Bonus Depreciation Phase-Down vs Permanent 100%: Which Rate Applies to Your Property?

The two regimes

OBBBA created a clean before-and-after split. Property whose binding acquisition contract was signed on or before January 19, 2025 remains under the phase-down rate schedule that Congress originally enacted in the Tax Cuts and Jobs Act of 2017. Property whose binding contract is signed on or after January 20, 2025 qualifies for permanent 100% bonus depreciation under the amended Section 168(k).

The cliff date applies regardless of when the property closes or when it is placed in service. A taxpayer who signed a binding purchase agreement on January 5, 2025 and closes on March 15, 2025 with a placed-in-service date of April 1, 2025 stays under the phase-down. The 40% rate applies in 2025; the 20% rate applies if the placed-in-service date pushes into 2026.

Conversely, a taxpayer who signs a binding purchase agreement on February 1, 2025 and closes on April 15, 2025 with a placed-in-service date of May 1, 2025 qualifies for permanent 100% bonus depreciation. The cliff is acquired-based, not service-based.

What counts as a 'binding contract'

IRS Notice 2026-11, released January 14, 2026, provides the binding-contract definition that controls OBBBA application. A contract is binding when enforceable under applicable state law against the taxpayer, with no material conditions outside the taxpayer's control that would permit avoidance.

Letters of intent, purchase options that have not yet been exercised, and contracts subject to financing contingencies under buyer-control terms generally do not count as binding. A signed purchase and sale agreement with reasonable closing conditions (financing, inspection, title clearance) typically does count, even if those conditions are subsequently satisfied.

The substance-over-form test applies. A contract dated January 18, 2025 with a clearly-stipulated post-cliff effective date may be treated as a post-cliff contract for OBBBA purposes. Taxpayers attempting to back-date contracts to capture the higher 100% bonus rate without genuine pre-cliff intent face anti-abuse challenges.

The phase-down rates by year

Property placed in service in 2025 under a pre-cliff binding contract qualifies for 40% bonus depreciation. The remaining 60% of basis depreciates over the property's normal MACRS recovery period (5, 7, 15, 27.5, or 39 years depending on classification).

Property placed in service in 2026 under a pre-cliff binding contract qualifies for 20% bonus depreciation. Property placed in service in 2027 or later under a pre-cliff binding contract qualifies for 0% bonus depreciation. The pre-cliff regime ends in 2026 for practical purposes.

Property under a pre-cliff binding contract that qualifies as long-production-period property under Section 168(k)(2)(B) or certain aircraft under Section 168(k)(2)(C) gets a one-year extension of each phase-down rate: 60% in 2025, 40% in 2026, 20% in 2027, 0% in 2028.

The 40% election under Section 168(k)(10)

OBBBA added Section 168(k)(10), permitting a taxpayer to elect 40% bonus depreciation (60% for long-production-period property and certain aircraft) for the first tax year ending after January 19, 2025. The election lets a post-cliff taxpayer voluntarily step down from 100% to 40%.

Why would anyone elect down? Two reasons. First, 100% bonus can create a net operating loss the taxpayer would prefer to use across multiple years rather than carry forward. A partial bonus rate produces more usable deductions in the current year while leaving NOL absorption capacity for subsequent years.

Second, the election can interact favorably with state conformity. Some states cap or limit state-level recognition of bonus depreciation. Electing 40% federally may produce a state-level result that better matches the taxpayer's state tax position. The decision is fact-specific and should be modeled against state conformity before the election.

Worked example A: pre-cliff binding contract

Investor signs a binding purchase contract on December 15, 2024 to acquire a $1.5M apartment building. Closing occurs March 1, 2025. Placed-in-service April 1, 2025. Land allocation $300K, depreciable basis $1.2M.

A cost segregation study reclassifies $250K to 5-year personal property and $100K to 15-year land improvements, leaving $850K on the 27.5-year residential schedule. Bonus depreciation rate: 40% (2025 phase-down rate, locked because the binding contract was before January 20, 2025).

First-year deductions: 5-year personal property: $250K times 40% bonus equals $100K, plus regular MACRS on the remaining $150K (year-one 20% under MACRS) equals $30K, total $130K. 15-year land improvements: $100K times 40% equals $40K, plus regular MACRS on $60K (year-one 5%) equals $3K, total $43K. 27.5-year real property: $850K times approximately 3.485% straight-line for nine months equals roughly $22K. Combined first-year deduction approximately $195K. At a 37% combined federal and state marginal rate, first-year tax savings approximately $72K.

Worked example B: post-cliff binding contract

Same property, but the investor signs the binding contract on January 25, 2025 instead of December 15, 2024. Closing March 1, 2025. Placed-in-service April 1, 2025. Same $1.2M depreciable basis.

Same cost segregation study: $250K to 5-year, $100K to 15-year, $850K to 27.5-year. Bonus depreciation rate: 100% (permanent under amended Section 168(k), because the binding contract is post-cliff).

First-year deductions: 5-year personal property: $250K times 100% bonus equals $250K. 15-year land improvements: $100K times 100% equals $100K. 27.5-year real property: $850K times approximately 3.485% straight-line for nine months equals roughly $22K. Combined first-year deduction approximately $372K. At a 37% combined federal and state marginal rate, first-year tax savings approximately $138K.

The difference between the two binding-contract dates: $66K of additional first-year tax savings on a single deal. The Jan 19 cliff is the most consequential date in OBBBA for real estate investors who closed near it.

State conformity layer

OBBBA is a federal change. State conformity varies by state. Rolling-conformity states (Colorado, Alabama, Tennessee, Missouri, Oklahoma, Kansas, Delaware, and others) automatically apply the OBBBA permanent 100% to state taxable income.

Decoupling states (California, New York, New Jersey, Massachusetts, Hawaii, Connecticut, and others) require an addback of federal bonus depreciation on the state return. The federal benefit is preserved. The state benefit is reduced or eliminated.

The phase-down versus permanent question is independent of state conformity. A pre-cliff property at 40% bonus and a post-cliff property at 100% bonus are both subject to state addback in decoupling states. The state-level benefit difference between 40% and 100% is the addback amount in those states.