The capitalization policy is the threshold that will be used to determine whether a larger purchase should be considered an asset of the business or if it can be directly expensed. Generally, your tax preparer will make this determination. Traditionally we saw many tax preparers use low thresholds, such as $500. Any purchase over that amount had to be considered an asset, not just expensed. However, with the 2018 tax law changes, the IRS is supporting higher thresholds. So we now see some thresholds set as high as $2,500!
Why does this matter to you? Well, as a small business owner, you need to know whether these purchases are showing up on your Profit & Loss report as an expense or if they are instead showing up on the Balance Sheet as a new asset. Let’s say, your Profit & Loss is showing a $20,000 profit year to date. But you know that you have purchased $30,000 in various equipment purchases this year. So are you profitable? Where do these purchases show up? You can quickly see that this can make a big difference in viewing your financials and understanding your business performance.
This may or may not make a big difference for tax purposes, and everyone should have a tax professional on their team to advise. The reality is that if you can expense it, that implies it is being considered a fully deductible business expense. But even if it is booked as an asset, because of the Section 179 deduction rules, your tax person may still be getting you the full deduction in the year it was purchased.
At ZümiFi, we want to know the capitalization policy for each client upfront. Why? That ensures that we book things correctly the first time.
ZümiFi – dedicated to getting your books right in real time!