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19.1 Section 179 Expensing: $2.5M Limit, $4M Phase-Out & Taxable Income Limitation

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EA Part 2 — Businesses: Free Study Guide 2026 Exam

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1 Chapter 1: Exam Cycle & Preparation

1.1 Current Exam Cycle, Blueprint & Study Decisions

2 Chapter 2: Business Entity Choices & Classification

2.1 Business Structures & Liability: Sole Proprietorship, Partnership, LLC, and Corporation 2.2 Entity Classification & Check-the-Box Rules (Form 8832) 2.3 Classification Elections, Default Rules & the 60-Month Limitation 2.4 EINs, Entity Changes & Closing a Business

3 Chapter 3: Sole Proprietorships

3.1 Schedule C Gross Income & Allowable Business Expenses 3.2 Self-Employment Tax (Schedule SE) & Statutory Employees 3.3 Business Use of Home (Simplified vs. Actual Method)

4 Chapter 4: Partnership Formation & Basis

4.1 Formation & Property Contributions under Section 721 4.2 Partner Liabilities under Section 752 (Recourse vs. Nonrecourse) 4.3 Partnership Tax Year, Accounting Periods & Form 1065 Filing 4.4 Family Partnerships, Gifted Interests & Income Allocations

5 Chapter 5: Partnership Basis & Loss Limitations

5.1 Outside Basis Calculations & Ordering Rules 5.2 Basis, At-Risk (§465) & Passive Loss (§469) Limitations 5.3 Excess Business Losses (§461(l)) & Related-Party Transactions (§707) 5.4 Debt Discharge: Partnership vs. S Corporation

6 Chapter 6: Partnership Operations & Distributions

6.1 Form 1065, Schedule K & Schedule K-1 Separately Stated Items 6.2 Guaranteed Payments vs. Distributive Shares 6.3 Nonliquidating & Liquidating Distributions & Section 751 Hot Assets 6.4 Centralized Partnership Audits, Notices & Opting Out

7 Chapter 7: Partnership Dispositions & Basis Adjustments

7.1 Sale or Exchange of a Partnership Interest 7.2 Optional Basis Adjustments (Section 754, 743(b) & 734(b)) 7.3 Partnership Terminations, Mergers & Divisions

8 Chapter 8: C Corporation Formation & Structure

8.1 Corporate Formation & Section 351 Transfer Requirements 8.2 Boot, Section 357 Liabilities in Excess of Basis & Section 1244 Stock 8.3 Capital Structure: Debt vs. Equity & Section 385 Principles 8.4 Controlled Groups & Closely Held Corporations

9 Chapter 9: C Corporation Operations & E&P

9.1 Form 1120 Gross Income, Corporate Deductions & 21% Flat Tax Rate 9.2 Book-Tax Differences (Schedule M-1 vs. Schedule M-3) 9.3 Current vs. Accumulated Earnings & Profits (E&P) 9.4 Accumulated Earnings & Personal Holding Company Taxes 9.5 Corporate Minimum Tax & Foreign Tax Credits

10 Chapter 10: C Corporation Distributions & Liquidations

10.1 Property Distributions, Dividends & Constructive Distributions 10.2 Stock Redemptions (§302) & Corporate Liquidations (§331/§336)

11 Chapter 11: S Corporation Eligibility & Operations

11.1 S Corporation Requirements & Form 2553 Election Rules 11.2 Election Deadlines, Late Election Relief (Rev. Proc. 2013-30) 11.3 Form 1120-S Operations, Reasonable Compensation & 2% Shareholder Fringes

12 Chapter 12: S Corporation Basis, Distributions & Taxes

12.1 Stock & Debt Basis Calculations, Ordering Rules & Form 7203 12.2 S Corp Distributions, Accumulated Adjustments Account (AAA) & E&P Tiers 12.3 Entity-Level Taxes (BIG §1374 & Passive Income §1375) & Termination

13 Chapter 13: Accounting Periods & Methods

13.1 Tax Years: Calendar, Fiscal, and 52-53 Week Years 13.2 Cash vs. Accrual Method & Section 448 Gross Receipts Test 13.3 Changes in Accounting Method (Form 3115) & Section 481(a) Adjustments 13.4 2025 Domestic Research Expensing & Foreign Research

