IRS Releases Publication 946 (2016), How to Depreciate Property

 

To figure your depreciation deduction, you must determine the basis of your property. To determine basis, you need to know the cost or other basis of your property.

Cost as Basis

The basis of property you buy is its cost plus amounts you paid for items such as sales tax (see Exception below), freight charges, and installation and testing fees. The cost includes the amount you pay in cash, debt obligations, other property, or services.

Exception. You can elect to deduct state and local general sales taxes instead of state and local income taxes as an itemized deduction on Schedule A (Form 1040). If you make that choice, you cannot include those sales taxes as part of your cost basis.

Assumed debt. If you buy property and assume (or buy subject to) an existing mortgage or other debt on the property, your basis includes the amount you pay for the property plus the amount of the assumed debt.

Example. You make a $20,000 down payment on property and assume the seller's mortgage of $120,000. Your total cost is $140,000, the cash you paid plus the mortgage you assumed.

Settlement costs. The basis of real property also includes certain fees and charges you pay in addition to the purchase price. These generally are shown on your settlement statement and include the following.

 

• Legal and recording fees.

• Abstract fees.

• Survey charges.

• Owner's title insurance.

• Amounts the seller owes that you agree to pay, such as back taxes or interest, recording or mortgage fees, charges for improvements or repairs, and sales commissions.

 

For fees and charges you cannot include in the basis of property, see Real Property in Pub. 551.

Property you construct or build. If you construct, build, or otherwise produce property for use in your business, you may have to use the uniform capitalization rules to determine the basis of your property. For information about the uniform capitalization rules, see Pub. 551 and the regulations under section 263A of the Internal Revenue Code.

Other Basis

Other basis usually refers to basis that is determined by the way you received the property. For example, your basis is other than cost if you acquired the property in exchange for other property, as payment for services you performed, as a gift, or as an inheritance. If you acquired property in this or some other way, see Pub. 551 to determine your basis.

Property changed from personal use. If you held property for personal use and later use it in your business or income-producing activity, your depreciable basis is the lesser of the following.

Example. Several years ago, Nia paid $160,000 to have her home built on a lot that cost her $25,000. Before changing the property to rental use last year, she paid $20,000 for permanent improvements to the house and claimed a $2,000 casualty loss deduction for damage to the house. Land is not depreciable, so she includes only the cost of the house when figuring the basis for depreciation.

Nia's adjusted basis in the house when she changed its use was $178,000 ($160,000 + $20,000 - $2,000). On the same date, her property had an FMV of $180,000, of which $15,000 was for the land and $165,000 was for the house. The basis for depreciation on the house is the FMV on the date of change ($165,000), because it is less than her adjusted basis ($178,000).

Property acquired in a nontaxable transaction. Generally, if you receive property in a nontaxable exchange, the basis of the property you receive is the same as the adjusted basis of the property you gave up. Special rules apply in determining the basis and figuring the MACRS depreciation deduction and special depreciation allowance for property acquired in a like-kind exchange or involuntary conversion. See Like-kind exchanges and involuntary conversions under How Much Can You Deduct in chapter 3, and Figuring the Deduction for Property Acquired in a Nontaxable Exchange in chapter 4.

There are also special rules for determining the basis of MACRS property involved in a like-kind exchange or involuntary conversion when the property is contained in a general asset account. See How Do You Use General Asset Accounts in chapter 4.

Adjusted Basis

To find your property's basis for depreciation, you may have to make certain adjustments (increases and decreases) to the basis of the property for events occurring between the time you acquired the property and the time you placed it in service. These events could include the following.

 

For a discussion of adjustments to the basis of your property, see Adjusted Basis in Pub. 551.

If you depreciate your property under MACRS, you also may have to reduce your basis by certain deductions and credits with respect to the property. For more information, see What Is the Basis for Depreciation in chapter 4.

Basis adjustment for depreciation allowed or allowable. You must reduce the basis of property by the depreciation allowed or allowable, whichever is greater. Depreciation allowed is depreciation you actually deducted (from which you received a tax benefit). Depreciation allowable is depreciation you are entitled to deduct.

If you do not claim depreciation you are entitled to deduct, you must still reduce the basis of the property by the full amount of depreciation allowable.

If you deduct more depreciation than you should, you must reduce your basis by any amount deducted from which you received a tax benefit (the depreciation allowed).

How Do You Treat Repairs and Improvements?

If you improve depreciable property, you must treat the improvement as separate depreciable property. Improvement means an addition to or partial replacement of property that is a betterment to the property, restores the property, or adapts it to a new or different use. See section 1.263(a)-3 of the regulations.

You generally deduct the cost of repairing business property in the same way as any other business expense. However, if the cost is for a betterment to the property, to restore the property, or to adapt the property to a new or different use, you must treat it as an improvement and depreciate it.

Example. You repair a small section on one corner of the roof of a rental house. You deduct the cost of the repair as a rental expense. However, if you completely replace the roof, the new roof is an improvement because it is a restoration of the building. You depreciate the cost of the new roof.

Improvements to rented property. You can depreciate permanent improvements you make to business property you rent from someone else.

Do You Have To File Form 4562?

Terms you may need to know (see Glossary):

 

Use Form 4562 to figure your deduction for depreciation and amortization. Attach Form 4562 to your tax return for the current tax year if you are claiming any of the following items.

 

CAUTION: You must submit a separate Form 4562 for each business or activity on your return for which a Form 4562 is required.

Table 1-1 presents an overview of the purpose of the various parts of Form 4562.

Employee. Do not use Form 4562 if you are an employee and you deduct job-related vehicle expenses using either actual expenses (including depreciation) or the standard mileage rate. Instead, use either Form 2106 or Form 2106-EZ. Use Form 2106-EZ if you are claiming the standard mileage rate and you are not reimbursed by your employer for any expenses.

How Do You Correct Depreciation Deductions?

If you deducted an incorrect amount of depreciation in any year, you may be able to make a correction by filing an amended return for that year. See Filing an Amended Return, next. If you are not allowed to make the correction on an amended return, you may be able to change your accounting method to claim the correct amount of depreciation. See Changing Your Accounting Method, later.

Filing an Amended Return

You can file an amended return to correct the amount of depreciation claimed for any property in any of the following situations.

 

Adoption of accounting method defined. Generally, you adopt a method of accounting for depreciation by using a permissible method of determining depreciation when you file your first tax return, or by using the same impermissible method of determining depreciation in two or more consecutively filed tax returns.

For an exception to the 2-year rule, see Revenue Procedure 2016-29 on page 888 of Internal Revenue Bulletin 2016-21, available at http://www.irs.gov/irb/2016-21_IRB/ar13.html, as modified by Notice 2017-6 on page 422 of Revenue Bulletin 2017-3, available at http://www.irs.gov/irb/2017-03_IRB/ar10.html.

When to file. If an amended return is allowed, you must file it by the later of the following.

 

Changing Your Accounting Method

Generally, you must get IRS approval to change your method of accounting. You generally must file Form 3115, Application for Change in Accounting Method, to request a change in your method of accounting for depreciation.

The following are examples of a change in method of accounting for depreciation.

 

Changes in depreciation that are not a change in method of accounting (and may only be made on an amended return) include the following.

 

See section 1.446-1(e)(2)(ii)(d) of the regulations for more information and examples.

IRS approval. If your change in method of accounting for depreciation is described in Revenue Procedure 2016-29, you may be able to get approval from the IRS to make that change under the automatic change request procedures generally covered in Revenue Procedure 2015-13 on page 419 of Internal Revenue Bulletin 2015-5. If you do not qualify to use the automatic procedures to get approval, you must use the advance consent request procedures generally covered in Revenue Procedure 2015-13. Also see the Instructions for Form 3115 for more information on getting approval, including lists of scope limitations and automatic accounting method changes.

Additional guidance. For additional guidance and special procedures for changing your accounting method, automatic change procedures, amending your return, and filing Form 3115, see Revenue Procedure 2015-13 on page 419 of Internal Revenue Bulletin 2015-5 and Revenue Procedure 2016-29 on page 888 of Internal Revenue Bulletin 2016-21, available at http://www.irs.gov/irb/2016-21_IRB/ar13.html.

Section 481(a) adjustment. If you file Form 3115 and change from an impermissible method to a permissible method of accounting for depreciation, you can make a section 481(a) adjustment for any unclaimed or excess amount of allowable depreciation. The adjustment is the difference between the total depreciation actually deducted for the property and the total amount allowable prior to the year of change. If no depreciation was deducted, the adjustment is the total depreciation allowable prior to the year of change. A negative section 481(a) adjustment results in a decrease in taxable income. It is taken into account in the year of change and is reported on your business tax returns as "other expenses." A positive section 481(a) adjustment results in an increase in taxable income. It is generally taken into account over 4 tax years and is reported on your business tax returns as "other income." However, you can elect to use a one-year adjustment period and report the adjustment in the year of change if the total adjustment is less than $50,000. Make the election by completing the appropriate line on Form 3115.

If you file a Form 3115 and change from one permissible method to another permissible method, the section 481(a) adjustment is zero.

2. Electing the Section 179 Deduction

Introduction

You can elect to recover all or part of the cost of certain qualifying property, up to a limit, by deducting it in the year you place the property in service. This is the section 179 deduction. You can elect the section 179 deduction instead of recovering the cost by taking depreciation deductions.

CAUTION: Estates and trusts cannot elect the section 179 deduction.

This chapter explains what property does and does not qualify for the section 179 deduction, what limits apply to the deduction (including special rules for partnerships and corporations), and how to elect it. It also explains when and how to recapture the deduction.

Useful Items

You may want to see:

Publication

 

Form (and Instructions)

 

See chapter 6 for information about getting publications and forms.

What Property Qualifies?

Terms you may need to know (see Glossary):

 

To qualify for the section 179 deduction, your property must meet all the following requirements.

 

The following discussions provide information about these requirements and exceptions.

Eligible Property

To qualify for the section 179 deduction, your property must be one of the following types of depreciable property.

 

Tangible personal property. Tangible personal property is any tangible property that is not real property. It includes the following property.

 

The treatment of property as tangible personal property for the section 179 deduction is not controlled by its treatment under local law. For example, property may not be tangible personal property for the deduction even if treated so under local law, and some property (such as fixtures) may be tangible personal property for the deduction even if treated as real property under local law.

Off-the-shelf computer software. Off-the-shelf computer software is qualifying property for purposes of the section 179 deduction. This is computer software that is readily available for purchase by the general public, is subject to a nonexclusive license, and has not been substantially modified. It includes any program designed to cause a computer to perform a desired function. However, a database or similar item is not considered computer software unless it is in the public domain and is incidental to the operation of otherwise qualifying software.

Qualified real property. You can elect to treat certain qualified real property you placed in service during the tax year as section 179 property. If this election is made, the term "section 179 property" will include any qualified real property that is:

 

For more information, see Special rules for qualified section 179 real property, later.

Qualified leasehold improvement property. Generally, this is any improvement to an interior portion of a building that is nonresidential real property, provided all of the requirements discussed in chapter 4 under Qualified leasehold improvement property are met.

In addition, an improvement made by the lessor does not qualify as qualified leasehold improvement property to any subsequent owner unless it is acquired from the original lessor by reason of the lessor's death or in any of the following types of transactions.

Qualified restaurant property. Qualified restaurant property is any section 1250 property that is a building or an improvement to a building placed in service during the tax year. Also, more than 50% of the building's square footage must be devoted to preparation of meals and seating for on-premise consumption of prepared meals.

Qualified retail improvement property. Generally, this is any improvement to an interior portion of nonresidential real property if it meets the following requirements.

 

In addition, an improvement made by the lessor does not qualify as qualified retail improvement property to any subsequent owner unless it is acquired from the original lessor by reason of the lessor's death or in any of the following types of transactions. Property Acquired for Business Use

To qualify for the section 179 deduction, your property must have been acquired for use in your trade or business. Property you acquire only for the production of income, such as investment property, rental property (if renting property is not your trade or business), and property that produces royalties, does not qualify.

Partial business use. When you use property for both business and nonbusiness purposes, you can elect the section 179 deduction only if you use the property more than 50% for business in the year you place it in service. If you use the property more than 50% for business, multiply the cost of the property by the percentage of business use. Use the resulting business cost to figure your section 179 deduction.

