Updates for the Tax Increase Prevention Act of 2014

Transcription

1 Quickfinder Depreciation Quickfinder Handbook (204 Tax Year) Updates for the Tax Increase Prevention Act of 204 Instructions: This packet contains marked up changes to the pages in the Depreciation Quickfinder Handbook that were affected by the Tax Increase Prevention Act of 204, which was enacted after the handbook was published. To update your handbook, you can make the same changes in your handbook or print the revised page and paste over the original page.

2 TAX PREPARATION Depreciation Quickfinder Handbook 204 Vehicle Quick Facts Passenger Autos GVW (unloaded) up to 6,000 lbs. Depreciation limit Acquisition year (special depreciation applies) $,60 Depreciation limit Acquisition year (no special depreciation) 3,60 Second-year limit 5,00 Third-year limit 3,050 All years thereafter,875 Trucks and Vans GVW (loaded) up to 6,000 lbs. Depreciation limit Acquisition year (special depreciation applies) $,460 Depreciation limit Acquisition year (no special depreciation) 3,460 Second-year limit 5,500 Third-year limit 3,350 All years thereafter,975 Car, Truck or Van (Including SUVs and Minivans) GVW over 6,000 but not over 4,000 lbs. Depreciation limit Maximum Section 79 deduction $ 25,000 3 Standard Mileage Rates Business 56 Depreciation component 22 Charitable 4 Medical and moving 23.5 Applies to the sum of MACRS depreciation, special (bonus) depreciation (if available) and Section 79 expense claimed. 2 The special (bonus) depreciation allowance is not available for business vehicles placed in service after 203 unless legislation is enacted that extends the provision. 3 Some exceptions, including pickups with a bed at least six feet long. Overall limit on Section 79 expensing also applies. 204 Section 79 Limits Maximum deduction $ 500,000 Qualifying property threshold before phase-out 2,000,000 Additional deduction for empowerment zones 2 35,000 Maximum deduction for qualified real property 3 250,000 Maximum deduction (per vehicle) for car, truck or van (including SUVs and minivans) with GVW over 6,000 but not over 4,000 lbs. 25,000 The increased Section 79 deduction and qualifying property threshold that applied to tax years beginning in 203 (see the Section 79 Annual Limits table on Page 5-) are not available in later tax years unless legislation is enacted to extend them. 2 See Increased Limits for Targeted Areas on Page See Qualified Real Property on Page 5-8. N/A Depreciation, Amortization, Sales and Exchanges 204 Tax Year MACRS Recovery Periods for Assets Placed in Service in 204 Recovery Period (Years) GDS/AMT ADS Assets Used in All Business Activities Airplanes (noncommercial) and helicopters 5 6 Automobiles 5 5 Computers and peripheral equipment 5 5 Heavy general purpose trucks (3,000 lbs. or more) 5 6 Light general purpose trucks (less than 3,000 lbs.) 5 5 Office furniture and equipment 7 0 Tractor units (for over-the-road use) 3 4 Trailers 5 6 Typewriters, calculators, copiers 5 6 Assets Used in Agricultural Activities Agricultural machinery and equipment 7 0 Cattle (breeding or dairy) 5 7 Farm buildings, other than single purpose Fences (agricultural) 7 0 Horses (breeding or work) 2 years old or less 7 0 Horses (breeding or work) over 2 years old 3 0 Single-purpose agricultural or horticultural structures 0 5 Trees or vines bearing fruits or nuts 0 20 Assets Used in Oil and Gas Industry Assets used in drilling oil and gas wells 5 6 Assets used in exploring and producing oil and gas 7 4 Specialized Assets Assets unique to wholesale and retail trade, and personal and professional services 5 9 High technology medical equipment 5 5 Section 245 assets used in marketing petroleum and petroleum products 5 9 Real Property Billboards 5 20 Land improvements (sidewalks, roads, drainage facilities, bridges, fences, landscaping, radio towers) 5 20 Nonresidential real property Qualified leasehold improvement property 5 39 Qualified restaurant property 5 39 Qualified retail improvement property 5 39 Residential rental property Retail motor fuels outlet 5 20 Other Appliances, carpet and furniture used in a residential rental property 5 9 Assets used in construction activities by general building contractors, real estate subdividers and developers (GDS/AMT) / 39 (ADS) for property placed in service at certain times before 204. See Leasehold Improvements on Page 7-9. Replacement Page /