14 Chapter 14: Business Gross Income & Inventory

14.1 Gross Receipts & Inclusions in Business Gross Income 14.2 Cost of Goods Sold (COGS) & Inventory Valuation (Cost, LCM, FIFO, LIFO) 14.3 Section 263A Uniform Capitalization (UNICAP) & Small Business Exemption

15 Chapter 15: General Business Deductions & Limits

15.1 Ordinary & Necessary Business Expenses (§162) & Disallowances 15.2 Business Meals, Gifts & Travel 15.3 Vehicle Expenses, Mileage & Substantiation 15.4 Business Interest Expense Limitation (§163(j)) & Business Taxes

16 Chapter 16: Business Losses & Net Operating Losses

16.1 Net Operating Losses (NOLs) 80% Taxable Income Cap & Carryforward Rules 16.2 Business Casualty, Theft & Disaster Losses 16.3 Business vs. Nonbusiness Bad Debts (Direct Write-Off Method §166)

17 Chapter 17: Section 199A Qualified Business Income Deduction

17.1 Section 199A Overview: 20% Deduction & Qualified Trades or Businesses 17.2 Specified Service Trades or Businesses (SSTBs) & Threshold Phase-Outs 17.3 W-2 Wage & UBIA Limitations Calculation & Aggregation Rules

18 Chapter 18: Depreciation Principles & MACRS

18.1 Depreciable Property, Cost Basis & Capitalization vs. Repair Regulations 18.2 MACRS Property Classes (3, 5, 7, 15, 27.5, 39-Year) & Depreciation Methods 18.3 Depreciation Conventions: Half-Year, Mid-Quarter (40% Rule) & Mid-Month

19 Chapter 19: Section 179 Expensing & Bonus Depreciation

19.1 Section 179 Expensing: $2.5M Limit, $4M Phase-Out & Taxable Income Limitation 19.2 2025 Bifurcated Bonus Depreciation: Pre-Jan 20 (40%) vs. Post-Jan 19 (100% OBBBA) 19.3 Listed Property Rules, >50% Business Use & Section 280F Luxury Auto Limits

20 Chapter 20: Amortization & Intangible Assets

20.1 Section 197 Intangibles & 15-Year Straight-Line Amortization 20.2 Start-Up (§195) & Organizational (§248/§709) Expenditures: $5,000 Rule & 180-Month Amortization 20.3 Depletion: Cost Depletion vs. Percentage Depletion for Natural Resources

21 Chapter 21: Business Property Dispositions & Recapture

21.1 Sale of Business Property & Reporting on Form 4797 21.2 Section 1231 Netting Process & 5-Year Lookback Recapture Rule 21.3 Section 1245 (Full Personal Property Recapture) & Section 1250 / Unrecaptured §1250 Gain

22 Chapter 22: Like-Kind Exchanges & Involuntary Conversions

22.1 Section 1031 Like-Kind Exchanges (Real Property Only, 45-Day/180-Day Deadlines) 22.2 Boot Recognition & Basis Calculation for Replacement Property 22.3 Section 1033 Involuntary Conversions & Replacement Periods

23 Chapter 23: Business Tax Credits

23.1 General Business Credit (Form 3800), Net Income Tax Limit & Carryback/Carryforward 23.2 Key Business Tax Credits: Research Credit (§41), WOTC (§51), Small Employer Health (§45R)

24 Chapter 24: Worker Classification & Information Reporting

24.1 Employee vs. Independent Contractor: Common Law Control & Form SS-8 24.2 Section 530 Relief Requirements & Consequences of Misclassification 24.3 Information Returns: Form 1099-NEC vs. 1099-MISC, Form W-2/W-3 & Backup Withholding

25 Chapter 25: Employment Taxes & Compliance

25.1 Form 941 (Quarterly Payroll Tax Return) & Federal Income Tax / FICA Withholding 25.2 Federal Unemployment Tax (Form 940) & State Unemployment Credit 25.3 Payroll Tax Deposit Schedules (Monthly vs. Semi-Weekly, $100K Rule) & Trust Fund Penalty (§6672)

