Section 6 Depreciation (Cost Recovery)

Transcription

1 Section 6 Depreciation (Cost Recovery) Federal tax law uses Modified Accelerated Cost Recovery System (MACRS; tax treatment) which is different from GAAP depreciation (financial accounting; book purpose). IRS Publication 946, Form

2 Depreciation Real Property (Section 1250) Tangible Personal Property (Sec 1245) Land & anything fixed to land Non-realty 27.5 years: Residential rental 3 years Small tools, software 39 years: Commercial real estate 5 years Auto, light trucks, computers, a. Salvage value ignored other office equipment 7 years Office furniture, desks, most other personal prop 10 years Barges, vessels, water transport equipment b. MACRS SL MACRS - DDB 15 years Muni wwtr treatment plants 20 years Municipal sewer buildings c. Mid-month Convention: Mid-year (Half-year) Convention bought/sold in the mid of mo. ½ the month of purchase ½ the mo of disposal Mid-quarter Convention: 40% or more of pers prop are acquired in the last QTR of the yr: ½ of the ½ of half-year. Half QTR = 1.5 mo

3 Depreciation Depreciation Conventions Half-year Convention One half year s depreciation is allowed in first and last year of an asset s life An IRS depreciation tables automatically account for the half-year convention in year of purchase and disposition (P 6-3) If an asset is disposed of before it is fully depreciated, only one-half of the table s applicable depreciation percentage is allowed in the year of disposition

4 Depreciation Mid Quarter Convention Steps to determine whether the mid quarter convention applies 1) Sum of the total basis of tangible personal property that was placed in service during the year 2) Sum of the total basis of tangible personal property that was placed in service during the fourth quarter 3) Divide step (2) by step (1), if the quotient is > 40%, then the business must use this method or else half year convention is used

5 Depreciation 5

6 Depreciation

7 Depreciation 9-7

8 Depreciation - Example In 2015, Scrap-Pro purchased and placed in service the following assets: Asset Cost Date placed in service Di-Cut Machine $3,500 February 2 (1 st Qtr.) Computer $1,200 October 25 (4 th Qtr.) What is the recovery period for each of the assets? Computer = 5 years Di-Cut Machine = 7 years Which convention should Scrap-Pro use to determine depreciation for 2015? Answer: Half-year $1,200 4 th qtr. assets/$4,700 total assets = 25.53% < 40%

9 Depreciation Example Now assume all the same facts, except that the computer was purchased in February and the machine in October, as shown: Asset Cost Date placed in service Recovery Period Computer $1,200 February 2 (1 st Qtr.) 5 Years Di-Cut Machine $3,500 October 25 (4 th Qtr.) 7 Years What convention should be used in computing depreciation for the year? Answer: Mid-quarter $3,500 4 th qtr. assets/$4,700 total assets = 74.46% > 40% How much depreciation can they take for each of the assets in 2015? Computer: $1,200 x 35%* = $420 Di-Cut Machine: 3,500 x 3.57%* = $125 *See respective mid-quarter MACRS tables for rates 9-9

10 Section 179 Deduction Intended for smaller business to immediately expense certain new & used depreciable prop instead of capitalizing & depreciating it. a. Max. expense amount: $500,000 for b. Phase out begins at $2,000,000 of purchase, reduced dollar for dollar by purchases > $2,000,000. c. Not available if purchases > $2,500,000 e.g., Following are 4 separate/independent scenarios for the total property purchase in 2015 at ABC Partnership: (a) $40,000, (b) $590,000, (c) $2,400,000, (d) $2,800,000. What is the max Sec 179 deduction under each scenario? Solution: Qualified purchases 40, ,000 2,400,000 2,800,000 Max election 40, , ,000* 0 Remaining basis 0 90,000 2,300,000 2,800,000 *It is over $2,000,000 by $400,000 so it looses 400,000 of 500,000. Can only elect 100,000 and 2,300,000 goes to 3, 5, or 7 years depreciation. Note: SUV max expense is $25,000.

11 Additional 1 st -Year Depreciation A Bonus depreciation to stimulate economy For qualified new assets (tangible 1245 property & MACRS = or < 20 years) 50% bonus depreciation after reduction for any Sec 179 elections. e.g., 590, ,000 90,000 x ½ = 45,000 bonus; total = 500, ,000

12 Intangibles (Section 197) For not self-created properties: e.g., acquired goodwill, franchises, trademarks, patent, copyright, formula, process, design, pattern, knowhow, format, customer-based intangibles (composition of market, market share); no land or computer software. MACRS SL 15 years (180 months) Must begin amortization in month of purchase (Use it or lose it) Pub 535, Form 4562

13 Depletion For natural resources, e.g., timber, minerals, oil & gas Cost method: Adjusted basis x units sold Estimated Recoverable Units Percentage method: a statutory % x gross income (% generally ranges from 5% to 20%, never > 50%)

14 Domestic Production Activities Deduction (DPAD; Section 199) A Manufacturers Deduction to encourage production in the U S. Calculated on the basis of Qualified Production Activities Income (QPAI). DPAD = 9% of the lesser of QPAI or taxable income.