3 Depreciation Quickfinder Handbook 204 thomson Reuters/Tax & Accounting. All Rights Reserved. Quickfinder is a trademark of Thomson Reuters. ISSN ISBN P.O. Box 5008, Carrollton, TX Phone Fax tax.thomsonreuters.com The Depreciation Quickfinder Handbook is published by thomson Reuters. Reproduction is prohibited without written permission of the publisher. Not assignable without consent. The Depreciation Quickfinder Handbook is to be used as a first-source, quick reference to basic tax principles applied to property used in a trade or business or for the production of income. Its focus is to present often-needed reference information in a concise, easy-to-use format. The summaries, highlights, tax tips and other information included herein are intended to be of concern for the average taxpayer only. Information included is general in nature and we acknowledge the existence of many exceptions. The information this publication contains has been carefully compiled from sources believed to be reliable, but its accuracy is not guaranteed. The publisher is not engaged in rendering legal, accounting or other advice and will not be held liable for any actions or suit based on this handbook. For further information that applies to a specific tax situation, see IRS publications, rulings, regulations, court cases and Code sections applicable to that situation. This handbook is not intended to be used as your only reference source. Assets for which Straight-Line Method Required Asset Recovery Period Real estate commercial 39 years Real estate residential rental 27.5 years Listed property used 50% or less in trade or business ADS recovery period Trees or vines bearing fruits or nuts 0 years Property used predominantly in farming if taxpayer elects out of uniform capitalization rules for plants with long preproductive life ADS recovery period Qualified leasehold improvement property 5 years Qualified restaurant property 5 years Qualified retail improvement property 5 years Property used predominantly outside of the U.S. ADS recovery period Property used in a tax-exempt activity or financed by tax-exempt bonds ADS recovery period Property imported from a country subject to trade restrictions ADS recovery period Water utility property 25 years A 5-year recovery period applied to property placed in service at certain times before 204. See Leasehold Improvements on Page Year, 5-Year, 7-Year, 0-Year and 5-Year MACRS Property Half-Year Convention General Depreciation System Year Depreciation Rate for Recovery Period 3-year 5-year 7-year 0-year 5-year 33.33% 20.00% 4.29 % 0.00 % 5.00% Replacement Page / Depreciation Recapture Rules Property Held for Over One Year, Sold at a Gain Asset Description How Gain is Taxed MACRS (placed in service after 986) Section 245 property Ordinary to extent of depreciation Section 250 property 2 Ordinary to extent depreciation exceeds, then taxed at 25% maximum rate 3 to the extent of depreciation ACRS (placed in service ) Section 245 property (includes Ordinary to extent of depreciation nonresidential real property if accelerated depreciation claimed) Section 250 property 2 (includes Ordinary to extent depreciation exceeds, nonresidential real property if then taxed at 25% maximum rate 3 to the extent depreciation used and residential of depreciation rental property) Pre-ACRS (placed in service before 98) Section 245 property Ordinary to extent of depreciation Section 250 property 2 residential rental property Section 250 property 2 nonresidential real property Ordinary to extent post-975 depreciation exceeds, then taxed at 25% maximum rate 3 to the extent of depreciation Ordinary to extent post-969 depreciation exceeds, then taxed at 25% maximum rate 3 to the extent of depreciation Low-Income Housing Section 250 property 2 Ordinary to the extent post-975 depreciation exceeds, reduced by % for each full month held over 00, then taxed at 25% maximum rate 3 to the extent of depreciation Section 97 Intangibles Amortizable intangibles placed in Ordinary to the extent of amortization service after 8/0/93 Note: Depreciation includes regular depreciation, special depreciation and Section 79 expensing. Includes all tangible personal property, single purpose agricultural and horticultural structures, certain other real property (other than a building and its structural components) that is used for storage and any real property to the extent of any Section 79 deduction taken. 2 Property that is not Section 245 property. Includes most buildings and their structural components. 3 The 25% maximum rate on gain to the extent of depreciation claimed applies only to noncorporate taxpayers. Section 280F Depreciation Limits Vehicles Placed in Service Before 204 Placed In Service Cars Trucks and Vans 203 First year (special depreciation applies) 2... $,60 $,360 First year (no special depreciation)... 3,60 3,360 Second year... 5,00 5,400 Third year... 3,050 3,250 Fourth year and thereafter...,875, First year (special depreciation applies)... $,60 $,360 First year (no special depreciation)... 3,60 3,360 Second year... 5,00 5,300 Third year... 3,050 3,50 Fourth year and thereafter...,875, First year (special depreciation applies)... $,060 $,260 First year (no special depreciation)... 3,060 3,260 Second year... 4,900 5,200 Third year... 2,950 3,50 Fourth year and thereafter...,775, First year (special depreciation applies)... $,060 $,60 First year (no special depreciation)... 3,060 3,60 Second year... 4,900 5,00 Third year... 2,950 3,050 Fourth year and thereafter...,775,875 Amounts must be pro-rated if less than 00% business use. 2 The special (bonus) depreciation allowance is not available for business vehicles placed in service after 203 unless legislation is enacted that extends the provision.