26 Chapter 26: Fiduciary Income Taxation (Trusts & Estates)

26.1 Principles of Fiduciary Income Taxation & Form 1041 Filing Requirements 26.2 Fiduciary Tax Years, Exemptions & Estimated Payments 26.3 Simple and Complex Trusts, Tiers & Distribution Timing 26.4 DNI Computation & Fiduciary Expense Allocation 26.5 Income Distribution Deduction & Schedule K-1 (Form 1041) Flow-Through 26.6 Foreign Trusts, Grantor Control & Abusive Schemes

27 Chapter 27: Tax-Exempt Organizations & Farm Taxation

27.1 Recognition of Tax Exemption (Form 1023/1024) & §501(c)(3) Standards 27.2 Maintaining Exemption, Political Activity & Excess Benefits 27.3 Form 990 Series Annual Returns & Unrelated Business Taxable Income (UBTI / Form 990-T) 27.4 Unrelated Business Income & Debt-Financed Property 27.5 Farm Income, Schedule F & Conservation Costs 27.6 Farm Income Averaging & Conservation Deductions 27.7 Farm Disaster Elections & Livestock Replacement 27.8 Farm Rentals, Estimated Tax & Farm Depreciation

28 Chapter 28: Business Records, Reporting & ACA

28.1 Financial Statements, Records & Owner Transactions 28.2 Filing Extensions, International Forms & Cash Reporting 28.3 ACA Employer Size, Coverage & Reporting

29 Chapter 29: Employer & Self-Employed Retirement Plans

29.1 Qualified Plans, 401(k) Limits & Nondiscrimination 29.2 SEPs, Self-Employed Contributions & Owner Compensation 29.3 SIMPLE IRAs & Small-Employer Contribution Choices 29.4 Plan Reporting, Loans & Prohibited Transactions

30 Chapter 30: Rental Property & Passive Activities

30.1 Rental Income, Expenses & Conversion Basis 30.2 Rental Losses, Active Participation & Real Estate Professionals 30.3 Vacation Homes, Personal Days & Rental Allocations

19.1 Section 179 Expensing: $2.5M Limit, $4M Phase-Out & Taxable Income Limitation

Key Takeaways Explain This Topic AI

Under the One Big Beautiful Bill Act (OBBBA), the maximum IRC §179 expensing deduction for Tax Year 2025 is $2,500,000, with a dollar-for-dollar phase-out beginning when total qualifying property placed in service exceeds $4,000,000 (fully phased out at $6,500,000).

The increased $2,500,000 deduction cap and $4,000,000 phase-out threshold apply to the entire 2025 tax year, including qualifying property placed in service between January 1 and January 19, 2025 (the January 19 acquisition cutoff applies strictly to bonus depreciation under §168(k), not §179).

Qualifying Section 179 property (§179(d)) includes tangible personal property (MACRS 3-, 5-, 7-year machinery and equipment), off-the-shelf software, and Qualified Real Property (QIP, roofs, HVAC, fire protection, and security systems for nonresidential buildings); property acquired from related parties (§267/§707), gifted/inherited property, and investment property held for production of income (§212) are excluded.

The Section 179 deduction cannot exceed the taxpayer's aggregate taxable income derived from the active conduct of all trades or businesses (including W-2 wages and spouse's wages on a joint return); it cannot create or increase a net operating loss, and disallowed amounts carry forward indefinitely.

For pass-through entities (partnerships and S corporations), the $2,500,000 dollar ceiling, $4,000,000 phase-out threshold, and active business taxable income limitation apply at BOTH the entity level and the individual owner level.

Last updated: October 2026

Statutory Framework of IRC §179 & OBBBA 2025 Parameters

Under IRC §179 , a taxpayer may elect to treat the cost of any qualifying section 179 property as an expense that is not chargeable to capital account. The expenditure is allowed as an immediate deduction for the taxable year in which the property is placed in service .

Rather than capitalizing an asset and recovering its cost basis over a multi-year Modified Accelerated Cost Recovery System (MACRS) recovery schedule (such as 5 years for computers and vehicles or 7 years for office furniture and machinery), an electing taxpayer writes off up to the full statutory allowance in Year 1.