Example. May Oak bought and placed in service an item of section 179 property costing $11,000. She used the property 80% for her business and 20% for personal purposes. The business part of the cost of the property is $8,800 (80% × $11,000).

Property Acquired by Purchase

To qualify for the section 179 deduction, your property must have been acquired by purchase. For example, property acquired by gift or inheritance does not qualify.

Property is not considered acquired by purchase in the following situations.

 

Related persons. Related persons are described under Related persons earlier. However, to determine whether property qualifies for the section 179 deduction, treat as an individual's family only his or her spouse, ancestors, and lineal descendants and substitute "50%" for "10%" each place it appears.

Example. Ken Larch is a tailor. He bought two industrial sewing machines from his father. He placed both machines in service in the same year he bought them. They do not qualify as section 179 property because Ken and his father are related persons. He cannot claim a section 179 deduction for the cost of these machines.

What Property Does Not Qualify?

Terms you may need to know (see Glossary):

 

Certain property does not qualify for the section 179 deduction. This includes the following.

Land and Improvements

Land and land improvements do not qualify as section 179 property. Land improvements include swimming pools, paved parking areas, wharves, docks, bridges, and fences.

Excepted Property

Even if the requirements explained earlier under What Property Qualifies are met, you cannot elect the section 179 deduction for the following property.

 

Leased property. Generally, you cannot claim a section 179 deduction based on the cost of property you lease to someone else. This rule does not apply to corporations. However, you can claim a section 179 deduction for the cost of the following property. Property used for lodging. Generally, you cannot claim a section 179 deduction for property used predominantly to furnish lodging or in connection with the furnishing of lodging. However, this does not apply to the following types of property.

 

Energy property. Energy property is property that meets the following requirements.

 

For periods before February 14, 2008, energy property does not include any property that is public utility property as defined by section 46(f)(5) of the Internal Revenue Code (as in effect on November 4, 1990).

How Much Can You Deduct?

Terms you may need to know (see Glossary):

 

Your section 179 deduction is generally the cost of the qualifying property. However, the total amount you can elect to deduct under section 179 is subject to a dollar limit and a business income limit. These limits apply to each taxpayer, not to each business. However, see Married Individuals under Dollar Limits, later. For a passenger automobile, the total section 179 deduction and depreciation deduction are limited. See Do the Passenger Automobile Limits Apply in chapter 5.

If you deduct only part of the cost of qualifying property as a section 179 deduction, you can generally depreciate the cost you do not deduct.

Trade-in of other property. If you buy qualifying property with cash and a trade-in, its cost for purposes of the section 179 deduction includes only the cash you paid.

Example. Silver Leaf, a retail bakery, traded two ovens having a total adjusted basis of $680 for a new oven costing $1,320. They received an $800 trade-in allowance for the old ovens and paid $520 in cash for the new oven. The bakery also traded a used van with an adjusted basis of $4,500 for a new van costing $9,000. They received a $4,800 trade-in allowance on the used van and paid $4,200 in cash for the new van.

Only the portion of the new property's basis paid by cash qualifies for the section 179 deduction. Therefore, Silver Leaf's qualifying costs for the section 179 deduction are $4,720 ($520 + $4,200).

Dollar Limits

The total amount you can elect to deduct under section 179 for most property placed in service in tax years beginning in 2016 generally cannot be more than $500,000. If you acquire and place in service more than one item of qualifying property during the year, you can allocate the section 179 deduction among the items in any way, as long as the total deduction is not more than $500,000. You do not have to claim the full $500,000.

TIP: The amount you can elect to deduct is not affected if you place qualifying property in service in a short tax year or if you place qualifying property in service for only a part of a 12-month tax year.

CAUTION: After you apply the dollar limit to determine a tentative deduction, you must apply the business income limit (described later) to determine your actual section 179 deduction.

Example. In 2016, you bought and placed in service $500,000 in machinery and a $25,000 circular saw for your business. You elect to deduct $475,000 for the machinery and the entire $25,000 for the saw, a total of $500,000. This is the maximum amount you can deduct. Your $25,000 deduction for the saw completely recovered its cost. Your basis for depreciation is zero. The basis for depreciation of your machinery is $25,000. You figure this by subtracting your $475,000 section 179 deduction for the machinery from the $500,000 cost of the machinery.

Situations affecting dollar limit. Under certain circumstances, the general dollar limits on the section 179 deduction may be reduced or increased or there may be additional dollar limits. The general dollar limit is affected by any of the following situations.

 

Costs Exceeding $2,010,000

If the cost of your qualifying section 179 property placed in service in a year is more than $2,010,000, you generally must reduce the dollar limit (but not below zero) by the amount of cost over $2,010,000. If the cost of your section 179 property placed in service during 2016 is $2,510,000 or more, you cannot take a section 179 deduction.

Example. In 2016, Jane Ash placed in service machinery costing $2,110,000. This cost is $100,000 more than $2,010,000, so she must reduce her dollar limit to $400,000 ($500,000 - $100,000).

Enterprise Zone Businesses

An increased section 179 deduction is available to enterprise zone businesses for qualified zone property placed in service during the tax year, in an empowerment zone. For more information including the definitions of "enterprise zone business" and "qualified zone property," see sections 1397A, 1397C, and 1397D of the Internal Revenue Code.

The dollar limit on the section 179 deduction is increased by the smaller of:

 

Note. You take into account only 50% (instead of 100%) of the cost of qualified zone property placed in service in a year when figuring the reduced dollar limit for costs exceeding $2,010,000 (explained earlier).

Sport Utility and Certain Other Vehicles

You cannot elect to expense more than $25,000 of the cost of any heavy sport utility vehicle (SUV) and certain other vehicles placed in service during the tax year. This rule applies to any 4-wheeled vehicle primarily designed or used to carry passengers over public streets, roads, or highways, that is rated at more than 6,000 pounds gross vehicle weight and not more than 14,000 pounds gross vehicle weight. However, the $25,000 limit does not apply to any vehicle:

 

Married Individuals

If you are married, how you figure your section 179 deduction depends on whether you file jointly or separately. If you file a joint return, you and your spouse are treated as one taxpayer in determining any reduction to the dollar limit, regardless of which of you purchased the property or placed it in service. If you and your spouse file separate returns, you are treated as one taxpayer for the dollar limit, including the reduction for costs over $2,010,000. You must allocate the dollar limit (after any reduction) between you equally, unless you both elect a different allocation. If the percentages elected by each of you do not total 100%, 50% will be allocated to each of you.

Example. Jack Elm is married. He and his wife file separate returns. Jack bought and placed in service $2,010,000 of qualified farm machinery in 2016. His wife has her own business, and she bought and placed in service $30,000 of qualified business equipment. Their combined dollar limit is $470,000. This is because they must figure the limit as if they were one taxpayer. They reduce the $500,000 dollar limit by the $30,000 excess of their costs over $2,010,000.

They elect to allocate the $470,000 dollar limit as follows.

 

If they did not make an election to allocate their costs in this way, they would have to allocate $235,000 ($470,000 × 50%) to each of them.

Joint return after filing separate returns. If you and your spouse elect to amend your separate returns by filing a joint return after the due date for filing your return, the dollar limit on the joint return is the lesser of the following amounts.

 

Example. The facts are the same as in the previous example except that Jack elected to deduct $30,000 of the cost of section 179 property on his separate return and his wife elected to deduct $2,000. After the due date of their returns, they file a joint return. Their dollar limit for the section 179 deduction is $32,000. This is the lesser of the following amounts.

 

Business Income Limit

The total cost you can deduct each year after you apply the dollar limit is limited to the taxable income from the active conduct of any trade or business during the year. Generally, you are considered to actively conduct a trade or business if you meaningfully participate in the management or operations of the trade or business.

Any cost not deductible in one year under section 179 because of this limit can be carried to the next year. Special rules apply to a deduction of qualified section 179 real property that is placed in service by you in tax years beginning before 2016 and disallowed because of the business income limit. See Special rules for qualified section 179 real property under Carryover of disallowed deduction, later.

Taxable income. In general, figure taxable income for this purpose by totaling the net income and losses from all trades and businesses you actively conducted during the year. Net income or loss from a trade or business includes the following items.

 

For information about section 1231 gains and losses, see chapter 3 in Pub. 544.

In addition, figure taxable income without regard to any of the following.

 

Two different taxable income limits. In addition to the business income limit for your section 179 deduction, you may have a taxable income limit for some other deduction. You may have to figure the limit for this other deduction taking into account the section 179 deduction. If so, complete the following steps.

 -------------------------------------------------------

 

 Step                        Action

 

 -------------------------------------------------------

 

 1        Figure taxable income without the section 179

 

          deduction or the other deduction.

 

 -------------------------------------------------------

 

 2        Figure a hypothetical section 179 deduction

 

          using the taxable income figured in Step 1.

 

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 3        Subtract the hypothetical section 179

 

          deduction figured in Step 2 from the taxable

 

          income figured in Step 1.

 

 -------------------------------------------------------

 

 4        Figure a hypothetical amount for the other

 

          deduction using the amount figured in Step 3

 

          as taxable income.

 

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 5        Subtract the hypothetical other deduction

 

          figured in Step 4 from the taxable income

 

          figured in Step 1.

 

 -------------------------------------------------------

 

 6        Figure your actual section 179 deduction using

 

          the taxable income figured in Step 5.

 

 -------------------------------------------------------

 

 7        Subtract your actual section 179 deduction

 

          figured in Step 6 from the taxable income

 

          figured in Step 1.

 

 -------------------------------------------------------

 

 8        Figure your actual other deduction using the

 

          taxable income figured in Step 7.

 

 -------------------------------------------------------

 

 

Example. On February 1, 2016, the XYZ corporation purchased and placed in service qualifying section 179 property that cost $500,000. It elects to expense the entire $500,000 cost under section 179. In June, the corporation gave a charitable contribution of $10,000. A corporation's limit on charitable contributions is figured after subtracting any section 179 deduction. The business income limit for the section 179 deduction is figured after subtracting any allowable charitable contributions. XYZ's taxable income figured without the section 179 deduction or the deduction for charitable contributions is $520,000. XYZ figures its section 179 deduction and its deduction for charitable contributions as follows.

Step 1 -- Taxable income figured without either deduction is $520,000.

Step 2 -- Using $520,000 as taxable income, XYZ's hypothetical section 179 deduction is $500,000.

Step 3 -- $20,000 ($520,000 - $500,000).

Step 4 -- Using $20,000 (from Step 3) as taxable income, XYZ's hypothetical charitable contribution (limited to 10% of taxable income) is $2,000.

Step 5 -- $518,000 ($520,000 - $2,000).

Step 6 -- Using $518,000 (from Step 5) as taxable income, XYZ figures the actual section 179 deduction. Because the taxable income is at least $500,000, XYZ can take a $500,000 section 179 deduction.

Step 7 -- $20,000 ($520,000 - $500,000).

Step 8 -- Using $20,000 (from Step 7) as taxable income, XYZ's actual charitable contribution (limited to 10% of taxable income) is $2,000.

Carryover of disallowed deduction. You can carry over for an unlimited number of years the cost of any section 179 property you elected to expense but were unable to because of the business income limit. This disallowed deduction amount is shown on line 13 of Form 4562. You use the amount you carry over to determine your section 179 deduction in the next year. Enter that amount on line 10 of your Form 4562 for the next year.

If you place more than one property in service in a year, you can select the properties for which all or a part of the costs will be carried forward. Your selections must be shown in your books and records. For this purpose, treat section 179 costs allocated from a partnership or an S corporation as one item of section 179 property. If you do not make a selection, the total carryover will be allocated equally among the properties you elected to expense for the year.

If costs from more than one year are carried forward to a subsequent year in which only part of the total carryover can be deducted, you must deduct the costs being carried forward from the earliest year first.