4 MACRS Tab 2 Topics MACRS General Rules... Page 2- General Depreciation System (GDS)... Page 2- Alternative Depreciation System (ADS)... Page 2-2 Assigning the Recovery Period... Page 2-2 Conventions... Page 2-5 Computing Depreciation... Page 2-6 Placed In and Taken Out of Service... Page 2-6 Alternative Minimum Tax (AMT) Depreciation... Page 2-8 Adjusted Current Earnings (ACE) C Corporations... Page 2-9 Farm Property... Page 2-9 Short Tax Years... Page 2-0 Special (Bonus) Depreciation... Page 2-2 Qualified Disaster Assistance Property... Page 2-4 General Asset Accounts... Page 2-4 Changes in an Asset s Use... Page 2-6 MACRS General Rules The Modified Accelerated Cost Recovery System (MACRS) is used to depreciate most business, rental and investment property placed in service after 986. Under MACRS, compute depreciation by: [IRC 68(a)] ) Applying an allowable depreciation method, 2) Assigning the asset the proper recovery period and 3) Using the appropriate convention (assumption about when property is placed in and taken out of service). MACRS consists of two depreciation systems, the General Depreciation System (GDS) and the Alternative Depreciation System (ADS). The GDS is the method used for regular tax, unless the ADS is used. The ADS can be elected for any asset. However, its use is mandatory in certain situations. See Alternative Depreciation System (ADS) on Page 2-2. Note: For alternative minimum tax (AMT), depreciation is computed under different rules, often resulting in an adjustment to alternative minimum taxable income. See Alternative Minimum Tax (AMT) Depreciation on Page 2-8. Assets are classified under MACRS. The classification generally determines the depreciation method, convention and recovery period. See MACRS Property Classification on Page 2-3. General Depreciation System (GDS) Unless the alternative depreciation system (ADS) is required or elected, the general depreciation system (GDS) applies. Three depreciation methods are available under the general depreciation system. For most property, other than nonresidential real property and residential rental property, the default (no election made) is the 200% declining balance method over the GDS recovery period. Alternatively, taxpayers can elect either the: ) 50% declining balance method over the GDS recovery period or 2) Straight-line method over the GDS recovery period. See MACRS Depreciation Methods Available for Regular Tax below for details on the methods for specific assets. Elective Depreciation Methods The election to use a depreciation method other than the default method is made the year the property is placed in service. Once an election is made to use a method for an item in a property class, the same method applies to all property in that class placed in service in the year of the election. Exception: The election to use a different depreciation method is made on a property-by-property basis for nonresidential real and residential rental property. Electing a Depreciation Method Method How to Elect 50% method Enter 50 DB under column (f) in Part III of Form Enter S/L under column (f) in Part III of Form ADS Complete Section C in Part III of Form Property Three-year, five-year, seven-year and 0-year property classes (except farm property). Farm property (except real property). 5-year and 20-year property. Nonresidential real property. Residential rental property. Qualified leasehold improvement property. 3 Qualified restaurant property. 3 Qualified retail improvement property. 3 Trees or vines bearing fruit or nuts. 25-year (water utility) property. MACRS Depreciation Methods Available for Regular Tax General Depreciation System (GDS) No Election Made Elective 50% Declining Balance Method Elective MACRS 200% declining balance 50% declining balance Straight-line over GDS over GDS recovery period. over GDS recovery period. recovery period. 50% declining balance N/A over GDS recovery period. Straight-line over GDS N/A recovery period. Alternative Depreciation System (ADS) 2 Straight-line over ADS recovery period. For property placed in service before 999, elective 50% declining balance method used the ADS recovery periods. 2 See ADS Recovery Periods on Page Expired Provision Alert: This classification expired for property placed in service after 203. Property that would been classified as such (if placed in service before 204) is nonresidential real property if placed in service after 203, unless this provision is extended tax professionals should watch for developments. However, regardless of the recovery period assigned, this property is depreciated over its GDS (or, if applicable) ADS recovery period. Replacement Page / 204 Tax Year Depreciation Quickfinder Handbook 2-

5 Electing a Slower Method Electing a slower depreciation method (either 50% DB or ) results in smaller depreciation deductions for the early years in the recovery period than what would be available absent the election. Deferring deductions may allow the taxpayer to use a net operating loss carryover or create passive income to offset passive losses. Electing 50% DB will also eliminate an AMT adjustment for those assets, since the same depreciation method will be used for regular tax and AMT. Alternative Depreciation System (ADS) Under the alternative depreciation system, assets are depreciated straight-line over their ADS recovery period. When ADS Is Required The ADS method can be elected for any asset, but is mandatory in the following situations: [IRC 68(b)(2), 68(g)() and 280F(b)()] ) Listed property with 50% or less qualified business use. 2) Tangible property used predominantly outside the U.S. during the year. 3) Tax-exempt use property. 4) Property financed by tax-exempt bonds. 5) Property used predominantly in a farming business if it is placed in service in a year an election not to apply the uniform capitalization rules to certain farming costs is in effect (see Farm Property on Page 2-8). 