The Tax Year 2025 Statutory Dollar Limits

For Tax Year 2025, the statutory parameters under IRC §179 were expanded by the One Big Beautiful Bill Act (OBBBA) :

Statutory Parameter 2025 Statutory Threshold Statutory Mechanism

Maximum Deduction Ceiling (§179(b)(1)) $2,500,000 Maximum aggregate deduction allowable across all qualifying assets placed in service during 2025.

Investment Phase-Out Threshold (§179(b)(2)) $4,000,000 Dollar-for-dollar reduction begins when total qualifying property placed in service exceeds this amount.

Complete Phase-Out Level $6,500,000 At $6,500,000 of qualifying property placed in service ($4,000,000 + $2,500,000), the deduction is $0.

Heavy SUV Dollar Limitation (§179(b)(5)) $31,300 Statutory cap on Section 179 expensing for sport utility vehicles between 6,001 and 14,000 lbs GVWR. IRC §179 Phase-Out Formula:

  • Qualifying Property Placed in Service: Total Cost
  • Less: Phase-Out Threshold: (\$4,000,000)
  • Excess Investment: = Phase-Out Reduction

Maximum Allowable Deduction = \$2,500,000 - Phase-Out Reduction (cannot fall below \$0)

Important

The January 1–19 Placed-in-Service Rule on the EA Exam :

The increased $2,500,000 annual deduction ceiling and $4,000,000 investment phase-out threshold apply to the entire 2025 tax year , including property placed in service between January 1, 2025, and January 19, 2025. A critical exam trap is confusing the effective dates of OBBBA provisions: the January 19 acquisition cutoff applies strictly to bonus depreciation under IRC §168(k). For Section 179, any qualifying property placed in service on any date in 2025 is evaluated against the $2,500,000 and $4,000,000 thresholds.

Qualifying Property Under IRC §179(d)

To be eligible for the Section 179 election, the asset must be qualifying property defined under IRC §179(d)(1). Specifically, the property must be:

  • Tangible property to which MACRS (§168) applies;
  • Section 1245 property (generally personal property and specific depreciable fixtures);
  • Acquired by purchase for use in the active conduct of a trade or business ; and

Placed in service during the taxable year.

Categories of Qualifying Assets

Tangible Personal Property : Machinery, manufacturing equipment, tools, warehouse equipment, printing presses, office furniture, fixtures, specialized business equipment, and agricultural machinery.

Off-the-Shelf Computer Software (§179(d)(1)(A)(ii)) : Computer software that is readily available for purchase by the general public, subject to a nonexclusive license, and has not been substantially modified. (Custom software developed specifically for the taxpayer does not qualify for Section 179 and must be amortized under IRC §167(f) or IRC §197).

Qualified Real Property (§179(e)) : Taxpayers may elect to treat certain improvements to nonresidential real property as Section 179 property:

Qualified Improvement Property (QIP) : Any improvement made by the taxpayer to an interior portion of a building that is nonresidential real property if placed in service after the date the building was first placed in service. QIP excludes expenditures for the enlargement of the building, any elevator or escalator, or the internal structural framework of the building.

Specified Nonresidential Real Property Components : Placed in service on existing nonresidential real property: (1) Roofs ; (2) Heating, ventilation, and air-conditioning (HVAC) systems; (3) Fire protection and alarm systems; and (4) Security systems .

Note

Qualified Real Property vs. Residential Rental Buildings :

Section 179 Qualified Real Property under §179(e) applies only to nonresidential real property . A new roof or HVAC unit installed on a residential rental apartment building does not qualify for Section 179 (though it is depreciated under MACRS over 27.5 years).