Special rules for qualified section 179 real property. You can carry over to 2017 a 2016 deduction attributable to qualified section 179 real property that you placed in service in tax years beginning after 2015 and that you elected to expense but were unable to take because of the business income limitation. See Carryover of disallowed deduction, above. However, a 2015 deduction (any such 2014 carryover amounts not deducted in 2015, plus any 2015 disallowed amounts) attributable to qualified section 179 real property that you elected to expense but were unable to take because of the business income limitation cannot be carried over to 2016. Instead, these amounts are treated as property placed in service on the first day of 2015 for purposes of computing depreciation (including the special depreciation allowance, if applicable). See section 179(f) of the Internal Revenue Code, as in effect before section 124(c)(2) of the PATH Act, for more information. Also see, Notice 2013-59, section 5 of Revenue Procedure 2015-48, and sections 2 and 3 of Revenue Procedure 2016-48. You can find Notice 2013-59 at http://www.irs.gov/irb/2013-40_IRB/ar14.html, Revenue Procedure 2015-48 at http://www.irs.gov/irb/2015-40_IRB/ar13.html, and Revenue Procedure 2016-48 at http://www.irs.gov/irb/2016-37_IRB/ar10.html. Also, see Election for certain qualified section 179 real property, later, for information on how to make this election.

TIP: If there is a sale or other disposition of your property (including a transfer at death) before you can use the full amount of any outstanding carryover of your disallowed section 179 deduction, neither you nor the new owner can deduct any of the unused amount. Instead, you must add it back to the property's basis.

Partnerships and Partners

The section 179 deduction limits apply both to the partnership and to each partner. The partnership determines its section 179 deduction subject to the limits. It then allocates the deduction among its partners.

Each partner adds the amount allocated from partnerships (shown on Schedule K-1 (Form 1065), Partner's Share of Income, Deductions, Credits, etc.) to his or her nonpartnership section 179 costs and then applies the dollar limit to this total. To determine any reduction in the dollar limit for costs over $2,010,000, the partner does not include any of the cost of section 179 property placed in service by the partnership. After the dollar limit (reduced for any nonpartnership section 179 costs over $2,010,000) is applied, any remaining cost of the partnership and nonpartnership section 179 property is subject to the business income limit.

Partnership's taxable income. For purposes of the business income limit, figure the partnership's taxable income by adding together the net income and losses from all trades or businesses actively conducted by the partnership during the year. See the Instructions for Form 1065 for information on how to figure partnership net income (or loss). However, figure taxable income without regard to credits, tax-exempt income, the section 179 deduction, and guaranteed payments under section 707(c) of the Internal Revenue Code.

Partner's share of partnership's taxable income. For purposes of the business income limit, the taxable income of a partner engaged in the active conduct of one or more of a partnership's trades or businesses includes his or her allocable share of taxable income derived from the partnership's active conduct of any trade or business.

Example. In 2016, Beech Partnership placed in service section 179 property with a total cost of $2,035,000. The partnership must reduce its dollar limit by $25,000 ($2,035,000 - $2,010,000). Its maximum section 179 deduction is $475,000 ($500,000 - $25,000), and it elects to expense that amount. The partnership's taxable income from the active conduct of all its trades or businesses for the year was $600,000, so it can deduct the full $475,000. It allocates $40,000 of its section 179 deduction and $50,000 of its taxable income to Dean, one of its partners.

In addition to being a partner in Beech Partnership, Dean is also a partner in the Cedar Partnership, which allocated to him a $30,000 section 179 deduction and $35,000 of its taxable income from the active conduct of its business. He also conducts a business as a sole proprietor and, in 2016, placed in service in that business qualifying section 179 property costing $55,000. He had a net loss of $5,000 from that business for the year.

Dean does not have to include section 179 partnership costs to figure any reduction in his dollar limit, so his total section 179 costs for the year are not more than $2,010,000 and his dollar limit is not reduced. His maximum section 179 deduction is $500,000. He elects to expense all of the $70,000 in section 179 deductions allocated from the partnerships ($40,000 from Beech Partnership plus $30,000 from Cedar Partnership), plus $55,000 of his sole proprietorship's section 179 costs, and notes that information in his books and records. However, his deduction is limited to his business taxable income of $80,000 ($50,000 from Beech Partnership, plus $35,000 from Cedar Partnership minus $5,000 loss from his sole proprietorship). He carries over $45,000 ($125,000 - $80,000) of the elected section 179 costs to 2017. He allocates the carryover amount to the cost of section 179 property placed in service in his sole proprietorship, and notes that allocation in his books and records.

Different tax years. For purposes of the business income limit, if the partner's tax year and that of the partnership differ, the partner's share of the partnership's taxable income for a tax year is generally the partner's distributive share for the partnership tax year that ends with or within the partner's tax year.

Example. John and James Oak are equal partners in Oak Partnership. Oak Partnership uses a tax year ending January 31. John and James both use a tax year ending December 31. For its tax year ending January 31, 2016, Oak Partnership's taxable income from the active conduct of its business is $80,000, of which $70,000 was earned during 2015. John and James each include $40,000 (each partner's entire share) of partnership taxable income in computing their business income limit for the 2016 tax year.

Adjustment of partner's basis in partnership. A partner must reduce the basis of his or her partnership interest by the total amount of section 179 expenses allocated from the partnership even if the partner cannot currently deduct the total amount. If the partner disposes of his or her partnership interest, the partner's basis for determining gain or loss is increased by any outstanding carryover of disallowed section 179 expenses allocated from the partnership.

Adjustment of partnership's basis in section 179 property. The basis of a partnership's section 179 property must be reduced by the section 179 deduction elected by the partnership. This reduction of basis must be made even if a partner cannot deduct all or part of the section 179 deduction allocated to that partner by the partnership because of the limits.

S Corporations

Generally, the rules that apply to a partnership and its partners also apply to an S corporation and its shareholders. The deduction limits apply to an S corporation and to each shareholder. The S corporation allocates its deduction to the shareholders who then take their section 179 deduction subject to the limits.

Figuring taxable income for an S corporation. To figure taxable income (or loss) from the active conduct by an S corporation of any trade or business, you total the net income and losses from all trades or businesses actively conducted by the S corporation during the year.

To figure the net income (or loss) from a trade or business actively conducted by an S corporation, you take into account the items from that trade or business that are passed through to the shareholders and used in determining each shareholder's tax liability. However, you do not take into account any credits, tax-exempt income, the section 179 deduction, and deductions for compensation paid to shareholder-employees. For purposes of determining the total amount of S corporation items, treat deductions and losses as negative income. In figuring the taxable income of an S corporation, disregard any limits on the amount of an S corporation item that must be taken into account when figuring a shareholder's taxable income.

Other Corporations

A corporation's taxable income from its active conduct of any trade or business is its taxable income figured with the following changes.

 

How Do You Elect the Deduction?

Terms you may need to know (see Glossary):

 

You elect to take the section 179 deduction by completing Part I of Form 4562.

CAUTION: If you elect the deduction for listed property (described in chapter 5), complete Part V of Form 4562 before completing Part I.

For property placed in service in 2016, file Form 4562 with either of the following.

 

RECORDS: You must keep records that show the specific identification of each piece of qualifying section 179 property. These records must show how you acquired the property, the person you acquired it from, and when you placed it in service.

Election for certain qualified section 179 real property. You can elect to expense certain qualified real property that you placed in service as section 179 property for tax years beginning in 2016. If you elect to treat this property as section 179 property, you must elect the application of the special rules for qualified real property described in section 179(f) of the Internal Revenue Code.

To make the election, attach a statement indicating you are "electing the application of section 179(f) of the Internal Revenue Code" with either of the following.

 

The statement should indicate your election to expense certain qualified real property under section 179(f) on your return. It must specify one or more of the three types of qualified property (described under Qualified real property) to which the election applies, the cost of each such type, and the portion of the cost of each such property to be taken into account. Also, report this on line 6 of Form 4562.

Revoking an election. An election (or any specification made in the election) to take a section 179 deduction for 2016 can be revoked without IRS approval by filing an amended return. The amended return must be filed within the time prescribed by law. The amended return also must include any resulting adjustments to taxable income. Once made, the revocation is irrevocable.

When Must You Recapture the Deduction?

Terms you may need to know (see Glossary):

 

You may have to recapture the section 179 deduction if, in any year during the property's recovery period, the percentage of business use drops to 50% or less. In the year the business use drops to 50% or less, you include the recapture amount as ordinary income in Part IV of Form 4797. You also increase the basis of the property by the recapture amount. Recovery periods for property are discussed under Which Recovery Period Applies in chapter 4.

CAUTION: If you sell, exchange, or otherwise dispose of the property, do not figure the recapture amount under the rules explained in this discussion. Instead, use the rules for recapturing depreciation explained in chapter 3 of Pub. 544 under Section 1245 Property. For qualified real property (described earlier), see Notice 2013-59 for determining the portion of the gain that is attributable to section 1245 property upon the sale or other disposition of qualified real property. You can find Notice 2013-59 at http://www.irs.gov/irb/2013-40_IRB/ar14.html.

CAUTION: If the property is listed property (described in chapter 5), do not figure the recapture amount under the rules explained in this discussion when the percentage of business use drops to 50% or less. Instead, use the rules for recapturing excess depreciation in chapter 5 under What Is the Business-Use Requirement.

Figuring the recapture amount. To figure the amount to recapture, take the following steps.

 

Example. In January 2014, Paul Lamb, a calendar year taxpayer, bought and placed in service section 179 property costing $10,000. The property is not listed property. The property is 3-year property. He elected a $5,000 section 179 deduction for the property and also elected not to claim a special depreciation allowance. He used the property only for business in 2014 and 2015. In 2016, he used the property 40% for business and 60% for personal use. He figures his recapture amount as follows.

 Section 179 deduction claimed (2014)              $5,000.00

 

 Minus: Allowable depreciation using Table A-1

 

    (instead of section 179 deduction):

 

 2014                                 $1,666.50

 

 2015                                  2,222.50

 

 2016 ($740.50 × 40% (business))         296.20     4,185.20

 

                                      ---------    ---------

 

 2016 -- Recapture amount                            $814.80

 

                                                   =========

 

 

Paul must include $814.80 in income for 2016.

CAUTION: If any qualified zone property placed in service during the year ceases to be used in an empowerment zone by an enterprise zone business in a later year, the benefit of the increased section 179 deduction must be reported as other income on your return.

3. Claiming the Special Depreciation Allowance

Introduction

You can take a special depreciation allowance to recover part of the cost of qualified property (defined next), placed in service during the tax year. The allowance applies only for the first year you place the property in service. For qualified property placed in service in 2016, you can take an additional 50% special allowance. The allowance is an additional deduction you can take after any section 179 deduction and before you figure regular depreciation under MACRS for the year you place the property in service.

This chapter explains what is qualified property. It also includes rules regarding how to figure an allowance, how to elect not to claim an allowance, and when you must recapture an allowance.

TIP: Corporations can elect to accelerate certain minimum tax credits in lieu of claiming the special depreciation allowance for eligible qualified property. See Election to Accelerate Certain Credits in Lieu of the Special Depreciation Allowance, later.

See chapter 6 for information about getting publications and forms.

What Is Qualified Property?

Terms you may need to know (see Glossary):

 

Your property is qualified property if it is one of the following.

 

The following discussions provide information about the types of qualified property listed above for which you can take the special depreciation allowance.

Qualified Reuse and Recycling Property

You can take a 50% special depreciation allowance for qualified reuse and recycling property. Qualified reuse and recycling property is any machinery or equipment (not including buildings or real estate), along with any appurtenance, that is used exclusively to collect, distribute, or recycle qualified reuse and recyclable materials (as defined in section 168(m)(3)(B) of the Internal Revenue Code). Qualified reuse and recycling property also includes software necessary to operate such equipment. The property must meet the following requirements.

 

Excepted Property

Qualified reuse and recycling property does not include any of the following.

 

Qualified Second Generation Biofuel Plant Property

You can take a 50% special depreciation allowance for qualified second generation biofuel plant property (as defined in section 40(b)(6)(E) of the Internal Revenue Code). The property must meet the following requirements.

 

Special Rules

Sale-leaseback. If you sold qualified second generation biofuel plant property you placed in service after October 3, 2008, and leased it back within 3 months after you originally placed it in service, the property is treated as originally placed in service no earlier than the date it is used by you under the leaseback.

The property will not qualify for the special allowance if the lessee or a related person to the lessee or lessor had a written binding contract in effect for the acquisition of the property before December 21, 2006.