6) Property imported from a foreign country for which an Executive Order is in effect because the country maintains trade restrictions or engages in other discriminatory acts. ADS Recovery Periods The recovery periods for most property generally are longer under ADS than they are under GDS. ADS Recovery Periods Property Recovery Period Rent-to-own property 4 years Automobiles and light duty trucks 5 years Computers and peripheral equipment 5 years High technology telephone station equipment installed on customer premises 5 years High technology medical equipment 5 years New York Liberty Zone leasehold improvement property 9 years Personal property with no class life 2 years Natural gas gathering lines 4 years 2 Single purpose agricultural and horticultural structures 5 years Any tree or vine bearing fruit or nuts 20 years Electric transmission property used in the transmission at 69 or more kilovolts of electricity 30 years 2 Natural gas distribution lines 35 years 2 Qualified leasehold improvement property, qualified restaurant property or qualified retail improvement property 40 years 3 Nonresidential real property 40 years Residential rental property 40 years Section 245 real property not listed in Revenue Procedure years Railroad grading and tunnel bore 50 years This list is not all-inclusive. The ADS recovery periods for property not listed above can be found in the tables in Revenue Procedure (reproduced at Tab 2). 2 Applicable to property placed in service after April, 2005, the original use of which began after that date (but not applicable if under a binding contract or if construction began on a self-constructed asset before April 2, 2005) years for property placed in service before 204. Tax-exempt use property subject to a lease. The ADS recovery period cannot be less than 25% of the lease term for any property leased under a leasing arrangement to a tax-exempt organization, governmental unit or foreign person or entity (other than a partnership). Assigning the Recovery Period The recovery period is the number of years over which an asset s basis is recovered under MACRS. Different recovery periods are often assigned under GDS and ADS. GDS Recovery Periods Property is classified under Code Section 68(e). That classification determines the GDS recovery period. See MACRS Property Classification on Page 2-3. Revenue Procedure Recovery Periods Revenue Procedure (reproduced at Tab 2) lists the recovery periods for many assets not specified in MACRS Property Classification on Page 2-3. It also lists the recovery periods for assets used in specific activities. Revenue Procedure provides three lives for the assets listed: Class life. This is the class life that was applicable for the property as of January, 986, under former Section 67(m) and the Class Life Asset Depreciation Range (CLADR) System, which was used before 98. The class life is used to determine the recovery period for assets not specifically listed in Code Section 68 or in Revenue Procedure However, for the assets listed in the Revenue Procedure, the recovery periods are specified, so class life is not needed for determining the recovery period. GDS recovery period. ADS recovery period. Specific and nonspecific activities. Revenue Procedure contains two tables of Class Lives and Recovery Periods: Specific Depreciable Assets Used in All Business Activities, Except as Noted lists assets used in all business activities.(referred to as Table B- in IRS Publication 946.) Depreciable Assets Used in the Following Activities provides recovery periods for assets used in certain activities. (Referred to as Table B-2 in IRS Publication 946.) Using the recovery period tables. To find an asset s correct recovery period, look at both Table B- and Table B-2. Use the tables in the following order to determine the asset s recovery period. ) Table B-. Check Table B- for a description of the property. If it is described in Table B-, also check Table B-2 to find the activity in which the property is being used. If the activity is described in Table B-2, read the text (if any) under the title to determine if the property is specifically included in that asset class. If it is, use the recovery period shown in the appropriate column of Table B-2. If the activity is not described in Table B-2 or if the activity is described but the property either is not specifically included in or is specifically excluded from that asset class, use the property s recovery period in Table B-. 2) Table B-2. If the property is not listed in Table B-, check Table B-2 to find the activity in which the property is being used. If the activity is listed, use the recovery period shown in the appropriate column following the description. Continued on Page Tax Year Depreciation Quickfinder Handbook Replacement Page /

6 Classification 3-year property 5-year property 7-year property 0-year property 5-year property 20-year property 25-year property 9 Residential rental property MACRS Property Classification Examples Tractor units for over-the-road use. Any race horse, regardless of age when placed in service. 3 Any horse (other than a race horse) over 2 years old when placed in service. Qualified rent-to-own property. 4 Automobiles, taxis, buses and trucks. Computers and peripheral equipment. Office machinery (such as typewriters, calculators and copiers). Property used in research and experimentation. Breeding cattle and dairy cattle. Appliances, carpets, furniture, etc., used in a residential rental real estate activity. Certain geothermal, solar and wind energy property. Office furniture and fixtures (such as desks, files and safes). Agricultural machinery and equipment. 6 Motorsports entertainment complex placed in service after October 22, 2004 and before 204. Property that does not have a class life and has not been designated by law as being in any other class. Any natural gas gathering line placed in service after April, Vessels, barges, tugs and similar water transportation equipment. Single purpose agricultural or horticultural structure (see Tab 7). Any tree or vine bearing fruits or nuts. 7 Qualified smart electric meters and qualified smart electric grid systems placed in service after October 3, Certain improvements made directly to land or added to it (such as fences, roads and bridges). Retail motor fuels outlet (see Tab 7). Any municipal wastewater treatment plant. Qualified leasehold improvement property (see Tab 7) placed in service before Qualified restaurant property (see Tab 7) placed in service before Qualified retail improvement property (see Tab 7) placed in service before Initial clearing and grading land improvements for gas utility property placed in service after October 22, Electric transmission property (that is Section 245 property) used in the transmission at 69 or more kilovolts of electricity placed in service after April, Any natural gas distribution line placed in service after April, 2005 and before 20. Farm buildings (other than single purpose agricultural or horticultural structures). Municipal