Tax Season Is Approaching

Every year, marine business owners should take inventory of their companies to ensure that their tax planning is up to date. Multiple tax-law changes will affect the filing of 2022 tax returns.

By Michael and Kelsey Laur

January 25, 2023

Every year, marine business owners should take inventory of their companies to ensure that their tax planning is up to date. Multiple tax-law changes will affect the filing of 2022 tax returns. There are three key differences to consider this year: changes to the Deductibility of Internal Revenue Code (IRC) Section 174 Expenses; Improvements to IRC Section 179D; and changes to Bonus Depreciation.

Deductibility of Section 174 Expenses

For tax years prior to Jan. 1, 2022, taxpayers were able to deduct Research or Experimental (R&E) expenses as incurred. These costs apply to many businesses in the marine industry, specifically manufacturers and software developers. The R&E expenses specified in the law change include wages paid to employees involved in research activities, supplies used or consumed and third-party contractors assisting in the R&E project. Taxpayers involved in R&E activities must now capitalize these expenses and amortize them over five years for domestic expenses, and amortize them over 15 years for foreign expenses. These rules apply regardless of a company taking advantage of the Research and Development (R&D) tax credit.

An example of a marine company that could be significantly affected would be a boatbuilder. A manufacturer will be subject to a higher tax bill if it hires engineers to develop new products, hires a foreign third-party designer working outside the United States or builds new plugs and molds. This law was originally passed as part of the Tax Cuts Jobs Act under President Trump, and companies might not be prepared for the additional tax owed this filing season.

To mitigate the reduced deductions in 2022, companies should explore claiming the R&D tax credit to potentially reduce taxes owed. The R&D tax credit is available to companies developing new or improved products or processes in the United States.

Defined under IRC Section 41, the R&D tax credit is a federal tax incentive that is primarily labor-based, designed to promote innovation and growth. Additionally, 35 states offer their own R&D tax credit benefits with unique requirements and rates. The federal R&D tax credit offers a dollar-for-dollar reduction in a company’s tax bill based on wages of employees performing the qualified R&D activities to develop new, improved and more reliable products, processes and techniques. Many activities that marine companies perform daily could qualify for the R&D tax credit, such as the development of new boats, engines, hardware or tooling; software development for marine-based applications or electronics; initiatives to reduce waste or emissions; and green technologies such as electrification or other alternative fuels.

Improvements to Section 179D

The Inflation Reduction Act that President Biden signed into law improved and expanded Section 179D Energy-Efficiency Tax Deductions. The IRA significantly enhanced the deduction for energy-efficient improvements for building owners constructing new or renovating existing commercial buildings.

Section 179D grants a $1.88-per-square-foot deduction in 2022 and up to a $5-per-square-foot deduction for buildings placed into service after Jan. 1, 2023. The deduction is for energy improvements done to a building’s HVAC system, interior lighting systems, hot-water systems or envelope (everything separating the internal building from the external environment, such as wall assembly, doors, windows and roofing system).

Marine taxpayers that have invested in improvements should consider this valuable tax-planning strategy for projects either completed or in process. Examples could include a manufacturing facility, warehouse or retail store with new or retrofitted energy-efficient lighting, HVAC system or envelope.

Changes to Bonus Depreciation

Another provision from the TCJA that had a delayed impact is the change to bonus depreciation. Many companies in the marine industry are capital intensive and require large amounts of equipment, tools and other machinery to manufacture, transport, store or work on vessels. For the 2018-22 tax years, these purchases were eligible for 100% bonus depreciation, meaning the entire amount of the purchase (trailers, trucks, resin infusion equipment, forklift and so forth) was deducted in the current year. Starting in 2023, the amount will reduce to 80% of the purchase price. Bonus depreciation will continue to be reduced by 20% until it is completely phased out for 2027.

If capital-intensive companies in the marine industry have plans to purchase equipment or machinery in the next few years, it would be beneficial to accelerate those purchases in 2023 where possible.

As with any tax-planning activity, it is important to consult a tax professional who is well-versed in these specific provisions. The steps necessary to document and substantiate these credits and deductions can be complicated, but working with the right adviser will ensure that your marine business is as tax-efficient as possible.