Syndicated leasing transactions. If qualified second generation biofuel plant property is originally placed in service by a lessor after October 3, 2008, the property is sold within 3 months of the date it was placed in service, and the user of the property does not change, then the property is treated as originally placed in service by the taxpayer no earlier than the date of the last sale.

Multiple units of property subject to the same lease will be treated as originally placed in service no earlier than the date of sale if the property is sold within 3 months after the final unit is placed in service and the period between the times the first and last units are placed in service does not exceed 12 months.

Excepted Property

Qualified second generation biofuel plant property does not include any of the following.

 

Certain Qualified Property Placed in Service Before January 1, 2020

You can take a 50% special depreciation deduction allowance for certain qualified property placed in service before January 1, 2020. Your property is qualified property if it meets the following requirements.

 

Qualified improvement property. Generally, this is any improvement to an interior part of a building that is nonresidential real property. The improvement is placed in service after the date the building is first placed in service and is section 1250 property. See chapter 3 in Pub. 544, Sales and Other Dispositions of Assets, for the definition of section 1250 property.

However, a qualified improvement does not include any improvement for which the expenditure is attributable to any of the following.

 

Long Production Period Property

To be qualified property, long production period property must meet the following requirements.

 

Noncommercial Aircraft

To be qualified property, noncommercial aircraft must meet the following requirements.

 

Special Rules

Sale-leaseback. If you sold qualified property you placed in service and leased it back within 3 months after you originally placed in service, the property is treated as originally placed in service no earlier than the date it is used by you under the leaseback.

Syndicated leasing transactions. If qualified property is originally placed in service by a lessor, the property is sold within 3 months of the date it was placed in service, and the user of the property does not change, then the property is treated as originally placed in service by the taxpayer no earlier than the date of the last sale.

Multiple units of property subject to the same lease will be treated as originally placed in service no earlier than the date of the last sale if the property is sold within 3 months after the final unit is placed in service and the period between the time the first and last units are placed in service does not exceed 12 months.

Excepted Property

Qualified property does not include any of the following.

 

Certain Plants Bearing Fruits and Nuts

You can elect to claim 50% special depreciation allowance for the adjusted basis of certain specified plants (defined later) bearing fruits and nuts planted or grafted after December 31, 2015, and before January 1, 2020, in the ordinary course of your farming business (as defined in section 263A(e)(4)).

A specified plant is:

 

Any property planted or grafted outside the United States does not qualify as a specified plant.

If you elect to claim the special depreciation allowance for any specified plant, the special depreciation allowance applies only for the tax year in which the plant is planted or grafted. The plant will not be treated as qualified property eligible for the special depreciation allowance in the subsequent tax year in which it is placed in service.

To make the election, attach a statement to your timely filed return (including extensions) for the tax year in which you plant or graft the specified plant(s) indicating you are electing to apply section 168(k)(5) and identifying the specified plant(s) for which you are making the election. The election once made cannot be revoked without IRS consent.

See section 168(k)(5) of the Internal Revenue Code.

Election to Accelerate Certain Credits in Lieu of the Special Depreciation Allowance

A corporation can elect to claim unused minimum tax credits in lieu of claiming the special depreciation allowance for qualified property (as defined in section 168(k)(2) of the Internal Revenue Code) placed in service during the tax year.

If you make an election to accelerate these credits in lieu of claiming the special depreciation allowance for eligible property, you must not take the 50% special depreciation allowance for the property and must depreciate the basis in the property under MACRS using the straight line method. See Which Depreciation Method Applies in chapter 4.

Once made, the election cannot be revoked without IRS consent.

For more information, see section 168(k)(4) of the Internal Revenue Code.

Additional guidance. For additional guidance on the election to accelerate the minimum tax credit in lieu of claiming the special depreciation allowance, see Form 8827, Credit for Prior Year Minimum Tax -- Corporations, and related instructions.

How Much Can You Deduct?

Terms you may need to know (see Glossary):

 

Figure the special depreciation allowance by multiplying the depreciable basis of qualified reuse and recycling property, qualified second generation biofuel plant property, certain qualified property placed in service before January 1, 2020, and certain plants bearing fruits and nuts by 50%.

For qualified property other than listed property, enter the special allowance on Form 4562, Part II, line 14. For qualified property that is listed property, enter the special allowance on Form 4562, Part V, line 25.

TIP: If you place qualified property in service in a short tax year, you can take the full amount of a special depreciation allowance.

Depreciable basis. This is the property's cost or other basis multiplied by the percentage of business/investment use, reduced by the total amount of any credits and deductions allocable to the property.

The following are examples of some credits and deductions that reduce depreciable basis.

 

For additional credits and deductions that affect basis, see section 1016 of the Internal Revenue Code.

For information about how to determine the cost or other basis of property, see What Is the Basis of Your Depreciable Property in chapter 1. For a discussion of business/investment use, see Partial business or investment use under Property Used in Your Business or Income-Producing Activity in chapter 1.

Depreciating the remaining cost. After you figure your special depreciation allowance for your qualified property, you can use the remaining cost to figure your regular MACRS depreciation deduction (discussed in chapter 4). Therefore, you must reduce the depreciable basis of the property by the special depreciation allowance before figuring your regular MACRS depreciation deduction.

Example. On November 1, 2016, Tom Brown bought and placed in service in his business qualified property that cost $450,000. He did not elect to claim a section 179 deduction. He deducts 50% of the cost ($225,000) as a special depreciation allowance for 2016. He uses the remaining $225,000 of cost to figure his regular MACRS depreciation deduction for 2016 and later years.

Like-kind exchanges and involuntary conversions. If you acquire qualified property in a like-kind exchange or involuntary conversion, the carryover basis of the acquired property is eligible for a special depreciation allowance. After you figure your special allowance, you can use the remaining carryover basis to figure your regular MACRS depreciation deduction. In the year you claim the allowance (the year you place in service the property received in the exchange or dispose of involuntarily converted property), you must reduce the carryover basis of the property by the allowance before figuring your regular MACRS depreciation deduction. See Figuring the Deduction for Property Acquired in a Nontaxable Exchange, in chapter 4 under How Is the Depreciation Deduction Figured. The excess basis (the part of the acquired property's basis that exceeds its carryover basis) is also eligible for a special depreciation allowance.

How Can You Elect Not To Claim an Allowance?

You can elect, for any class of property, not to deduct any special depreciation allowances for all property in such class placed in service during the tax year.

To make an election, attach a statement to your return indicating what election you are making and the class of property for which you are making the election.

The election must be made separately by each person owning qualified property (for example, by the partnerships, by the S corporation, or for each member of a consolidated group by the common parent of the group).

When to make election. Generally, you must make the election on a timely filed tax return (including extensions) for the year in which you place the property in service.

However, if you timely filed your return for the year without making the election, you can still make the election by filing an amended return within 6 months of the due date of the original return (not including extensions). Attach the election statement to the amended return. On the amended return, write "Filed pursuant to section 301.9100-2."

Revoking an election. Once you elect not to deduct a special depreciation allowance for a class of property, you cannot revoke the election without IRS consent. A request to revoke the election is a request for a letter ruling.

CAUTION: If you elect not to have any special depreciation allowance apply, the property placed in service after 2015 will not be subject to an alternative minimum tax adjustment for depreciation.

When Must You Recapture an Allowance?

When you dispose of property for which you claimed a special depreciation allowance, any gain on the disposition is generally recaptured (included in income) as ordinary income up to the amount of the special depreciation allowance previously allowed or allowable. See When Do You Recapture MACRS Depreciation in chapter 4 for more information.

Recapture of allowance deducted for qualified GO Zone property. If, in any year after the year you claim the special depreciation allowance for qualified GO Zone property (including specified GO Zone extension property), the property ceases to be used in the GO Zone, you may have to recapture as ordinary income the excess benefit you received from claiming the special depreciation allowance. For additional guidance, see Notice 2008-25 on page 484 of Internal Revenue Bulletin 2008-9 available at http://www.irs.gov/irb/2008-09_IRB/index.html.

Qualified cellulosic biomass ethanol plant property, qualified cellulosic biofuel plant property, and qualified second generation biofuel plant property. If, in any year after the year you claim the special depreciation allowance for any qualified cellulosic biomass ethanol plant property, qualified cellulosic biofuel plant property, or qualified second generation biofuel plant property, the property ceases to be qualified cellulosic biomass ethanol plant property, qualified cellulosic biofuel plant property, or qualified second generation biofuel plant property, you may have to recapture as ordinary income the excess benefit you received from claiming the special depreciation allowance.

Recapture of allowance for qualified Recovery Assistance property. If, in any year after the year you claim the special depreciation allowance for qualified Recovery Assistance property, the property ceases to be used in the Kansas disaster area, you may have to recapture as ordinary income the excess benefit you received from claiming the special depreciation allowance. For additional guidance, see Notice 2008-67 on page 307 of Internal Revenue Bulletin 2008-32, available at http://www.irs.gov/irb/2008-32_IRB/index.html.

Recapture of allowance for qualified disaster assistance property. If, in any year after the year you claim the special depreciation allowance for qualified disaster assistance property, the property ceases to be used in the applicable disaster area, you may have to recapture as ordinary income the excess benefit you received from claiming the special depreciation allowance.

4. Figuring Depreciation Under MACRS

Introduction

The Modified Accelerated Cost Recovery System (MACRS) is used to recover the basis of most business and investment property placed in service after 1986. MACRS consists of two depreciation systems, the General Depreciation System (GDS) and the Alternative Depreciation System (ADS). Generally, these systems provide different methods and recovery periods to use in figuring depreciation deductions.

CAUTION: To be sure you can use MACRS to figure depreciation for your property, see What Method Can You Use To Depreciate Your Property in chapter 1.

This chapter explains how to determine which MACRS depreciation system applies to your property. It also discusses other information you need to know before you can figure depreciation under MACRS. This information includes the property's recovery class, placed in service date, and basis, as well as the applicable recovery period, convention, and depreciation method. It explains how to use this information to figure your depreciation deduction and how to use a general asset account to depreciate a group of properties. Finally, it explains when and how to recapture MACRS depreciation.

Useful Items

You may want to see:

Publication

 

Form (and Instructions)

 

See chapter 6 for information about getting publications and forms.

Which Depreciation System (GDS or ADS) Applies?

Terms you may need to know (see Glossary):

 

Your use of either the General Depreciation System (GDS) or the Alternative Depreciation System (ADS) to depreciate property under MACRS determines what depreciation method and recovery period you use. You generally must use GDS unless you are specifically required by law to use ADS or you elect to use ADS.

If you placed your property in service in 2016, complete Part III of Form 4562 to report depreciation using MACRS. Complete section B of Part III to report depreciation using GDS, and complete section C of Part III to report depreciation using ADS. If you placed your property in service before 2016 and are required to file Form 4562, report depreciation using either GDS or ADS on line 17 in Part III.

Required use of ADS. You must use ADS for the following property.

 

CAUTION: If you are required to use ADS to depreciate your property, you cannot claim any special depreciation allowance (discussed in chapter 3) for the property.

Electing ADS. Although your property may qualify for GDS, you can elect to use ADS. The election generally must cover all property in the same property class that you placed in service during the year. However, the election for residential rental property and nonresidential real property can be made on a property-by-property basis. Once you make this election, you can never revoke it.

You make the election by completing Form 4562, Part III, line 20.

Which Property Class Applies Under GDS?

Terms you may need to know (see Glossary):

 

The following is a list of the nine property classifications under GDS and examples of the types of property included in each class. These property classes are also listed under column (a) in section B, Part III, of Form 4562. For detailed information on property classes, see Appendix B, Table of Class Lives and Recovery Periods, in this publication.

 

Qualified rent-to-own property. Qualified rent-to-own property is property held by a rent-to-own dealer for purposes of being subject to a rent-to-own contract. It is tangible personal property generally used in the home for personal use. It includes computers and peripheral equipment, televisions, videocassette recorders, stereos, camcorders, appliances, furniture, washing machines and dryers, refrigerators, and other similar consumer durable property. Consumer durable property does not include real property, aircraft, boats, motor vehicles, or trailers.

If some of the property you rent to others under a rent-to-own agreement is of a type that may be used by the renters for either personal or business purposes, you still can treat this property as qualified property as long as it does not represent a significant portion of your leasing property. However, if this dual-use property does represent a significant portion of your leasing property, you must prove that this property is qualified rent-to-own property.