sewers not classified as 25-year property. Initial clearing and grading land improvements for electric utility transmission and distribution plants placed in service after October 22, Property that is an integral part of the gathering, treatment or commercial distribution of water, and that, without regard to this provision, would be 20-year property. Municipal sewers placed in service after June 2, 996, other than property placed in service under a binding contract in effect at all times since June 9, 996. Any building or structure, such as a rental home (including a mobile home), if 80% or more of its gross rental income for the tax year is from dwelling units. Note: Units in a hotel, motel or other establishment where more than half the units are used on a transient basis are not dwelling units (see Tab 7). Nonresidential Section 250 property that is neither residential rental property nor property with a class life of less than 27.5 real property 0 years (see Tab 7). Examples include office buildings, stores or warehouses. GDS Depreciation Method 2 200% 5 Declining balance 200% 5 Declining balance 200% 5 Declining balance 200% 5 Declining balance 50% Declining balance 50% Declining balance GDS Recovery Convention Period 3 years Half-year or mid-quarter 5 years Half-year or mid-quarter 7 years Half-year or mid-quarter 0 years Half-year or mid-quarter 5 years Half-year or mid-quarter 20 years Half-year or mid-quarter Straight-line 25 years Half-year or mid-quarter Straight-line 27.5 years Mid-month Straight-line 39 years Mid-month Expired Provision Alert: Several provisions expired for property placed in service after 203. It s possible these provisions will be extended beyond that date. Tax professionals should watch for developments. 2 Elective methods may be available. See MACRS Depreciation Methods Available for Regular Tax on Page Effective for race horses placed in service after December 3, 2008 and before January, 204. Outside of that date range, only race horses more than two years old when placed in service are 3-year property. [IRC 68(e)(3)(A)] 4 Five years for qualified rent-to-own property placed in service before August 6, If used in farming, must use 50% instead of 200% declining balance. 6 New farm equipment placed in service in 2009 was five-year property. Five-year treatment was unavailable for grain bins, cotton ginning assets, fences or other land improvements. [IRC 68(e)(3)(B)(vii)] 7 Must use straight-line method. [IRC 68(b)(3)(E) and (e)(3)(d)(ii)] 8 Must use 50% declining balance method. [IRC 68(b)(2)(C)] 9 20 years for property placed in service before June 3, 996, or under a binding contract in effect before June 0, years for property placed in service before May 3, 993. Replacement Page / 204 Tax Year Depreciation Quickfinder Handbook 2-3

7 Property not in either table. If the activity or the property is not included in either table, check the end of Table B-2 to find Certain Property for Which Recovery Periods Assigned. This property generally has a recovery period of seven years for GDS or 2 years for ADS. Example #: GreenCo is a paper manufacturer. During the year, the company made substantial improvements to the land on which its paper plant is located. To determine the proper recovery period for the improvements, first check Table B-, Specific Depreciable Assets Used in All Business Activities, Except as Noted. Here, land improvements are listed under Asset Class Then check Table B-2, Depreciable Assets Used in the Following Activities. Here, GreenCo s business activity, paper manufacturing, is under Asset Class 26., Manufacture of Pulp and Paper. The proper recovery period is the one under this asset class because it specifically includes land improvements. The land improvements have a seven-year GDS recovery period. If the company elects to use ADS, the recovery period is 3 years. If only Table B- had been considered, Asset Class 00.3, Land Improvements would have been chosen and a recovery period of 5 years for GDS or 20 years for ADS incorrectly used. Example #2: RubberCo produces rubber products. During the year, the company made substantial improvements to the land on which its rubber plant is located. To determine the proper recovery period for the improvements, first check Table B-. Here, land improvements are under Asset Class Next, check Table B-2, where the company s activity, producing rubber products, is listed under Asset Class 30., Manufacture of Rubber Products. However, the headings and descriptions under Asset Class 30. do not include land improvements. Therefore, the proper recovery period to use is that under Asset Class The land improvements have a 5-year GDS recovery period. If ADS is elected, the recovery period is 20 years. Example #3: Pam Martin owns a retail clothing store. During the year, she purchased a desk and a cash register for use in her business. Table B- shows office furniture under Asset Class 00.. Cash registers are not listed in any of the asset classes in Table B-. In Table B-2, the business activity, retail store, is listed under Asset Class 57.0, Distributive Trades and Services, which includes assets used in wholesale and retail trade. This asset class does not specifically list office furniture or a cash register. Therefore, Asset Class 00. from Table B- is used for the desk. The desk has a seven-year GDS recovery period. If the ADS method is elected, the recovery period is 0 years. For the cash register, Asset Class 57.0 is used because cash registers are not listed in Table B- but are assets used in a retail business. The cash register has a five-year recovery period for GDS. If the ADS method is elected, the recovery period is nine years. Property Used in Retail/Distributive Trades or Services Asset Class 57.0 allows assets used in wholesale and retail trades and personal and professional services to be depreciated over a five-year GDS recovery period (nine-year for ADS). Examples of Retail/Distributive Trades or Services Business Type Examples Personal Services Dry cleaners, beauty and barber shops, hotels and motels, photography studios and mortuaries. Professional Services Doctors, dentists, attorneys, accountants, engineers, architects and veterinarians. Retail Trade Grocery and department stores, restaurants, cafes, coin-operated dispensing machines and retail stores. Wholesale Beverage distributors. This is not an exhaustive list. Property Used in a Residential Rental Activity The recovery periods for