What is a 'Bonus Depreciation'

A bonus depreciation is a tax incentive that allows a business to immediately deduct a large percentage of the purchase price of eligible business assets. This type of incentive is offered either as an additional incentive or as a measure of relief for small- to medium-sized businesses that want to buy additional equipment.

BREAKING DOWN 'Bonus Depreciation'

When individuals make purchases, the cost of the transaction is usually reflected immediately on their financial statements. Business purchases, however, are recorded differently on their financial transactions. When a business makes an acquisition, such as the purchase of machinery, the transaction cost is spread out across the useful life of that asset. This process is known as depreciation, and works in company’s favor. If depreciation is not applied, a company’s financial statement would show large losses for the period during which it made purchases and acquisitions.

To allow businesses to recover the cost of capital acquisitions more quickly in order to stimulate the economy, Congress introduced the bonus depreciation in 2002 through the Job Creation and Worker Assistance Act. The bonus depreciation allowed companies to deduct 30% of the cost of eligible assets before standard depreciation method is applied. To be eligible for this bonus depreciation, assets had to be purchased between September 10, 2001 and September 11, 2004, although most depreciable assets were eligible.

The 2003 Jobs and Growth Tax Relief Reconciliation Act (JGTRRA) increased the bonus depreciation rate to 50% for property originally used after May 3, 2003 and placed in service before January 1, 2005. Placing an asset in service means that the asset is functionally and actively used in the operations of a business. The 50% depreciation incentive was introduced again through the 2008 Economic Stimulus Act for property acquired after December 31, 2007. The 2015 Protecting Americans from Tax Hikes (PATH) Act extended this program through 2019 for business owners, but included a phase-out of the bonus depreciation rate after 2017.

Under PATH, businesses are allowed to deduct their capital expenses by 50% for 2015, 2016, and 2017. The rate is then scheduled to drop to 40% in 2018 and 30% in 2019. After 2019, the tax incentive is expected to expire unless Congress approves another extension.

A business can claim bonus depreciation on only assets that are new and originally used by the company. This means that an asset that has been used previously but newly acquired by a company would not be eligible for the bonus depreciation since it is not new and a previous user most likely already claimed depreciation on the equipment. In addition, property used mostly outside the United States or tax-exempt property would not qualify for the extra depreciation.

The bonus depreciation is applied to capital expenses by multiplying the bonus depreciation rate by the cost basis of the acquired asset. The resulting figure is the business’ accelerated first year bonus depreciation deductible. The remaining portion of the cost basis is then depreciated normally. If the company is eligible for a Section 179 deduction, it must be claimed before applying the bonus and standard depreciation rate. Similar to the bonus depreciation, Section 179 of the IRS Code was enacted to allow small businesses take a depreciation deduction for capital assets in one year up to a maximum limit of $500,000.

Bonus Depreciation Example

A business who purchased machinery for $1.2 million and placed it in service during the year will apply the bonus depreciation in the following manner (assuming a 35% corporate tax rate):

Total Cost of Machinery


Less Section 179 Deductible

     500,000 (maximum)


$   700,000

Less Bonus Depreciation (50% x 700,000)


Depreciable Basis

$   350,000

Standard Depreciation (20% x 350,000)




Total First Year Depreciation Expense (500,000 + 350,000 + 70,000)

$   920,000

Less Tax Expense (35% x 920,000)


After-Tax Cost of Machinery (1,200,000 – 322,000)

$   878,000

Bonus depreciation is always taken right away, in the first year that the depreciable item is placed in service. The actual amount of bonus depreciation varies from year to year. The bonus depreciation cannot be taken on property that is required to use the Alternative Depreciation Schedule (ADS), but it is exempt from alternative minimum tax (AMT) adjustments. Bonus depreciation is classified as a Section 1245 depreciation deduction when disposing of an asset, and is subject to recapture as ordinary income.

IRS Form 4562 is used to record bonus depreciation and other forms of depreciation and amortization applied by a company.

  1. Alternative Depreciation System ...

    Alternative Depreciation System is a depreciation schedule with ...
  2. Fully Depreciated Asset

    A fully depreciated asset is a property, plant or piece of equipment ...
  3. Depreciation

    Depreciation is an accounting method of allocating the cost of ...
  4. Salvage Value

    The estimated value that an asset will realize upon its sale ...
  5. Half-Year Convention For Depreciation

    A depreciation schedule that treats all property acquired during ...
  6. Economic Depreciation

    A measure of the decrease in value of an asset over a specific ...
Related Articles
  1. Taxes

    Filling out Form 4562, step-by-step

    Step-by-step, how to fill out the depreciation and amortization form for your business tax return.
  2. Taxes

    Recoverable Depreciation: How it Works

    Recoverable depreciation is a concept used in many insurance policies and claims.
  3. Taxes

    5 Key Tax Law Changes Impacting Businesses

    The Tax Cuts and Jobs Act impacts businesses in a number of ways.
  4. Trading

    Top Economic Factors That Depreciate The $US

    A variety of factors contribute to currency depreciation, including monetary policy, inflation, demand for currency, economic growth and export prices.
  5. Managing Wealth

    Cars That Depreciate In Value The Most

    You can't avoid depreciation on your car, but you can avoid certain models that depreciate in value a lot.
  6. Personal Finance

    Cars That Depreciate The Least

    Here are some of the top vehicles to buy if you're looking to keep the residual value of the vehicle high after a number of years.
  7. Small Business

    5 Ways to Create a Bonus Structure for Your Small Business

    Understand what goes into a good small business bonus structure. Learn about how a small business can create a bonus structure that attracts employees.
  8. Investing

    Use Real Estate To Put Off Tax Bills

    Find out how you can build wealth and reduce your taxes.
  9. Small Business

    Writing Off the Expenses of Starting Your Own Business

    Learn how to navigate the complicated rules for writing off the expenses of starting your own business. It could save you a lot of money.
  1. What is the relationship between accumulated depreciation and depreciation expense?

    Understand the relationship between accumulated depreciation and depreciation expense. Learn how each one is accounted for ... Read Answer >>
  2. What is the tax impact of calculating depreciation?

    Understand the tax implications of a company's depreciation. Learn how differences in accounting methods change the amount ... Read Answer >>
  3. Why does accumulated depreciation have a credit balance on the balance sheet?

    Wonder why accumulated depreciation is a credit account, despite residing on the asset side of the balance sheet? Why not ... Read Answer >>
  4. Depreciation Can Shield Taxes, Bolster Cash Flow

    Depreciation can be used as a tax-deductible expense to reduce tax costs, bolstering cash flow Read Answer >>
  5. What's the difference between amortization and depreciation?

    Learn the difference between amortization, depreciation, and depletion and how companies use these accounting methods to ... Read Answer >>
Hot Definitions
  1. Discount Rate

    Discount rate is the interest rate charged to commercial banks and other depository institutions for loans received from ...
  2. Economies of Scale

    Economies of scale refer to reduced costs per unit that arise from increased total output of a product. For example, a larger ...
  3. Quick Ratio

    The quick ratio measures a company’s ability to meet its short-term obligations with its most liquid assets.
  4. Leverage

    Leverage results from using borrowed capital as a source of funding when investing to expand the firm's asset base and generate ...
  5. Financial Risk

    Financial risk is the possibility that shareholders will lose money when investing in a company if its cash flow fails to ...
  6. Enterprise Value (EV)

    Enterprise Value (EV) is a measure of a company's total value, often used as a more comprehensive alternative to equity market ...
Trading Center