disallows any deduction otherwise allowable under IRC §162, with respect to any “listed property” unless the taxpayer satisfies the substantiation requirements of that section. A jet is listed property under IRC §280F(d)(4)(A)(ii) because it is “any other property used as a means of transportation”. The substantiation requirements of IRC §274 demand that the taxpayer keep adequate and sufficient records to demonstrate the following:

1. the amount of such expense or other item;
   
   
2. the time and place of the travel or the date and description of the gift;
   
   
3. the business purpose of the expense or other item; and,
   
   
4. the business relationship to the taxpayer of the person receiving the benefit.

These rules have led the Tax Court to conclude in the Weekend Warrior Trailers case that an entity may lose a deduction related to ongoing corporate jet expenses if it does not maintain an adequate flight log demonstrating a corporate jet’s use for business purposes⁴. Accordingly, if a corporate jet is purchased to be used in the carrying on of a trade or business with ample evidence to support that claim, the deduction should be valid. Taxpayers may also run afoul of these rules by providing the jet to employees, officers and directors for personal use and not adequately charging the value back to company personnel.

Employees, officers, and directors that use the jet for personal travel must either: (1) reimburse the company for the value of the flight or (2) claim the value of the flight as income on their tax returns. Personal flights using company aircraft are considered a fringe benefit by the IRS and, under Treasury Regulation §1.61-21, the employee must either reimburse the company for the value of the flight or the value must be included in the employee’s gross income. The value of the flight is determined either using the Standard Industry Fare Level (“SIFL”) rate or the fair market value rate (generally, the charter rate) for use of that type of aircraft. Because the SIFL rate is generally much lower than the fair market value of chartering an airplane, this is generally what is used. The SIFL is adjusted each year, but in 2021 the rates were as follows: (1) terminal charge ($81.43); (2) miles 1-500 ($0.4455/mile); (3) miles 501-1500 ($0.3396/mile); miles 1501-length of flight ($0.3265/mile).

As an example, under the SIFL rates, a ticket on a flight from LAX to London Heathrow (around 5500 miles) would have a value of $3,899.56. Therefore, if a director and three family members flew to London for vacation using the corporate jet, the director could either: (1) reimburse the company for the value of the flight to the director and their family ($15,598.24); or (2) report the value of the flight as income on the director’s tax return and pay income tax (around $5,771.35 assuming the income is paid at the top marginal tax rate of 37%).

Ensuring that an adequate flight log is kept and personal travel is charged back to company personnel should keep expenses for ongoing maintenance of the corporate jet in the realm of deductibility.

1. Treas. Reg. §168(k)(1)(A).
   
   
2. Treas. Reg. §168(k)(1)(A); §168(k)(5)(A)(i).
   
   
3. See Treas. Reg. §168(k)(2)(A)(i)(I), §168(k)(2)(A)(ii), §1.168(k)-2(b)(3)(ii), §1.168(k)-2(a)(2)(iv), §1.179-4(c)(1)(ii); IRC §179(d)(2)(A), §168(k)(2)(A)(iii).
   
   
4. See Weekend Warrior Trailers, Inc. v. Commissioner, 101 T.C.M. (CCH) 1506, 1522 (2011).