What is Bonus Depreciation and How Does it Apply to Buildings?

Bonus depreciation is a legislatively enacted tax incentive designed to stimulate business investment by allowing companies to accelerate the depreciation of qualifying assets rather than write them off over the useful life of the asset. Qualifying assets can include personal property and certain portions of a building. Bonus depreciation is also known as additional first-year depreciation but is formally known as the Section 168(k) deduction.

For many years any required capitalized improvement to the interior of a commercial property was depreciated over the life of the building, 39-years since May of 1993. The passage of the Tax Cuts and Jobs Act (TCJA) in 2017 significantly changed the rules for bonus depreciation by allowing businesses to immediately write off 100% of the cost of eligible bonus property acquired and placed in service after September 27, 2017, and before January 1, 2023. Prior to the TCJA, the bonus limitation was 50%. While the 100% write-off of eligible property expired December 31, 2022, there is current discussion in Congress to extend the 100% write-off. Nonetheless, unless the law changes, the bonus percentage allowed will decline by 20 points each year for property placed in service after December 31, 2022 (to 80% in 2023, 60% in 2024, 40% in 2025 until 0% by 2027.

While Section 179 is optional, bonus depreciation is mandatory, unless a taxpayer affirmatively elects out by asset class. Electing out by asset class is made by attaching a plain paper election to the taxpayer’s tax year in which the taxpayer does not wish to take the bonus depreciation. The taxpayer must state the asset class that he or she is electing out of. For example, if a taxpayer has 5-year and 15-year property placed in service in 2023, in order to elect out of bonus on all property placed in service in 2023, he or she must refer to both asset classes. If the taxpayer just states that “taxpayer hereby elects out of bonus for tax year 2023” the election is defective and will not apply. Upon audit, the IRS will ding the taxpayer under the allowed or allowable depreciation rules and deem the taxpayer to have taken bonus depreciation in 2023 even though he or she received no tax benefits from that missed bonus depreciation.

What portions or part of a building can a taxpayer have bonus depreciation applied to? These portions include, but are not limited to carpeting, certain flooring, specialty lighting or electrical, HVAC for specialty purposes, leasehold improvements, and many others. Only by obtaining the underlying facts and performing detailed engineered take offs can these deductions be properly supported.

Conclusion: Taxpayers should pay attention to what Congress is doing as it relates to bonus depreciation allowed percentages for tax years after 2022. If Congress changes the law and does in fact allow 100% bonus depreciation to continue, performing a cost segregation study for building related assets placed in service in tax year 2023 will potentially result in significant tax deductions and related savings. If Congress stays with the 80% TCJA phase out for 2023, this percentage amount is still significant and should be taken advantage of in properly engineered cost segregation studies.





Before 2001, an improvement to the interior of a commercial property was depreciated over the life of the building—usually 39 years.

As part of the Economic Stimulus in 2001, §168(k) was passed (§168 is the Accelerated Cost Recovery System). §168k allowed 50% bonus depreciation on qualifying assets.

The description of bonus depreciation can be confusing because it sounds like MORE depreciation, but it’s not. Bonus is taking all assets with a class life of less than 20 years and taking 100% of that asset’s depreciation in one year.

While Section 168(k) allows a bonus depreciation deduction, Section 168(e) classifies property into class lives so taxpayers can decide which properties can and cannot take bonus depreciation.

In 2001, new class lives of assets were added to Section 168(e). This is when bonus really impacted the real estate industry. Each new asset type had a 15-year life and qualified for 50% bonus. They were qualified leasehold improvements, qualified restaurant property, and qualified retail improvement property. Each of these classes of assets was outlined differently, and each one had unique qualifying requirements.

As a side note, these were put under an umbrella called Qualified Improvement Property or QIP. The QIP simplified these assets as “any improvement made to the interior portion of a nonresidential building any time after the building was placed in service.” But QIPs were not available for bonus until 2020.

The Tax Cut and Jobs Act in 2017 amended §168(b)(e) and (k) once again. Now property placed in service after September 27, 2017, could take 100% bonus depreciation. This allowed for real estate to boom. Under the TCJA, bonus depreciation can be taken on qualified property with a class life of 20 years or less. 

Bonus is assumed to be taken UNLESS a CPA opts explicitly out.

Section 168(k)(7) allows an election out of bonus for any class of property that is qualified AND placed in service during the taxable year. Section 168(k)(10) also allows taxpayers to make an election to take 50%, rather than 100%, bonus. The election out of bonus, or to use 50% bonus must be made by filing a statement with a timely filed IRS Form 4562.

Back to QIPs, Revenue Procedure (Rev-Proc) 2020-25 provided taxpayers with unique options for implementing the retroactive changes to bonus depreciation available for QIPS, which were placed in service after December 31, 2017, but this was only for tax years 2018, 2019, or 2020.

Rev-Proc 2020-25 permits a taxpayer to file an amended return or a change in accounting method to change the depreciation of QIP placed in service after December 31, 2017.

These temporary solutions were limited to the first or second tax year after the QIP was placed in service or to accounting method changes (Form 3115) made with a timely filed return between April 17, 2020, and October 15, 2021.

As of January 1, 2023, bonus depreciation is slowly being phased out. In 2023 only 80% of qualified property is eligible for bonus. The rest can be applied in the future, but a net operating loss is not allowed, and bonus can now be applied to 80% of a taxpayer’s income.

Although 2022 is behind us, it’s not too late to do a cost segregation study with TPTM. Cost segregation studies can be completed on eligible properties before October 15, 2023.

Accessibility Toolbar