property used in a residential rental activity are summarized in the following table. MACRS Recovery Periods for Property Used in Residential Rental Activities IRS Pub. 527 Recovery Period in Years Assets GDS ADS Computers and their peripheral equipment Office machinery, such as typewriters, calculators, copiers Automobiles Light trucks Appliances, such as stoves, refrigerators, etc Carpets Furniture used in rental property Office furniture and equipment (desks, file cabinets, etc.) Any property that does not have a class life and that has not been designated by law as being in any other class Roads Shrubbery Fences Residential rental property (buildings or structures, including mobile homes) and structural components such as furnaces, waterpipes, venting, etc. Additions and improvements (such as a new roof) have the same recovery period as the property to which the addition or improvement is made, determined as if the property were placed in service at the same time as the addition or improvement Indian Reservation Property Expired Provision Alert: For assets placed in service before 204, special recovery periods applied to qualified Indian reservation property. This provision is not available for property placed in service after 203 unless legislation is enacted to extend it. This discussion is included in the event that the shorter recovery periods are extended to 204. If they are not extended, property that formerly was classified as qualified Indian reservation property and placed in service in 204 is depreciated under the general MACRS rules. The recovery periods for qualified property placed in service on an Indian reservation after 993 and before 204 are shorter than normal for some property classes. To be eligible for the shorter recovery periods, the property must be used predominantly in the active conduct of a trade or business or a rental real estate activity within an Indian reservation. [IRC 68(j)] Recovery Periods for Qualified Indian Reservation Property Property Classification Recovery Period Depreciation Method Three-year property Two years 200% DB Five-year property Three years 200% DB Seven-year property Four years 200% DB 0-year property Six years 200% DB 5-year property Nine years 50% DB 20-year property 2 years 50% DB Nonresidential real property 22 years See Tab 4 for optional tables for computing depreciation for qualified Indian reservation property Tax Year Depreciation Quickfinder Handbook Replacement Page /

8 Replacement Page / Conventions Half-Year Convention Under the half-year convention, all property placed in service or disposed of during a tax year is treated as placed in service or disposed of on the midpoint of that tax year [IRC 68(d)(4)]. Thus, half of a full year s depreciation is taken both in the year the property is placed in service and in the year of disposition. The half-year convention applies to all property except: ) Residential rental and nonresidential real property and 2) Property subject to the mid-quarter convention (discussed below). and a $23,000 Section 79 deduction for the grinding machine Mid-Quarter Convention If more than 40% of the basis of property is placed in service in the last three months of the year, the mid-quarter convention applies to all property (other than the Excluded items listed below) placed in service during the year. [IRC 68(d) (3)]. Then, all property placed in service or disposed of during any quarter of a tax year is treated as placed in service, or disposed of, at the midpoint of that quarter. Excluded items. To determine if the mid-quarter convention applies, the following items are not counted: ) Property depreciated under a method other than MACRS. 2) Residential rental property. 3) Nonresidential real property. 4) Property placed in service and disposed of in the same tax year. 5) Property expensed under Code Section 79. Pass-through entities. As a general rule, the 40% test is applied at the partnership or S corporation level and not at the individual owner level. However, if a pass-through entity is formed or used for the principal purpose of avoiding the mid-quarter convention or causing the mid-quarter convention to apply, anti-abuse rules apply. [Reg..68(d)-(b)(6)] Effect of mid-quarter convention. If the mid-quarter convention applies, property placed in service in the first half of the year receives more than a half-year s worth of depreciation in the year placed in service while property placed in service in the last half of the year receives less than a half-year s worth of depreciation (for example, property placed in service in the fourth quarter receives only 2.5% of a full year s worth of depreciation). Quarter Placed in Service/ Disposed Of Mid-Quarter Convention Percentages % of Full Year Depreciation Placed in Service Year % of Full Year Depreciation Disposition Year First 87.5 % 2.5 % Second Third Fourth Using the Section 79 deduction to avoid the mid-quarter convention. The Section 79 election can be used to avoid the mid-quarter convention by expensing property placed in service in the last quarter of the tax year. On the other hand, claiming a Section 79 deduction for assets placed in service during the first three quarters increases fourth-quarter additions relative to the total and may result in the application of the mid-quarter convention for any assets not expensed under Code Section 79. See the Section 79 Annual Limits table on Page 5-. Example: Norm is a calendar-year sole proprietor. He placed the following assets in service during 204: Date Description Cost January... Polishing machine... $ 477,000 December... Grinding machine... 