Here are some answers/comments based on my experience and opinions.
First comment is get proper advice; an accountant and a lawyer. Yes it is going to cost but it is an investment just the same as the machine and the tooling you buy. Not doing things the correct way can cost a lot more; or can result in you having to do a lot of fancy footwork. I got into some tax scrapes through ignorance and learnt a lot the hard way.
Oh, incidentally if you find you have done something that might leave you dangling don't tell your accountant until after you have consulted with your lawyer (if ever). In most jurisdictions lawyers have absolute privilege but accountants do not; they can be forced to testify against you.
That is all for the pep talk. What I write below is based on my interpretation of what you wrote and what I know about some US tax law but of course I don't know fine details.
You did right paying off the machine and getting the monkey off your house but I think you need the expert advice on what your tax status is. Your question; "if the machine is paid off can I..." is not quite the correct question to ask at this point, although further down when you ask about depreciation you do get an answer. You obtained a home equity loan which meant your home was security for the loan; that is what was at risk had you not paid the loan off. You took that sum of money and paid cash for the machine; the machine was paid off as soon as you took possesion. Regarding deducting anything it is only the interest on a loan that is deductable for tax purposes. Your home equity loan was probably structured as a mortgage on your home and down there interest on mortgage payments is deductable so you should have been doing that while you were paying off the loan; now that it is paid off you are not paying interest so no more deductions in that area.
Next bit about keep cash on hand, putting money into supplies and equipment, etc. Be careful...this is where I got badly bit. Try to follow your friends advice and keep several months operating capital on hand; difficult but do your best. Find out about such things as inventory requirements under your tax laws at all levels; Fed, State, Local. When you buy something normally you deduct that expense from income, you probably do this. But if you have not used the material, tool, whatever, before the end of the tax year you may have to account for it in inventory which means its value goes back into your income cancelling the deduction. The problem is that if you have spent all your spare income on material and equipment and then the deductions are cancelled by inventory your income has not been reduced for tax purposes; now you have a tax bill and no free money to pay it.
I cannot comment on lease versus buy; I have never and probably will never lease. In my early years in business I was very frugal and built up cash reserves so I have never been beholden to banks or leasing companies.
Depreciation? This is where you get the answer to your; "if the machine is paid off can I...", question. Yes you probably can deduct against the value of the machine. Normally the depreciation deduction is a percentage of the purchase price or the declining (book) value; sometimes it varies with the age of the machine. My company gets to deduct 15% of the purchase price for the first year of ownership; which reduces the book value of a $100,000 machine to $85,000. In the second year the depreciation is 30% of $85,000 so another $25,500 is deducted leaving $59,500, etc, for five years then there are no further deductions allowed. But by then the book value is very small. You should be able to do something similar. BUT BE CAREFUL IF YOU SELL A MACHINE. The book value from depreciation in you records may be much lower than the resale value of the machine. When you sell the machine what you get for the machine goes in to your income for the year you sell it and creates a tax liability that more or less cancels some of the deductions you had made over the years. Where this can bite you is what you are currently doing; buying a new machine. What can happen is you have fully depreciated the original $100,000 machine down to almost zero book value. You sell it for $60,000, take $60,000 out of your bank account (or borrow), and buy a machine for $120,000. Now the depreciation in the first year is $18,000, but you have added $60,000 to your income by selling the original machine so the end result is that you have $42,000 in taxable income and no money left over to pay the taxes. Sometimes it is better to keep the old machine if you can rake up enough money to make the new purchase without selling the old.
Regarding your capital equipment tax exemption the answer is probably yes; you make and sell things. I mentioned inventory requirments further up; there is another aspect to your making and selling things and that is how they affect your inventory value. The resale value of the things you make have to be included in your inventory value, maybe not. When you are doing one-offs maybe it is considered a work-in-progress so the material that has been used for it can be deducted but the (now increased) value of the product does not get included in inventory only the income when you sell and invoice it goes into income. But imagine you make two to keep one a spare because you are confident the customer will come back for more; the value of the second one that you put on your stock shelf almost certainly has to go into your inventory value, and this can create cash flow problems. What is the value of this item for inventory purposes? If you put it in at the price you sold the first one you finish up paying tax on its value before you receive any money for it; you have to make sure that you value it as "direct labor and materials"; that is, the bottom line cost. If it took you 10 hours to make you value your labor at what you would have to pay and employee including employee overhead...say $35.00/hour... so direct labor is $350.00. The materials cost is whatever it was, say $100.00, so the inventory value is $450.00. You may sell it for $4500 but that is not relevant for inventory purposes UNLESS YOUR JURISDICTION FORCES YOU TO USE THE SELLING PRICE.
That is just about enough for you to read with some final comments, which you may not need because you are doing it all: Keep all copies of all the invoices you pay, check stubs, records of payments; make little notes about what expenses were for. In my early years I kept a detailed journal. Work with the attitude that you are going to be successful and eventually have more money than you know what to do with. When you get there you can afford to hire people to do all the detail work on the finances while you tinker on the machines. Until you get there you are going to have to learn how to do the financial detail yourself; find some local college courses or get this book:
[ame]http://www.amazon.com/Financial-Intelligence-Managers-Knowing-Numbers/dp/1591397642[/ame]
It worked for me...I am not sure I have more money than I know what to do with but hiring people to do all the nitty gritty while I tinker is now correct.
An open mind is a virtue...so long as all the common sense has not leaked out.