Statutorily Excluded Property & Anti-Churning Rules

Congress enacted strict statutory exclusions under IRC §179(d)(2) to prevent tax-motivated transfers, self-dealing, and non-commercial deductions: Section 179 Excluded Property Checklist:

  • [X] Property acquired from related parties under IRC §267 or §707(b)
  • [X] Property acquired by gift, bequest, inheritance, or trust distribution
  • [X] Property acquired in tax-free exchanges (basis carried over under §351, §721, §1031)
  • [X] Investment property held for the production of income under IRC §212
  • [X] Property used predominantly outside the United States (§168(g)(4))
  • [X] Lodging facility property (unless commercial hotel/motel serving transient guests)

Related-Party Acquisitions (§179(d)(2)(A)) : Property purchased from related persons as defined under IRC §267(b) or §707(b) does not qualify. Related parties include:

  • Ancestors (parents, grandparents);
  • Lineal descendants (children, grandchildren);
  • Spouse;

Controlled entities where the taxpayer owns directly or indirectly more than 50% in value of the stock of a corporation or more than 50% of the capital or profits interest of a partnership. (Note: Under §267(c)(4), brothers and sisters are treated as related family members for Section 179 purchase restrictions, barring purchases between siblings from Section 179 expensing).

Gifts and Inheritances (§179(d)(2)(C)(i)) : The property must be acquired by purchase . Property acquired by gift (carryover basis under §1015) or inheritance (stepped-up basis under §1014) is completely disqualified.

Carryover Basis in Nonrecognition Exchanges : If property is acquired in a tax-free transaction (such as a Section 1031 like-kind exchange or Section 351 incorporation), any portion of the basis determined by reference to the transferor's basis or prior property basis is ineligible for Section 179; only cash "boot" paid can potentially qualify.

Investment Property (§212) : Property held merely for the production of income (such as equipment leased by a noncorporate lessor without active managerial operations) cannot be expensed under §179 because it is not used in the active conduct of a trade or business.

The Taxable Income Limitation (IRC §179(b)(3))

Under IRC §179(b)(3)(A) , the total Section 179 deduction allowable for any taxable year (after applying the $2,500,000 cap and the $4,000,000 phase-out reduction) cannot exceed the aggregate amount of taxable income derived from the active conduct of all trades or businesses of the taxpayer during that taxable year.

Core Rules of the Business Income Limitation

No Business Loss Creation : Section 179 cannot create or increase a net business loss ! If an enterprise has $100,000 in active business taxable income and $250,000 in tentative Section 179 expenses, the current-year deduction is strictly capped at $100,000.

Indefinite Carryforward (§179(b)(3)(B)) : Any amount disallowed solely because of the taxable income limitation is carried forward indefinitely to future tax years. There is no expiration period for suspended Section 179 carryforwards.

Asset Basis Reduction Is Immediate : Even though the deduction is suspended at the taxpayer level, the tax basis of the qualifying property is reduced immediately in the year placed in service by the full tentative Section 179 amount elected (preventing the taxpayer from claiming regular MACRS depreciation on the suspended portion). Taxable Income Limitation Flow:

Tentative §179 Deduction (after \$4M phase-out)

vs.

  • Aggregate Active Business Taxable Income
  • ---------------------------------------------------------------------
  • Allowable Current-Year Deduction = Lesser of Tentative §179 or Active Taxable Income
  • Excess Disallowed Amount = Carried forward to subsequent years indefinitely

What Constitutes "Active Conduct of a Trade or Business"?

Under Treas. Reg. §1.179-2(c)(6), active business taxable income is computed by aggregating:

Net profit from sole proprietorships (Schedule C / Schedule F);

Ordinary trade or business income from partnerships (Schedule K-1, Box 1) and S corporations (Schedule K-1, Box 1) in which the taxpayer actively participates in management or operations;

W-2 Wages and Salaries : Wages, salaries, tips, and bonuses earned by the taxpayer as an employee are statutorily treated as taxable income derived from the active conduct of a trade or business! (Being an employee is considered an active trade or business for §179 purposes);

Spouse's W-2 Wages on Joint Return : On a joint Form 1040 (MFJ), the active business income of the taxpayer includes the W-2 wages of the spouse , even if the spouse has zero connection to the business claiming the Section 179 deduction!

Caution

Passive Income and Investment Returns Excluded :

Dividends, interest income, capital gains from personal investments, and passive rental real estate activities (where the taxpayer does not qualify as a real estate professional under §469(c)(7)) do not constitute active trade or business taxable income and cannot be used to absorb Section 179 deductions.