78,000 Total... $ 555,000 Norm claims a Section 79 deduction of $78,000 for the grinding machine and $422,000 for the polishing machine for a total of $500,000 in 204. For the 40% test (to determine if the mid-quarter convention applies) Norm counts only the $55,000 ($477,000 $422,000 expensed under Code Section 79) remaining basis in the polishing machine placed in service in January. The amounts expensed under Code Section 79 are not considered. Thus, the mid-quarter convention does not apply to Norm in 204 since 00% of the basis of property considered for the test was placed in service in the first quarter. The $55,000 remaining basis in the polishing machine is depreciated using the half-year convention. Variation: Now assume that Norm claims a $477,000 Section 79 deduction for the polishing machine. For the 40% test, he has placed $7,000 of assets the in $55,000 service in ($78, : $5,000 $23,000) ($30,000 remaining $25,000) basis in the of first the quarter grinding and machine $2,000 in service in the in December. fourth quarter. Since Since that is $2,000 00% of exceeds the basis $6,800 counted ($7,000 for the 40% x 40%) test, the 00% of Norm s midquarter assets convention were placed applies in service to the in assets the last placed three in months service of in the 204. year and the mid-quarter convention applies to the grinding machine s remaining $55,000 basis. Mid-Month Convention The mid-month convention applies to residential rental and nonresidential real property. Property placed in service or disposed of during any month is considered placed in service or disposed of on the midpoint of that month. So, for the month the asset is placed in service or disposed of, a half-month of depreciation is taken. Month Placed in Service/Disposed of Mid-Month Convention Percentages % of Full Year Depreciation Placed in Service Year % of Full Year Depreciation Disposition Year % 4.7 % Convention in Year of Disposition If property subject to the half-year convention is sold, the half-year convention also applies in the year of the sale. Thus, half a year s depreciation is claimed in the year of disposition. If the mid-quarter convention applied to property in the year placed in service, the property is treated as disposed of at the midpoint of the quarter in which the disposition occurred. See the Mid-Quarter Convention Percentages table in the previous column for the percentage of a full year s depreciation allowed in the year of disposition. 204 Tax Year Depreciation Quickfinder Handbook 2-5

9 Farm Property Recovery Periods IRS Pub. 225 and Rev. Proc Recovery Period in Years Assets GDS ADS Agricultural structures (single purpose) Airplanes (including helicopters) Automobiles Calculators and copiers Cattle (dairy or breeding) Communication equipment Computer and peripheral equipment Cotton ginning assets Drainage facilities Farm buildings Farm machinery and equipment Fences (agricultural) Goats and sheep (breeding) Grain bins Hogs (breeding) Horses (age when placed in service) Breeding and working (2 years or less) Breeding and working (more than 2 years) Racing horses Horticultural structures (single purpose) House trailers for farm laborers mobile (has wheels and a history of movement) House trailers for farm laborers not mobile (wheels have been removed and permanent utilities and pipes are attached to it) Logging machinery and equipment Nonresidential real property Office furniture, fixtures and equipment (not calculators, copiers or typewriters) Paved lots Residential rental property Tractor units (over-the-road) Trees or vines bearing fruit or nuts Truck (heavy duty, unloaded weight 3,000 lbs. or more) Truck (actual weight less than 3,000 lbs.) Vineyard trellising Water wells (for raising poultry and livestock) Not including airplanes used in commercial or contract carrying of passengers. 2 Not including communication equipment listed in other classes. 3 Not including single purpose agricultural or horticultural structures. 4 New farm equipment placed in service in 2009 was five-year (rather than sevenyear) property. Five-year treatment excluded grain bins, cotton ginning assets, fences or other land improvements. 5 For race horses placed in service after December 3, 2008 and before January, 204. Outside of that date range, race horses more than two years old when placed in service are three-year property, and race horses two years old or younger are seven-year property. 6 Used by logging and sawmill operators for cutting timber. 7 For property placed in service after May 2, 993; for property placed in service before May 3, 993, the recovery period is 3.5 years. Example #2: Green Farm, Inc. is actively involved in agricultural activities. In 204, Green Farm purchases a 0-acre piece of land that includes a farm house, hog barns, a general purpose machine shed and a grain bin. Green Farm also purchases the hog livestock on site. In considering how to depreciate the personal and real property purchased, all the assets purchased are considered farm assets, subject to the 50% declining balance method, and assigned the following recovery periods: The farm house (Asset Class 0.3) is used to house the farm manager and is depreciated over 20 years. The machine shed (Asset Class 0.3) is a general purpose farm building subject to 20-year life. The hog barns (Asset Class 0.4) qualify as single purpose agricultural buildings depreciated over 0 years. The machinery and equipment (Asset Class 0.) inside the hog barns are seven-year property. The grain bin (Asset Class 0.) is seven-year property. The breeding hogs (Asset Class 0.23) qualify as three-year property. Plants With a Preproductive Period of More Than Two Years Plants producing the following crops or yields have a nationwide weighted average preproductive period of more than two years: (Notice 203-8) Almonds Apples Apricots Avocados Blueberries Cherries Chestnuts Coffee beans Currants Dates Figs Grapefruit Grapes Guavas Kiwifruit Kumquats Lemons Limes Macadamia nuts Mangoes Nectarines Olives Oranges Peaches Pears Pecans Persimmons Pistachio nuts Plums Pomegranates Prunes Tangelos Tangerines Tangors Walnuts Short Tax Years The optional MACRS depreciation tables (see Tab 4) assume that the tax year property is placed in service and all subsequent tax years in the recovery period are full 2-month years. When property is placed in service or subject to depreciation deductions during a short tax year, special calculations apply. (Rev. Proc. 89-5) U Caution: The optional MACRS depreciation tables cannot be used to compute depreciation if at any time during the recovery period there is a short tax year. When the Tax Year Begins The tax year does not begin until the taxpayer engages in a trade or business. For employee business expense purposes, the tax year can include any period during which the person is engaged in a trade or business as an employee, including periods before assets are placed in service. Example: On July, 204, ABC Corp. expanded its sales department and required employees to furnish their own auto as a condition of employment. Bill has been an employee of ABC for three years; Curt and David are new hires. Curt previously worked for five years for a similar business; David recently graduated from college, and this is his first job. All three placed an auto in service on July as a result of ABC s requirement. Bill and Curt do not have a short tax year for the auto placed in service on July because they are considered to have been engaged in a trade or business for the entire year. Conversely, David has a short tax year beginning with his employment on July. Placed-in-Service Date in a Short Tax Year Depreciation in a short year begins on the placed-in-service date determined under the applicable convention Tax Year Depreciation Quickfinder Handbook Replacement Page /