Rent-to-own dealer. You are a rent-to-own dealer if you meet all the following requirements.

 

Rent-to-own contract. This is any lease for the use of consumer property between a rent-to-own dealer and a customer who is an individual which--

 

Motorsports entertainment complex. This is a racing track facility permanently situated on land that hosts one or more racing events for automobiles, trucks, or motorcycles during the 36-month period after the first day of the month in which the facility is placed in service. The events must be open to the public for the price of admission.

Qualified smart electric grid system. A qualified smart electric grid system means any smart grid property used as part of a system for electric distribution grid communications, monitoring, and management placed in service after October 3, 2008, by a taxpayer who is a supplier of electrical energy or a provider of electrical energy services. Smart grid property includes electronics and related equipment that is capable of:

 

Retail motor fuels outlet. Real property is a retail motor fuels outlet if it is used to a substantial extent in the retail marketing of petroleum or petroleum products (whether or not it is also used to sell food or other convenience items) and meets any one of the following three tests.

 

A retail motor fuels outlet does not include any facility related to petroleum and natural gas trunk pipelines.

Qualified leasehold improvement property. Generally, this is any improvement to an interior part of a building that is nonresidential real property, if all of the following requirements are met.

 

However, a qualified leasehold improvement does not include any improvement for which the expenditure is attributable to any of the following.

 

Generally, a binding commitment to enter into a lease is treated as a lease and the parties to the commitment are treated as the lessor and lessee. However, a lease between related persons is not treated as a lease.

In addition, an improvement made by the lessor does not qualify as qualified leasehold improvement property to any subsequent owner unless it is acquired from the original lessor by reason of the lessor's death or in any of the following types of transactions.

Qualified restaurant property. Qualified restaurant property is any section 1250 property that is a building, or an improvement to a building, placed in service after December 31, 2008. Also, more than 50% of the building's square footage must be devoted to preparation of meals and seating for on-premises consumption of prepared meals.

Qualified smart electric meter. A qualified smart electric meter is any time-based meter and related communication equipment which is placed in service by a supplier of electric energy or a provider of electric energy services and which is capable of being used by you as part of a system that:

 

Natural gas gathering line and electric transmission property. Any natural gas gathering line placed in service after April 11, 2005, is treated as 7-year property, and electric transmission property (that is section 1245 property) used in the transmission at 69 or more kilovolts of electricity and any natural gas distribution line placed in service after April 11, 2005, are treated as 15-year property, if the following requirements are met.

 

What Is the Placed in Service Date?

Terms you may need to know (see Glossary):

 

You begin to claim depreciation when your property is placed in service for either use in a trade or business or the production of income. The placed in service date for your property is the date the property is ready and available for a specific use. It is therefore not necessarily the date it is first used. If you converted property held for personal use to use in a trade or business or for the production of income, treat the property as being placed in service on the conversion date. See Placed in Service under When Does Depreciation Begin and End in chapter 1 for examples illustrating when property is placed in service.

What Is the Basis for Depreciation?

Terms you may need to know (see Glossary):

 

The basis for depreciation of MACRS property is the property's cost or other basis multiplied by the percentage of business/investment use. For a discussion of business/ investment use, see Partial business or investment use under Property Used in Your Business or Income-Producing Activity in chapter 1. Reduce that amount by any credits and deductions allocable to the property. The following are examples of some credits and deductions that reduce basis.

 

For additional credits and deductions that affect basis, see section 1016 of the Internal Revenue Code.

Enter the basis for depreciation under column (c) in Part III of Form 4562. For information about how to determine the cost or other basis of property, see What Is the Basis of Your Depreciable Property in chapter 1.

Which Recovery Period Applies?

Terms you may need to know (see Glossary):

 

The recovery period of property is the number of years over which you recover its cost or other basis. It is determined based on the depreciation system (GDS or ADS) used.

Recovery Periods Under GDS

Under GDS, property that is not qualified Indian reservation property is depreciated over one of the following recovery periods.

 Property Class                        Recovery Period

 

 3-year property                            3 years¹

 

 5-year property                            5 years

 

 7-year property                            7 years

 

 10-year property                          10 years

 

 15-year property                          15 years²

 

 20-year property                          20 years

 

 25-year property                          25 years³

 

 Residential rental property                  27.5

 

                                              years

 

 Nonresidential real property              39 years⁴

 

 ¹ 5 years for qualified rent-to-own property placed in

 

 service before August 6, 1997.

 

 ² 39 years for property that is a retail motor fuels

 

 outlet placed in service before August 20, 1996 (31.5

 

 years if placed in service before May 13, 1993), unless

 

 you elected to depreciate it over 15 years.

 

 ³ 20 years for property placed in service before June

 

 13, 1996, or under a binding contract in effect before

 

 June 10, 1996.

 

 ⁴ 31.5 years for property placed in service before May

 

 13, 1993 (or before January 1, 1994, if the purchase

 

 or construction of the property is under a binding

 

 contract in effect before May 13, 1993, or if

 

 construction began before May 13, 1993).

 

 ======================================================

 

 

The GDS recovery periods for property not listed above can be found in Appendix B, Table of Class Lives and Recovery Periods. Residential rental property and nonresidential real property are defined earlier under Which Depreciation System (GDS or ADS) Applies.

Enter the appropriate recovery period on Form 4562 under column (d) in section B of Part III, unless already shown (for 25-year property, residential rental property, and nonresidential real property).

Office in the home. If your home is a personal-use single family residence and you begin to use part of your home as an office, depreciate that part of your home as nonresidential real property over 39 years (31.5 years if you began using it for business before May 13, 1993). However, if your home is an apartment in an apartment building that you own and the building is residential rental property as defined earlier under Which Depreciation System (GDS or ADS) Applies, depreciate the part used as an office as residential rental property over 27.5 years. See Pub. 587 for a discussion of the tests you must meet to claim expenses, including depreciation, for the business use of your home.

Home changed to rental use. If you begin to rent a home that was your personal home before 1987, you depreciate it as residential rental property over 27.5 years.

Indian Reservation Property

The recovery periods for qualified property you placed in service on an Indian reservation after 1993 and before 2017 are shorter than those listed earlier. The following table shows these shorter recovery periods.

                                           Recovery

 

 Property Class                             Period

 

 3-year property                            2 years

 

 5-year property                            3 years

 

 7-year property                            4 years

 

 10-year property                           6 years

 

 15-year property                           9 years

 

 20-year property                          12 years

 

 Nonresidential real property              22 years

 

 

Nonresidential real property is defined earlier under Which Property Class Applies Under GDS.

Use this chart to find the correct percentage table to use for qualified Indian reservation property.

 ---------------------------------------------------------------

 

                                THEN use the following table in

 

 IF your recovery period is:    Appendix A:

 

 ---------------------------------------------------------------

 

 2 years                        A-21

 

 ---------------------------------------------------------------

 

 3 years                        A-1, A-2, A-3, A-4, or A-5

 

 ---------------------------------------------------------------

 

 4 years                        A-22

 

 ---------------------------------------------------------------

 

 6 years                        A-23

 

 ---------------------------------------------------------------

 

 9 years                        A-14, A-15, A-16, A-17, or A-18

 

 ---------------------------------------------------------------

 

 12 years                       A-14, A-15, A-16, A-17, or A-18

 

 ---------------------------------------------------------------

 

 22 years                       A-24

 

 ---------------------------------------------------------------

 

 

Qualified property. Property eligible for the shorter recovery periods are 3-, 5-, 7-, 10-, 15-, and 20-year property and nonresidential real property. You must use this property predominantly in the active conduct of a trade or business within an Indian reservation. The rental of real property that is located on an Indian reservation is treated as the active conduct of a trade or business within an Indian reservation.

The following property is not qualified property.

 

Note. You can make an election out of the shorter recovery period(s) above for qualified Indian reservation property in a class of property that is placed in service in a tax year beginning after December 31, 2015.

To make this election, attach a statement to your timely filed return (including extensions) for the tax year in which you place the property in service indicating the class of property for which you are making the election and that, for such class you are electing not to apply section 168(j). Once made, this election is irrevocable.

CAUTION: If you make this election, the property placed in service in a tax year beginning after December 31, 2015, will be subject to an alternative minimum tax adjustment for depreciation.

Qualified infrastructure property. Item (1) above does not apply to qualified infrastructure property located outside the reservation that is used to connect with qualified infrastructure property within the reservation. Qualified infrastructure property is property that meets all the following rules.

 

Infrastructure property includes, but is not limited to, roads, power lines, water systems, railroad spurs, and communications facilities.

Related person. For purposes of item (2) above, see Related persons in the discussion on property owned or used in 1986 under What Method Can You Use To Depreciate Your Property in chapter 1 for a description of related persons.

Indian reservation. The term Indian reservation means a reservation as defined in section 3(d) of the Indian Financing Act of 1974 (25 U.S.C. 1452(d)) or section 4(10) of the Indian Child Welfare Act of 1978 (25 U.S.C. 1903(10)). Section 3(d) of the Indian Financing Act of 1974 defines reservation to include former Indian reservations in Oklahoma. For a definition of the term "former Indian reservations in Oklahoma," see Notice 98-45 in Internal Revenue Bulletin 1998-35.

Recovery Periods Under ADS

The recovery periods for most property generally are longer under ADS than they are under GDS. The following table shows some of the ADS recovery periods.

                                              Recovery

 

 Property                                      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

 

 Personal property with no class life         12 years

 

 Natural gas gathering lines                  14 years

 

 Single purpose agricultural and

 

   horticultural structures                   15 years

 

 Any tree or vine bearing fruit or nuts       20 years

 

 Initial clearing and grading land

 

   improvements for gas utility property      20 years

 

 Initial clearing and grading land

 

   improvements for electric utility

 

   transmission and distribution plants       25 years

 

 Electric transmission property used in the

 

   transmission at 69 or more kilovolts of

 

   electricity                                30 years

 

 Natural gas distribution lines               35 years

 

 Any qualified leasehold improvement

 

   property                                   39 years

 

 Any qualified restaurant property            39 years

 

 Nonresidential real property                 40 years

 

 Residential rental property                  40 years

 

 Section 1245 real property not listed in

 

   Appendix B                                 40 years

 

 Railroad grading and tunnel bore             50 years

 

 

The ADS recovery periods for property not listed above can be found in the tables in Appendix B. Rent-to-own property, qualified leasehold improvement property, qualified restaurant property, residential rental property, and nonresidential real property are defined earlier under Which Property Class Applies Under GDS.

Tax-exempt use property subject to a lease. The ADS recovery period for any property leased under a lease agreement to a tax-exempt organization, governmental unit, or foreign person or entity (other than a partnership) cannot be less than 125% of the lease term.

Additions and Improvements

An addition or improvement you make to depreciable property is treated as separate depreciable property. See How Do You Treat Repairs and Improvements in chapter 1 for a definition of improvements. Its property class and recovery period are the same as those that would apply to the original property if you had placed it in service at the same time you placed the addition or improvement in service. The recovery period begins on the later of the following dates.

 

CAUTION: If the improvement you make is qualified leasehold improvement property, qualified restaurant property, or qualified retail improvement property, the GDS recovery period is 15 years (39 years under ADS).

Example. You own a rental home that you have been renting out since 1981. If you put an addition on the home and place the addition in service this year, you would use MACRS to figure your depreciation deduction for the addition. Under GDS, the property class for the addition is residential rental property and its recovery period is 27.5 years because the home to which the addition is made would be residential rental property if you had placed it in service this year.

Which Convention Applies?

Terms you may need to know (see Glossary):

 

Under MACRS, averaging conventions establish when the recovery period begins and ends. The convention you use determines the number of months for which you can claim depreciation in the year you place property in service and in the year you dispose of the property.

The mid-month convention. Use this convention for nonresidential real property, residential rental property, and any railroad grading or tunnel bore.

Under this convention, you treat all property placed in service or disposed of during a month as placed in service or disposed of at the midpoint of the month. This means that a one-half month of depreciation is allowed for the month the property is placed in service or disposed of.

Your use of the mid-month convention is indicated by the "MM" already shown under column (e) in Part III of Form 4562.