Pass-Through Entity Mechanics: Dual-Level Application

For pass-through entities—partnerships (Form 1065) and S corporations (Form 1120-S)—the Section 179 limitations are applied at BOTH the entity level and the individual owner level . Pass-Through Section 179 Workflow:

[Entity Level: Form 1065 / 1120-S]

Step 1: Test total purchases against \$4,000,000 phase-out threshold.

Step 2: Apply \$2,500,000 maximum deduction ceiling.

Step 3: Test against entity active business taxable income.

Step 4: Separately state allowable amount on Schedule K / Schedule K-1.

  • │
  • ▼ Flows through to Schedule K-1 (Box 12 Partner / Box 11 Shareholder)
  • [Owner Level: Form 1040]

Step 5: Aggregate pass-through §179 with all other §179 items from other entities / Schedule C.

Step 6: Apply individual \$2,500,000 maximum ceiling.

Step 7: Apply individual \$4,000,000 investment phase-out (based on owner's share of asset costs).

Step 8: Limit deduction to owner's aggregate active business taxable income (including W-2 wages).

Reporting : Section 179 is never deducted in computing the entity's ordinary business income (Line 22 of Form 1065 or Line 21 of Form 1120-S). It is a separately stated item reported on Schedule K and allocated to each partner (Box 12, Code I) or shareholder (Box 11, Code I).

Basis Reductions : The partner's outside basis in the partnership (or S corporation shareholder's stock/debt basis) is reduced immediately by the allocated Section 179 amount, even if the owner cannot currently deduct it due to the individual taxable income limitation!

Form 4562 Procedures & Election Revocation

Making the Election : The Section 179 election is made on Form 4562 (Depreciation and Amortization), Part I, filed with the taxpayer's timely filed original tax return (including extensions) for the year the property was placed in service.

Asset-by-Asset Selection : The taxpayer must specifically identify the selected assets, the cost of each asset, and the dollar amount elected for Section 179 expensing on Line 6 of Form 4562.

Revocability : Under current tax law, a Section 179 election or specification can be revoked or modified without IRS consent by filing an amended return for the taxable year to which the election applies.

Comprehensive Worked Example: Phase-Out & Income Limitation

Ironclad Industrial LLC, a calendar-year calendar entity taxed as a partnership, acquires and places in service the following assets during Tax Year 2025. All assets were purchased from unrelated parties: Assets Placed in Service in 2025:

  • 1. Heavy CNC Milling Machines (7-year MACRS): \$3,600,000
  • 2. Automated Assembly Line Conveyors (7-year MACRS): \$800,000
  • 3. Office Furniture and Workstations (7-year MACRS): \$100,000
  • ------------------------------------------------------------------------
  • Total Qualifying Section 179 Property Placed in Service: \$4,500,000

Financial Operating Results:

- Entity Ordinary Business Income before §179: \$1,800,000

  • Step 1: Compute Phase-Out Dollar-for-Dollar Reduction
  • Total Qualifying Property Placed in Service: \$4,500,000
  • Less: Statutory Threshold (§179(b)(2)): (\$4,000,000)
  • Excess Investment Subject to Phase-Out: \$500,000
  • Step 2: Determine Maximum Permissible Section 179 Ceiling
  • Statutory Maximum Deduction (§179(b)(1)): \$2,500,000
  • Less: Phase-Out Dollar Reduction: (\$500,000)
  • Phase-Out Adjusted Section 179 Ceiling: \$2,000,000
  • Step 3: Apply the Active Business Taxable Income Limitation
  • Tentative Allowable Section 179 Deduction: \$2,000,000
  • Entity Active Business Taxable Income: \$1,800,000
  • Allowable Current-Year Section 179 Deduction: \$1,800,000
  • Step 4: Calculate Disallowed Carryforward
  • Disallowed Excess Section 179 (\$2,000,000 - \$1,800,000): \$200,000
  • (Carried forward indefinitely to 2026 under IRC §179(b)(3)(B))
  • Step 5: Basis Adjustments for Remaining Depreciation
  • Total Equipment Cost: \$4,500,000
  • Less: Section 179 Elected (Current \$1.8M + Suspended \$200K): (\$2,000,000)
  • Remaining Depreciable Basis for Bonus / MACRS: \$2,500,000