10 Computing Depreciation After a Short Year For the tax years after the first short year, depreciation may be computed using either the simplified method or the allocation method (Rev. Proc. 89-5). The method chosen must be consistently used until the tax year that a switch to the MACRS straight-line () method is required because it produces a larger depreciation deduction. Usually, both methods produce the same depreciation allowance. Simplified method. Calculate depreciation for a later 2-month year in the recovery period by multiplying the adjusted basis of the property at the beginning of the year by the applicable depreciation rate. See Optional Tables Not Used on Page 2-6 for the applicable rates. Allocation method. Calculate depreciation for each later tax year by allocating to that year the depreciation attributable to the parts of the recovery years that fall within that year. For each recovery year included, multiply the depreciation attributable to that recovery year by a fraction. The fraction s numerator is the number of months (including parts of a month) that are included in both the tax year and the recovery year. The denominator is 2. The allowable depreciation for the tax year is the sum of the depreciation figured for each recovery year. Example #: Mary Jones forms a proprietorship that has a short tax year beginning March 5 and ending December 3. She is treated as having a 0-month tax year and, under the half-year convention, calculates a $67 ($,000 40% 5 2) depreciation allowance for year on a $,000 asset with a five-year recovery period. If Mary uses the simplified method for computing depreciation in the following years, her depreciation in years 2 and 3 will be as follows: Year Depreciation Allowance 2... ($,000 $67) 40% = $ ($,000 $67 $333) 40% = $200 Example #2: Assume the same facts as in Example #, except that the allocation method is used to compute the depreciation in years after the short year. For the second year, a two-part calculation is required. Seven months of depreciation is calculated using the method applicable to the first short-year calculation, and five months of depreciation is computed using the adjusted basis of $600 ($,000 original cost less $400 depreciation allowance claimed in the first 2 months). The calculations for the first three years under this method are as follows: Year Depreciation Allowance... 40% $,000 5/2 = $ (40% $,000 7/2) + (40% $600 5/2) = $ (40% $600 7/2) + (40% $360 5/2) = $200 Special (Bonus) Depreciation Expired Provision Alert: For qualified assets placed in service before 204, special depreciation was available. With the exception of Long Production Period Property and Aircraft on Page 2-3, special depreciation is not available for property placed in service after 203 unless legislation is enacted to extend it. This discussion is included in the event that special depreciation is extended to 204. To be eligible for the special (bonus) depreciation allowance, an asset must pass four tests: [IRC 68(k)(2)(A)] ) It must be qualified property. See Qualified Property below. 2) It must be new (see Original Use on Page 2-3). 3) It must be acquired by purchase (a) after 2007 with no written binding contract to acquire in effect at any time before 2008 or (b) pursuant to a written binding contract entered into during For self-constructed property this test is met if the taxpayer begins manufacturing, constructing or producing the property during ) It must be placed in service before 204. Exception: See Long Production Period Property and Aircraft on Page 2-3 for the extended placed in service date for certain assets. Special Depreciation Percentages Date Qualifying Property Placed in Service Special Depreciation Allowance Percentage Before % //08 9/8/0 50% 9/9/0 2/3/, 2 00% % After % Must be acquired and placed in service during this period to qualify for 00% special depreciation. For this test, property is acquired when the taxpayer pays or incurs the cost of the property. (Rev. Proc ) 2 Certain long production period property and aircraft qualify for 00% special depreciation allowance if placed in service 9/9/0 2/3/2. 3 Certain long production period property and aircraft qualify for 50% special depreciation allowance if placed in service in 204. See Long Production Period Property and Aircraft on Page 2-3. Computing the Deduction Determine the special (bonus) depreciation allowance without any pro-ration based on when the property was placed in service or for short tax years. Property placed in service on the last day of the tax year is eligible for the full special (bonus) depreciation amount. The special (bonus) depreciation allowance is an additional deduction computed after any Section 79 deduction (if applicable) and before regular MACRS depreciation is calculated. Qualified Property To qualify for the special (bonus) depreciation allowance, an asset must be one of the following: [IRC 68(k)(2)] ) MACRS asset with a recovery period of 20 years or less, 2) Depreciable computer software other than software amortizable under Code Section 97 (for example, off-the-shelf software), 3) Water utility property defined in Code Section 68(e)(5) or 4) Qualified leasehold improvement property (see Qualified leasehold improvement property on Page 2-3). Qualified property does not include: ) Property placed in service and disposed of in the same tax year. 2) Property converted from business use to personal use in the same tax year it is acquired. [Reg..68(k)-(f)(6)] 3) Property that must be depreciated using the Alternative Depreciation System (ADS). This includes listed property used 50% or less for business. 4) Property for which taxpayer elected not to claim any special depreciation allowance. The special depreciation allowance for 203 generally equals 50% of the property s basis [IRC 68(k)()(A)]. See the Special Depreciation Percentages table in the next column for percentages for other years Tax Year Depreciation Quickfinder Handbook Replacement Page /