The mid-quarter convention. Use this convention if the mid-month convention does not apply and the total depreciable bases of MACRS property you placed in service during the last 3 months of the tax year (excluding nonresidential real property, residential rental property, any railroad grading or tunnel bore, property placed in service and disposed of in the same year, and property that is being depreciated under a method other than MACRS) are more than 40% of the total depreciable bases of all MACRS property you placed in service during the entire year.

Under this convention, you treat all property placed in service or disposed of during any quarter of the tax year as placed in service or disposed of at the midpoint of that quarter. This means that 1 1/2 months of depreciation is allowed for the quarter the property is placed in service or disposed of.

If you use this convention, enter "MQ" under column (e) in Part III of Form 4562.

CAUTION: For purposes of determining whether the mid-quarter convention applies, the depreciable basis of property you placed in service during the tax year reflects the reduction in basis for amounts expensed under section 179 and the part of the basis of property attributable to personal use. However, it does not reflect any reduction in basis for any special depreciation allowance.

The half-year convention. Use this convention if neither the mid-quarter convention nor the mid-month convention applies.

Under this convention, you treat all property placed in service or disposed of during a tax year as placed in service or disposed of at the midpoint of the year. This means that a one-half year of depreciation is allowed for the year the property is placed in service or disposed of.

If you use this convention, enter "HY" under column (e) in Part III of Form 4562.

Which Depreciation Method Applies?

Terms you may need to know (see Glossary):

 

MACRS provides three depreciation methods under GDS and one depreciation method under ADS.

 

CAUTION: For property placed in service before 1999, you could have elected the 150% declining balance method using the ADS recovery periods for certain property classes. If you made this election, continue to use the same method and recovery period for that property.

Table 4-1 lists the types of property you can depreciate under each method. It also gives a brief explanation of the method, including any benefits that may apply.

Depreciation Methods for Farm Property

If you place personal property in service in a farming business after 1988, you generally must depreciate it under GDS using the 150% declining balance method unless you are a farmer who must depreciate the property under ADS using the straight line method or you elect to depreciate the property under GDS or ADS using the straight line method. You can depreciate real property using the straight line method under either GDS or ADS.

Fruit or nut trees and vines. Depreciate trees and vines bearing fruit or nuts under GDS using the straight line method over a recovery period of 10 years.

ADS required for some farmers. If you elect not to apply the uniform capitalization rules to any plant produced in your farming business, you must use ADS. You must use ADS for all property you place in service in any year the election is in effect. See the regulations under section 263A of the Internal Revenue Code for information on the uniform capitalization rules that apply to farm property.

Electing a Different Method

As shown in Table 4-1, you can elect a different method for depreciation for certain types of property. You must make the election by the due date of the return (including extensions) for the year you placed the property in service. However, if you timely filed your return for the year without making the election, you still can make the election by filing an amended return within 6 months of the due date of the return (excluding extensions). Attach the election to the amended return and write "Filed pursuant to section 301.9100-2" on the election statement. File the amended return at the same address you filed the original return. Once you make the election, you cannot change it.

Table 4-1. Depreciation Methods

 ----------------------------------------------------------------------

 

 Note. The declining balance method is abbreviated as DB and the

 

 straight line method is abbreviated as SL.

 

 ----------------------------------------------------------------------

 

    Method           Type of Property                   Benefit

 

 ----------------------------------------------------------------------

 

 GDS using 200%  • Nonfarm 3-, 5-, 7-, and        • Provides a greater

 

 DB              10-year property                 deduction during the

 

                                                  earlier recovery

 

                                                  years

 

                                                  • Changes to SL when

 

                                                  that method provides

 

                                                  an equal or greater

 

                                                  deduction

 

 ----------------------------------------------------------------------

 

 GDS using 150%  • All farm property (except      • Provides a greater

 

 DB              real property)                   deduction during the

 

                                                  earlier recovery

 

                 • All 15- and 20-year            years

 

                 property (except qualified

 

                 leasehold improvement property,  • Changes to SL when

 

                 qualified  that method provides  an equal or greater

 

                 restaurant property, and         deduction¹

 

                 qualified retail improvement

 

                 property)

 

                 • Nonfarm 3-, 5-, 7-, and

 

                 10-year property

 

 ----------------------------------------------------------------------

 

 GDS using SL    • Nonresidential real property   • Provides for equal

 

                                                  yearly deductions

 

                 • Qualified leasehold            (except for the

 

                 improvement property             first and last years)

 

                 • Qualified restaurant property

 

                 • Qualified retail improvement

 

                 property

 

                 • Residential rental property

 

                 • Trees or vines bearing fruit

 

                 or nuts

 

                 • Water utility property

 

                 • All 3-, 5-, 7-, 10-, 15-, and

 

                 20-year property²

 

                 • Property for which you

 

                 elected section 168(k)(4)

 

 ----------------------------------------------------------------------

 

 ADS using SL    • Listed property used 50% or    • Provides for equal

 

                 less for business                yearly deductions

 

                                                  (except for the

 

                 • Property used predominantly    first and last

 

                 outside the U.S.                 years)

 

                 • Tax-exempt property

 

                 • Tax-exempt bond-financed

 

                 property

 

                 • Farm property used when an

 

                 election not to apply the

 

                 uniform capitalization rules

 

                 is in effect

 

                 • Imported property³

 

                 • Any property for which you

 

                 elect to use this method⁴

 

 ----------------------------------------------------------------------

 

 ¹ The MACRS percentage tables in Appendix A have the switch to the

 

 straight line method built into their rates.

 

 ² See section 168(b)(5) of the Internal Revenue Code.

 

 ³ See section 168(g)(6) of the Internal Revenue Code.

 

 ⁴ See section 168(g)(7) of the Internal Revenue Code.

 

 ======================================================================

 

 

CAUTION: If you elect to use a different method for one item in a property class, you must apply the same method to all property in that class placed in service during the year of the election. However, you can make the election on a property-by-property basis for nonresidential real and residential rental property.

150% election. Instead of using the 200% declining balance method over the GDS recovery period for nonfarm property in the 3-, 5-, 7-, and 10-year property classes, you can elect to use the 150% declining balance method. Make the election by entering "150 DB" under column (f) in Part III of Form 4562.

Straight line election. Instead of using either the 200% or 150% declining balance methods over the GDS recovery period, you can elect to use the straight line method over the GDS recovery period. Make the election by entering "S/L" under column (f) in Part III of Form 4562.

Election of ADS. As explained earlier under Which Depreciation System (GDS or ADS) Applies, you can elect to use ADS even though your property may come under GDS. ADS uses the straight line method of depreciation over fixed ADS recovery periods. Most ADS recovery periods are listed in Appendix B, or see the table under Recovery Periods Under ADS, earlier.

Make the election by completing line 20 in Part III of Form 4562.

Farm property. Instead of using the 150% declining balance method over a GDS recovery period for property you use in a farming business (other than real property), you can elect to depreciate it using either of the following methods.

 

How Is the Depreciation Deduction Figured?

Terms you may need to know (see Glossary):

 

To figure your depreciation deduction under MACRS, you first determine the depreciation system, property class, placed in service date, basis amount, recovery period, convention, and depreciation method that applies to your property. Then, you are ready to figure your depreciation deduction. You can figure it using a percentage table provided by the IRS, or you can figure it yourself without using the table.

Using the MACRS Percentage Tables

To help you figure your deduction under MACRS, the IRS has established percentage tables that incorporate the applicable convention and depreciation method. These percentage tables are in Appendix A near the end of this publication.

Which table to use. Appendix A contains the MACRS Percentage Table Guide, which is designed to help you locate the correct percentage table to use for depreciating your property. The percentage tables immediately follow the guide.

Rules Covering the Use of the Tables

The following rules cover the use of the percentage tables.

Basis adjustments other than those made due to the items listed in (4) include an increase in basis for the recapture of a clean-fuel deduction or credit and a reduction in basis for a casualty loss.

Basis adjustment due to recapture of clean-fuel vehicle deduction or credit. If you increase the basis of your property because of the recapture of part or all of a deduction for clean-fuel vehicles or the credit for clean-fuel vehicle refueling property placed in service before January 1, 2006, you cannot continue to use the percentage tables. For the year of the adjustment and the remaining recovery period, you must figure the depreciation deduction yourself using the property's adjusted basis at the end of the year. See Figuring the Deduction Without Using the Tables, later.

Basis adjustment due to casualty loss. If you reduce the basis of your property because of a casualty, you cannot continue to use the percentage tables. For the year of the adjustment and the remaining recovery period, you must figure the depreciation yourself using the property's adjusted basis at the end of the year. See Figuring the Deduction Without Using the Tables, later.

Example. On October 26, 2015, Sandra Elm, a calendar year taxpayer, bought and placed in service in her business a new item of 7-year property. It cost $39,000 and she elected a section 179 deduction of $24,000. She also took a special depreciation allowance of $7,500 [50% of $15,000 ($39,000 - $24,000)]. Her unadjusted basis after the section 179 deduction and special depreciation allowance was $7,500 ($15,000 - $7,500). She figured her MACRS depreciation deduction using the percentage tables. For 2015, her MACRS depreciation deduction was $268.

In July 2016, the property was vandalized and Sandra had a deductible casualty loss of $3,000. She must adjust the property's basis for the casualty loss, so she can no longer use the percentage tables. Her adjusted basis at the end of 2016, before figuring her 2016 depreciation, is $4,232. She figures that amount by subtracting the 2015 MACRS depreciation of $268 and the casualty loss of $3,000 from the unadjusted basis of $7,500. She must now figure her depreciation for 2016 without using the percentage tables.

Figuring the Unadjusted Basis of Your Property

You must apply the table rates to your property's unadjusted basis each year of the recovery period. Unadjusted basis is the same basis amount you would use to figure gain on a sale, but you figure it without reducing your original basis by any MACRS depreciation taken in earlier years. However, you do reduce your original basis by other amounts, including the following.

 

For business property you purchase during the year, the unadjusted basis is its cost minus these and other applicable adjustments. If you trade property, your unadjusted basis in the property received is the cash paid plus the adjusted basis of the property traded minus these adjustments.

MACRS Worksheet

You can use this worksheet to help you figure your depreciation deduction using the percentage tables. Use a separate worksheet for each item of property. Then, use the information from this worksheet to prepare Form 4562.

CAUTION: Do not use this worksheet for automobiles. Use the Depreciation Worksheet for Passenger Automobiles in chapter 5.

MACRS Worksheet

                     Keep for Your Records

 

 ----------------------------------------------------------------------

 

                                Part I

 

  1. MACRS system (GDS or

 

     ADS)                                           ___________________

 

  2. Property class                                 ___________________

 

  3. Date placed in service                         ___________________

 

  4. Recovery period                                ___________________

 

  5. Method and convention                          ___________________

 

  6. Depreciation rate (from tables)                ___________________

 

                                Part II

 

  7. Cost or other basis*

 

  8. Business/investment use                        _____%

 

  9. Multiply line 7 by line 8

 

 

 10. Total claimed for section 179 deduction

 

     and other items                                             $

 

 11. Subtract line 10 from line 9. This is your

 

     tentative basis for depreciation

 

 

 12. Multiply line 11 by .50 if the 50% special

 

     depreciation allowance applies. This is

 

     your special depreciation allowance.

 

     Enter -0- if this is not the year you placed

 

     the property in service, the property is not

 

     qualified property, or you elected not to

 

     claim a special allowance

 

 

 13. Subtract line 12 from line 11. This is your

 

     basis for depreciation                                      ______

 

 14. Depreciation rate (from line 6)                             ______

 

 15. Multiply line 13 by line 14. This is your

 

     MACRS depreciation deduction                                $

 

                                                                 ======

 

 ----------------------------------------------------------------------

 

 * If real estate, do not include cost (basis) of land.

 

 ----------------------------------------------------------------------

 

 

The following example shows how to figure your MACRS depreciation deduction using the percentage tables and the MACRS Worksheet.

Example. You bought office furniture (7-year property) for $10,000 and placed it in service on August 11, 2016. You use the furniture only for business. This is the only property you placed in service this year. You did not elect a section 179 deduction and the property is not qualified property for purposes of claiming a special depreciation allowance so your property's unadjusted basis is its cost, $10,000. You use GDS and the half-year convention to figure your depreciation. You refer to the MACRS Percentage Table Guide in Appendix A and find that you should use Table A-1. Multiply your property's unadjusted basis each year by the percentage for 7-year property given in Table A-1. You figure your depreciation deduction using the MACRS Worksheet as follows.

