Instant Asset Write Offs – what, how and when

Instant Asset Write Off (IAWO) and Full Expensing of Depreciating Assets (FEDA)

Who doesn’t love a tax deduction? With IAWO and FEDA alongside low interest rates and a strong economy there is an opportunity to invest in productive assets to supercharge your business growth.

In brief – when you buy an eligible asset you will claim 100% of the cost as a tax deduction. For a small business with assets pooled for depreciation purposes, even if you make no extra purchases, you will get a large deduction as the balance of the pool is written off.

The value of the tax deduction is dependent on your marginal tax rate – the higher your rate the higher your benefit and the lower your rate the lower your benefit .

However if your main reason for a purchase is a tax deduction, you may regret it. No one likes paying tax but the long term goal is to build wealth, so we assess any tax saving opportunities against whether we’ll end up wealthier as a result.

So what are these deductions and how might they help you? If your business uses machinery, trucks, computers, mobile phones, office furniture, vehicles, tools and more then read on.

Normally when you buy an asset for your business you claim depreciation over a number of years. In this case, you claim 100% depreciation all upfront. In the long run it makes little difference because what you claim now you don’t claim later, however if it helps your future business profits grow coupled with an upfront tax saving then it will be money well spent.

The Federal Government saw the risks that COVID-19 would impact our economy and decided they wanted businesses spending money. The small business instant asset write off has been a government and small business favourite over the years and increased from $1,000 to $20,000 to $25,000 to $30,000 to $150,000 and what the heck, how about we make it unlimited and why stop at just small business??

The Instant Asset Write Off was big. $150,000 big.

The Full Expensing of Depreciating Assets announced on 6 October 2020 went bigger. The target of small business was measured by maximum annual turnover which has increased from $2m to $10 to $50m to $500m and the maximum value of assets to be fully expensed is now unlimited.

The two schemes are similar but slightly different.

Instant Asset Write Off

  • must be carrying on a business (for example, rental properties, employees and recipient of personal services income will not qualify)
  • purchases of new or second hand equipment
  • valued up to $150,000 (above $150,000 we have an accelerated depreciation regime that may apply)
  • applies to purchases made prior to 6 October 2020
  • equipment installed and ready for use prior to 30 June 2021
  • a car depreciation limit applies beyond which the car value can’t be depreciated ($58,581 for 2019-20 and $59,136 for 2020-21) but the full value will still be assessed for fringe benefits tax and GST on sale (yes, that is unfair but we don’t make the rules)
  • does not apply to Division 43 capital works (mainly buildings and structural improvements), assets allocated to a software development pool or certain primary production depreciating assets
  • write off the balance of a small business entity depreciation pool where it is <$150,000

Full Expensing of Depreciating Assets

  • must be carrying on a business (for example, rental properties, employees and recipient of personal services income will not qualify)
  • purchases of new or second hand equipment including improvements to existing equipment
  • no value limit
  • applies to purchases made on or after 6 October 2020
  • equipment installed and ready for use prior to 30 June 2022 (the date the asset is installed and ready for use is the trigger for the deduction)
  • a car depreciation limit applies beyond which the car value can’t be depreciated ($58,581 for 2019-20 and $59,136 for 2020-21)
  • does not apply to Division 43 capital works (mainly buildings and structural improvements), assets allocated to a software development pool or certain primary production depreciating assets
  • a small business entity with turnover <$10m will write off the balance of a small business entity depreciation pool where it is >$0

Backing Business Investment – Accelerated Depreciation

  • A third initiative sits in between IAWO and FEDA (“do it once, do it right” has not made it into the government mindset!)
  • For new assets purchased between 12 March 2020 and installed and ready for use before 30 June 2021 that have not used the IAWO or FEDA rules will get a 50% depreciation deduction in year one (plus an extra 7.5% for small business pooling deduction for businesses with a turnover <$10m) and later is depreciated according to the small business pooling rules (which will later be picked up under FEDA rules) or at normal rates for larger business.
  • For most businesses, the sweet spot for this option is new assets costing >$150,000 purchased between 12 March and 6 October 2020
  • The car depreciation limit applies as for the other initiatives

Planning considerations

A complete write off implies that there is no depreciation expense in future years. This may require budget management to recognise that your income, and therefore tax payable, may increase markedly the year after a large asset write off.

Any future sale of a written down asset will see 100% of the proceeds assessed as a gain on sale.

If you intend to apply for bank finance, be aware that a bank might not look through your one-off write downs and high purchases and may assess your books as if you consistently invest a lot of money into purchases and have high expenses.

These measures apply automatically. A taxpayer cannot choose to depreciate the cost of an eligible asset over a number of years as though the full expensing rules did not exist. There are some opt-out rules on an asset by asset basis but they are complicated and poorly designed so if you are contemplating a large purchase that may put your business into a loss position, think and assess carefully before committing.

A larger deduction is not always ideal. It is critical to keep in mind that a deduction is of less value if it merely creates a carry-forward loss or is applied against a low tax rate. Individuals pay tax at marginal tax rates where your tax payable increases faster than your income grows, so it can be preferable to have a stable low tax rate compared to a low rate one year followed by a high rate the next which may leave you in a worse position over time. A trust with a loss will not be able to distribute income to beneficiaries which in some instances can create some interesting tax surprises.

Conclusion

When will it work for you? If you have a high tax rate, an expected high profit and your business will benefit from capital investment then this will be perfect.

Get in touch with our team to arrange a tax estimate and review how options may work for you.

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