Yearend depreciation reminders.

At the end of the year it is wise for smaLl businesses to understand the special benefits of Internal Revenue Code section 179 and the problems that result when too many depreciable assets are purchased in the last quarter of the year.

Section 179 allows businesses to elect to expense up to $17,500 annually of certain tangible property--higher amounts are allowed for certain "enterprise zone" businesses (see IRC section 1397A(a)). The deduction under the special election is limited to taxable income--any unused amounts are applied to future periods. Businesses adding more than $200,000 of IRC section 179 property during the year must reduce the maximum election dollar for dollar above $200,000. For S corporations and partnerships (including limited liability companies), the shareholder or partner's share is reported separately on form K-1.

Also, the property must be purchased and "placed in service" during the tax year for which the election is made. The election must be made on the original tax return for the year, including extensions. If it is on an amended return, the election must be made by the return due date. Once the election is made, it cannot be revoked without IRS approval.

The maximum deduction for electing a listed property, such as an automobile, is limited to the annual amount allowed under IRC section 280F--for 1995 it is $3,060. In addition, the election doesn't apply if a taxpayer is using a standard mileage rate. Listed property other than automobiles must be 50% or more "qualified" business use.

Small business owners often decide not to purchase new equipment or other tangible assets until they get a sense of how their business year will wind up. The danger in doing this is overloading the last quarter of the period with acquisitions. If purchases in the last quarter of the year exceed 40% of all of the basis of all property placed in service in that business year, the less favorable midquarter depreciation method must be used. This method considers all property added during the entire year as placed in service at the midpoint of the respective quarter, resulting in less allowable depreciation than under the more common midyear convention.

Observation: It is very important for small business owners to be careful when using the IRC section 179 election. It is a year-to-year entitlement, and taxpayers lose out on its benefits if it isn't used. Also, asset acquisitions should be well planned to ensure the election is helpful. Even with some of its shortfalls, it is a valuable benefit for small businesses. Here are some guidelines to follow when using the election:

* To get the maximum depreciation in a year acquisitions are high, the election should be used for eligible property acquired in the fourth quarter. If no assets are added in that quarter, the election should be used in the previous quarter.

* Passenger automobiles are not covered.

* CPAs should know all the requirements for "listed" property acquisitions.

* It's important to remember the $200,000 maximum limits when adding eligible property and the $17,500 maximum deduction.