MACRS Worksheet

                       Keep for Your Records

 

 ----------------------------------------------------------------

 

                              Part I

 

  1. MACRS system (GDS or ADS)                                GDS

 

  2. Property class                                        7-year

 

  3. Date placed in service                               8/11/16

 

  4. Recovery period                                       7-Year

 

  5. Method and convention                       200%DB/Half-Year

 

  6. Depreciation rate (from tables)                        .1429

 

                              Part II

 

  7. Cost or other basis*                        $10,000

 

  8. Business/investment use

 

                                                    100%

 

  9. Multiply line 7 by line 8                            $10,000

 

 10. Total claimed for section 179

 

     deduction and other items                                -0-

 

 11. Subtract line 10 from line 9. This is

 

     your tentative basis for depreciation                $10,000

 

 12. Multiply line 11 by .50 if the 50%

 

     special depreciation allowance

 

     applies. This is your special

 

     depreciation allowance. Enter -0- if

 

     this is not the year you placed the

 

     property in service, the property is not

 

     qualified property, or you elected not

 

     to claim a special allowance                             -0-

 

 13. Subtract line 12 from line 11. This is

 

     your basis for depreciation                          $10,000

 

 14. Depreciation rate (from line 6)                        .1429

 

 15. Multiply line 13 by line 14. This is your

 

     MACRS depreciation deduction                          $1,429

 

                                                         ========

 

 ----------------------------------------------------------------

 

 * If real estate, do not include cost (basis) of land.

 

 ================================================================

 

 

If there are no adjustments to the basis of the property other than depreciation, your depreciation deduction for each subsequent year of the recovery period will be as follows.

 Year       Basis          Percentage   Deduction

 

 2017       $10,000        24.49%       $2,449

 

 2018        10,000        17.49         1,749

 

 2019        10,000        12.49         1,249

 

 2020        10,000         8.93           893

 

 2021        10,000         8.92           892

 

 2022        10,000         8.93           893

 

 2023        10,000         4.46           446

 

 

Examples

The following examples are provided to show you how to use the percentage tables. In both examples, assume the following.

 

Example 1. You bought a building and land for $120,000 and placed it in service on March 8. The sales contract showed that the building cost $100,000 and the land cost $20,000. It is nonresidential real property. The building's unadjusted basis is its original cost, $100,000.

You refer to the MACRS Percentage Table Guide in Appendix A and find that you should use Table A-7a. March is the third month of your tax year, so multiply the building's unadjusted basis, $100,000, by the percentages for the third month in Table A-7a. Your depreciation deduction for each of the first 3 years is as follows:

 Year       Basis       Percentage      Deduction

 

 1st       $100,000     2.033%          $2,033

 

 2nd        100,000     2.564            2,564

 

 3rd        100,000     2.564            2,564

 

 

Example 2. During the year, you bought a machine (7-year property) for $4,000, office furniture (7-year property) for $1,000, and a computer (5-year property) for $5,000. You placed the machine in service in January, the furniture in September, and the computer in October. You do not elect a section 179 deduction and none of these items is qualified property for purposes of claiming a special depreciation allowance.

You placed property in service during the last 3 months of the year, so you must first determine if you have to use the mid-quarter convention. The total bases of all property you placed in service during the year is $10,000. The $5,000 basis of the computer, which you placed in service during the last 3 months (the fourth quarter) of your tax year, is more than 40% of the total bases of all property ($10,000) you placed in service during the year. Therefore, you must use the mid-quarter convention for all three items.

You refer to the MACRS Percentage Table Guide in Appendix A to determine which table you should use under the mid-quarter convention. The machine is 7-year property placed in service in the first quarter, so you use Table A-2. The furniture is 7-year property placed in service in the third quarter, so you use Table A-4. Finally, because the computer is 5-year property placed in service in the fourth quarter, you use Table A-6. Knowing what table to use for each property, you figure the depreciation for the first 2 years as follows.

 -----------------------------------------------------------

 

 Year     Property      Basis       Percentage     Deduction

 

 -----------------------------------------------------------

 

 1st      Machine      $4,000          25.00         $1,000

 

 2nd      Machine       4,000          21.43            857

 

 -----------------------------------------------------------

 

 1st      Furniture     1,000          10.71            107

 

 2nd      Furniture     1,000          25.51            255

 

 -----------------------------------------------------------

 

 1st      Computer      5,000           5.00            250

 

 2nd      Computer      5,000          38.00          1,900

 

 -----------------------------------------------------------

 

 

Sale or Other Disposition Before the Recovery Period Ends

If you sell or otherwise dispose of your property before the end of its recovery period, your depreciation deduction for the year of the disposition will be only part of the depreciation amount for the full year. You have disposed of your property if you have permanently withdrawn it from use in your business or income-producing activity because of its sale, exchange, retirement, abandonment, involuntary conversion, or destruction. After you figure the full-year depreciation amount, figure the deductible part using the convention that applies to the property.

Half-year convention used. For property for which you used a half-year convention, the depreciation deduction for the year of the disposition is half the depreciation determined for the full year.

Mid-quarter convention used. For property for which you used the mid-quarter convention, figure your depreciation deduction for the year of the disposition by multiplying a full year of depreciation by the percentage listed below for the quarter in which you disposed of the property.

 Quarter                   Percentage

 

 First                       12.5%

 

 Second                      37.5

 

 Third                       62.5

 

 Fourth                      87.5

 

 

Example. On December 2, 2013, you placed in service an item of 5-year property costing $10,000. You did not claim a section 179 deduction and the property does not qualify for a special depreciation allowance. Your unadjusted basis for the property was $10,000. You used the mid-quarter convention because this was the only item of business property you placed in service in 2013 and it was placed in service during the last 3 months of your tax year. Your property is in the 5-year property class, so you used Table A-5 to figure your depreciation deduction. Your deductions for 2013, 2014, and 2015 were $500 (5% of $10,000), $3,800 (38% of $10,000), and $2,280 (22.80% of $10,000). You disposed of the property on April 6, 2016. To determine your depreciation deduction for 2016, first figure the deduction for the full year. This is $1,368 (13.68% of $10,000). April is in the second quarter of the year, so you multiply $1,368 by 37.5% to get your depreciation deduction of $513 for 2016.

Mid-month convention used. If you dispose of residential rental or nonresidential real property, figure your depreciation deduction for the year of the disposition by multiplying a full year of depreciation by a fraction. The numerator of the fraction is the number of months (including partial months) in the year that the property is considered in service. The denominator is 12.

Example. On July 2, 2014, you purchased and placed in service residential rental property. The property cost $100,000, not including the cost of land. You used Table A-6 to figure your MACRS depreciation for this property. You sold the property on March 2, 2016. You file your tax return based on the calendar year.

A full year of depreciation for 2016 is $3,636. This is $100,000 multiplied by .03636 (the percentage for the seventh month of the third recovery year) from Table A-6. You then apply the mid-month convention for the 2 1/2 months of use in 2016. Treat the month of disposition as one-half month of use. Multiply $3,636 by the fraction, 2.5 over 12, to get your 2016 depreciation deduction of $757.50.

Figuring the Deduction Without Using the Tables

Instead of using the rates in the percentage tables to figure your depreciation deduction, you can figure it yourself. Before making the computation each year, you must reduce your adjusted basis in the property by the depreciation claimed the previous year.

CAUTION: Figuring MACRS deductions without using the tables generally will result in a slightly different amount than using the tables.

Declining Balance Method

When using a declining balance method, you apply the same depreciation rate each year to the adjusted basis of your property. You must use the applicable convention for the first tax year and you must switch to the straight line method beginning in the first year for which it will give an equal or greater deduction. The straight line method is explained later.

You figure depreciation for the year you place property in service as follows.

 

You figure depreciation for all other years (before the year you switch to the straight line method) as follows.

 

If you dispose of property before the end of its recovery period, see Using the Applicable Convention, later, for information on how to figure depreciation for the year you dispose of it.

Figuring depreciation under the declining balance method and switching to the straight line method is illustrated in Example 1, later, under Examples.

Declining balance rate. You figure your declining balance rate by dividing the specified declining balance percentage (150% or 200% changed to a decimal) by the number of years in the property's recovery period. For example, for 3-year property depreciated using the 200% declining balance method, divide 2.00 (200%) by 3 to get 0.6667, or a 66.67% declining balance rate. For 15-year property depreciated using the 150% declining balance method, divide 1.50 (150%) by 15 to get 0.10, or a 10% declining balance rate.

The following table shows the declining balance rate for each property class and the first year for which the straight line method gives an equal or greater deduction.

 -------------------------------------------------

 

 Property                 Declining Balance

 

 Class         Method            Rate         Year

 

 -------------------------------------------------

 

 3-year        200% DB              66.667%    3rd

 

 -------------------------------------------------

 

 5-year        200% DB              40.0       4th

 

 -------------------------------------------------

 

 7-year        200% DB              28.571     5th

 

 -------------------------------------------------

 

 10-year       200% DB              20.0       7th

 

 -------------------------------------------------

 

 15-year       150% DB              10.0       7th

 

 -------------------------------------------------

 

 20-year       150% DB               7.5       9th

 

 -------------------------------------------------

 

 

Straight Line Method

When using the straight line method, you apply a different depreciation rate each year to the adjusted basis of your property. You must use the applicable convention in the year you place the property in service and the year you dispose of the property.

You figure depreciation for the year you place property in service as follows.

 

You figure depreciation for all other years (including the year you switch from the declining balance method to the straight line method) as follows.

 

If you dispose of property before the end of its recovery period, see Using the Applicable Convention, later, for information on how to figure depreciation for the year you dispose of it.

Straight line rate. You determine the straight line depreciation rate for any tax year by dividing the number 1 by the years remaining in the recovery period at the beginning of that year. When figuring the number of years remaining, you must take into account the convention used in the year you placed the property in service. If the number of years remaining is less than 1, the depreciation rate for that tax year is 1.0 (100%).

Using the Applicable Convention

The applicable convention (discussed earlier under Which Convention Applies) affects how you figure your depreciation deduction for the year you place your property in service and for the year you dispose of it. It determines how much of the recovery period remains at the beginning of each year, so it also affects the depreciation rate for property you depreciate under the straight line method. See Straight line rate in the previous discussion. Use the applicable convention as explained in the following discussions.

Half-year convention. If this convention applies, you deduct a half-year of depreciation for the first year and the last year that you depreciate the property. You deduct a full year of depreciation for any other year during the recovery period.

Figure your depreciation deduction for the year you place the property in service by dividing the depreciation for a full year by 2. If you dispose of the property before the end of the recovery period, figure your depreciation deduction for the year of the disposition the same way. If you hold the property for the entire recovery period, your depreciation deduction for the year that includes the final 6 months of the recovery period is the amount of your unrecovered basis in the property.

Mid-quarter convention. If this convention applies, the depreciation you can deduct for the first year you depreciate the property depends on the quarter in which you place the property in service.

A quarter of a full 12-month tax year is a period of 3 months. The first quarter in a year begins on the first day of the tax year. The second quarter begins on the first day of the fourth month of the tax year. The third quarter begins on the first day of the seventh month of the tax year. The fourth quarter begins on the first day of the tenth month of the tax year. A calendar year is divided into the following quarters.

 Quarter                    Months

 

 First            January, February, March

 

 Second                   April, May, June

 

 Third             July, August, September

 

 Fourth        October, November, December

 

 

Figure your depreciation deduction for the year you place the property in service by multiplying the depreciation for a full year by the percentage listed below for the quarter you place the property in service.

 Quarter       Percentage

 

 First              87.5%

 

 Second             62.5

 

 Third              37.5

 

 Fourth             12.5

 

 

If you dispose of the property before the end of the recovery period, figure your depreciation deduction for the year of the disposition by multiplying a full year of depreciation by the percentage listed below for the quarter you dispose of the property.

 Quarter         Percentage

 

 First                12.5%

 

 Second               37.5

 

 Third                62.5

 

 Fourth               87.5

 

 

If you hold the property for the entire recovery period, your depreciation deduction for the year that includes the final quarter of the recovery period is the amount of your unrecovered basis in the property.

Mid-month convention. If this convention applies, the depreciation you can deduct for the first year that you depreciate the property depends on the month in which you place the property in service. Figure your depreciation deduction for the year you place the property in service by multiplying the depreciation for a full year by a fraction. The numerator of the fraction is the number of full months in the year that the property is in service plus 1/2 (or 0.5). The denominator is 12.

If you dispose of the property before the end of the recovery period, figure your depreciation deduction for the year of the disposition the same way. If you hold the property for the entire recovery period, your depreciation deduction for the year that includes the final month of the recovery period is the amount of your unrecovered basis in the property.

Example. You use the calendar year and place nonresidential real property in service in August. The property is in service 4 full months (September, October, November, and December). Your numerator is 4.5 (4 full months plus 0.5). You multiply the depreciation for a full year by 4.5/12, or 0.375.

Examples

The following examples show how to figure depreciation under MACRS without using the percentage tables. Figures are rounded for purposes of the examples. Assume for all the examples that you use a calendar year as your tax year.

Example 1--200% DB method and half-year convention. In February, you placed in service depreciable property with a 5-year recovery period and a basis of $1,000. You do not elect to take the section 179 deduction and the property does not qualify for a special depreciation allowance. You use GDS and the 200% declining balance (DB) method to figure your depreciation. When the straight line (SL) method results in an equal or larger deduction, you switch to the SL method. You did not place any property in service in the last 3 months of the year, so you must use the half-year convention.

First year. You figure the depreciation rate under the 200% DB method by dividing 2 (200%) by 5 (the number of years in the recovery period). The result is 40%. You multiply the adjusted basis of the property ($1,000) by the 40% DB rate. You apply the half-year convention by dividing the result ($400) by 2. Depreciation for the first year under the 200% DB method is $200.

You figure the depreciation rate under the straight line (SL) method by dividing 1 by 5, the number of years in the recovery period. The result is 20%.You multiply the adjusted basis of the property ($1,000) by the 20% SL rate. You apply the half-year convention by dividing the result ($200) by 2. Depreciation for the first year under the SL method is $100.

The DB method provides a larger deduction, so you deduct the $200 figured under the 200% DB method.

Second year. You reduce the adjusted basis ($1,000) by the depreciation claimed in the first year ($200). You multiply the result ($800) by the DB rate (40%). Depreciation for the second year under the 200% DB method is $320.

You figure the SL depreciation rate by dividing 1 by 4.5, the number of years remaining in the recovery period. (Based on the half-year convention, you used only half a year of the recovery period in the first year.) You multiply the reduced adjusted basis ($800) by the result (22.22%). Depreciation under the SL method for the second year is $178.

The DB method provides a larger deduction, so you deduct the $320 figured under the 200% DB method.

Third year. You reduce the adjusted basis ($800) by the depreciation claimed in the second year ($320). You multiply the result ($480) by the DB rate (40%). Depreciation for the third year under the 200% DB method is $192.

You figure the SL depreciation rate by dividing 1 by 3.5. You multiply the reduced adjusted basis ($480) by the result (28.57%). Depreciation under the SL method for the third year is $137.

The DB method provides a larger deduction, so you deduct the $192 figured under the 200% DB method.

Fourth year. You reduce the adjusted basis ($480) by the depreciation claimed in the third year ($192). You multiply the result ($288) by the DB rate (40%). Depreciation for the fourth year under the 200% DB method is $115.

You figure the SL depreciation rate by dividing 1 by 2.5. You multiply the reduced adjusted basis ($288) by the result (40%). Depreciation under the SL method for the fourth year is $115.

The SL method provides an equal deduction, so you switch to the SL method and deduct the $115.

Fifth year. You reduce the adjusted basis ($288) by the depreciation claimed in the fourth year ($115) to get the reduced adjusted basis of $173. You figure the SL depreciation rate by dividing 1 by 1.5. You multiply the reduced adjusted basis ($173) by the result (66.67%). Depreciation under the SL method for the fifth year is $115.

Sixth year. You reduce the adjusted basis ($173) by the depreciation claimed in the fifth year ($115) to get the reduced adjusted basis of $58. There is less than one year remaining in the recovery period, so the SL depreciation rate for the sixth year is 100%. You multiply the reduced adjusted basis ($58) by 100% to arrive at the depreciation deduction for the sixth year ($58).

Example 2--SL method and mid-month convention. In January, you bought and placed in service a building for $100,000 that is nonresidential real property with a recovery period of 39 years. The adjusted basis of the building is its cost of $100,000. You use GDS, the straight line (SL) method, and the mid-month convention to figure your depreciation.

First year. You figure the SL depreciation rate for the building by dividing 1 by 39 years. The result is .02564. The depreciation for a full year is $2,564 ($100,000 × .02564). Under the mid-month convention, you treat the property as placed in service in the middle of January. You get 11.5 months of depreciation for the year. Expressed as a decimal, the fraction of 11.5 months divided by 12 months is .958. Your first-year depreciation for the building is $2,456 ($2,564 × .958).

Second year. You subtract $2,456 from $100,000 to get your adjusted basis of $97,544 for the second year. The SL rate is .02629. This is 1 divided by the remaining recovery period of 38.042 years (39 years reduced by 11.5 months or .958 year). Your depreciation for the building for the second year is $2,564 ($97,544 × .02629).

Third year. The adjusted basis is $94,980 ($97,544 - $2,564). The SL rate is .027 (1 divided by 37.042 remaining years). Your depreciation for the third year is $2,564 ($94,980 × .027).

Example 3--200% DB method and mid-quarter convention. During the year, you bought and placed in service in your business the following items.

 ----------------------------------------------------------------

 

                                    Month Placed

 

 Item                               in Service         Cost

 

 ----------------------------------------------------------------

 

 Safe                               January           $4,000

 

 ----------------------------------------------------------------

 

 Office furniture                   September          1,000

 

 ----------------------------------------------------------------

 

 Computer (not listed property)     October            5,000

 

 ----------------------------------------------------------------

 

 

You do not elect a section 179 deduction and these items do not qualify for a special depreciation allowance. You use GDS and the 200% declining balance (DB) method to figure the depreciation. The total bases of all property you placed in service this year is $10,000. The basis of the computer ($5,000) is more than 40% of the total bases of all property placed in service during the year ($10,000), so you must use the mid-quarter convention. This convention applies to all three items of property. The safe and office furniture are 7-year property and the computer is 5-year property.

First and second year depreciation for safe. The 200% DB rate for 7-year property is .28571. You determine this by dividing 2.00 (200%) by 7 years. The depreciation for the safe for a full year is $1,143 ($4,000 × .28571). You placed the safe in service in the first quarter of your tax year, so you multiply $1,143 by 87.5% (the mid-quarter percentage for the first quarter). The result, $1,000, is your deduction for depreciation on the safe for the first year.

For the second year, the adjusted basis of the safe is $3,000. You figure this by subtracting the first year's depreciation ($1,000) from the basis of the safe ($4,000). Your depreciation deduction for the second year is $857 ($3,000 × .28571).

First and second year depreciation for furniture. The furniture is also 7-year property, so you use the same 200% DB rate of .28571. You multiply the basis of the furniture ($1,000) by .28571 to get the depreciation of $286 for the full year. You placed the furniture in service in the third quarter of your tax year, so you multiply $286 by 37.5% (the mid-quarter percentage for the third quarter). The result, $107, is your deduction for depreciation on the furniture for the first year.

For the second year, the adjusted basis of the furniture is $893. You figure this by subtracting the first year's depreciation ($107) from the basis of the furniture ($1,000). Your depreciation for the second year is $255 ($893 × .28571).

First and second year depreciation for computer. The 200% DB rate for 5-year property is .40. You determine this by dividing 2.00 (200%) by 5 years. The depreciation for the computer for a full year is $2,000 ($5,000 × .40). You placed the computer in service in the fourth quarter of your tax year, so you multiply the $2,000 by 12.5% (the mid-quarter percentage for the fourth quarter). The result, $250, is your deduction for depreciation on the computer for the first year.

For the second year, the adjusted basis of the computer is $4,750. You figure this by subtracting the first year's depreciation ($250) from the basis of the computer ($5,000). Your depreciation deduction for the second year is $1,900 ($4,750 × .40).

Example 4--200% DB method and half-year convention. Last year, in July, you bought and placed in service in your business a new item of 7-year property. This was the only item of property you placed in service last year. The property cost $39,000 and you elected a $24,000 section 179 deduction. You also took a special depreciation allowance of $7,500. Your unadjusted basis for the property is $7,500. Because you did not place any property in service in the last 3 months of your tax year, you used the half-year convention. You figured your deduction using the percentages in Table A-1 for 7-year property. Last year, your depreciation was $1,072 ($7,500 × 14.29%).

In July of this year, your property was vandalized. You had a deductible casualty loss of $3,000. You spent $3,500 to put the property back in operational order. Your adjusted basis at the end of this year is $6,928. You figured this by first subtracting the first year's depreciation ($1,072) and the casualty loss ($3,000) from the unadjusted basis of $7,500. To this amount ($3,428), you then added the $3,500 repair cost.

You cannot use the table percentages to figure your depreciation for this property for this year because of the adjustments to basis. You must figure the deduction yourself. You determine the DB rate by dividing 2.00 (200%) by 7 years. The result is .28571 or 28.571%. You multiply the adjusted basis of your property ($6,928) by the declining balance rate of .28571 to get your depreciation deduction of $1,979 for this year.

Figuring the Deduction for Property Acquired in a Nontaxable Exchange

If your property has a carryover basis because you acquired it in a nontaxable transfer such as a like-kind exchange or involuntary conversion, you must generally figure depreciation for the property as if the transfer had not occurred. However, see Like-kind exchanges and involuntary conversions, earlier, in chapter 3 under How Much Can You Deduct and Property Acquired in a Like-kind Exchange or Involuntary Conversion next.

Property Acquired in a Like-kind Exchange or Involuntary Conversion

You generally must depreciate the carryover basis of property acquired in a like-kind exchange or involuntary conversion over the remaining recovery period of the property exchanged or involuntarily converted. You also generally continue to use the same depreciation method and convention used for the exchanged or involuntarily converted property. This applies only to acquired property with the same or a shorter recovery period and the same or more accelerated depreciation method than the property exchanged or involuntarily converted. The excess basis (the part of the acquired property's basis that exceeds its carryover basis), if any, of the acquired property is treated as newly placed in service property.

For acquired property that has a longer recovery period or less accelerated depreciation method than the exchanged or involuntarily converted property, you generally must depreciate the carryover basis of the acquired property as if it were placed in service in the same tax year as the exchanged or involuntarily converted property. You also generally continue to use the longer recovery period and less accelerated depreciation method of the acquired property.

If the MACRS property you acquired in the exchange or involuntary conversion is qualified property, discussed earlier in chapter 3 under What Is Qualified Property, you can claim a special depreciation allowance on the carryover basis. Special rules apply to vehicles acquired in a trade-in. For information on how to figure depreciation for a vehicle acquired in a trade-in that is subject to the passenger automobile limits, see Deductions For Passenger Automobiles Acquired in a Trade-in under Do the Passenger Automobile Limits Apply in chapter 5.

Election out. Instead of using the above rules, you can elect, for depreciation purposes, to treat the adjusted basis of the exchanged or involuntarily converted property as if disposed of at the time of the exchange or involuntary conversion. Treat the carryover basis and excess basis, if any, for the acquired property as if placed in service the later of the date you acquired it or the time of the disposition of the exchanged or involuntarily converted property. The depreciable basis of the new property is the adjusted basis of the exchanged or involuntarily converted property plus any additional amount you paid for it. The election, if made, applies to both the acquired property and the exchanged or involuntarily converted property. This election does not affect the amount of gain or loss recognized on the exchange or involuntary conversion.

When to make the election. You must make the election on a timely filed return (including extensions) for the year of replacement. The election must be made separately by each person acquiring replacement property. In the case of a partnership, S corporation, or consolidated group, the election is made by the partnership, by the S corporation, or by the common parent of a consolidated group, respectively. Once made, the election may not be revoked without IRS consent.

For more information and special rules, see the Instructions for Form 4562.

Property Acquired in a Nontaxable Transfer

You must depreciate MACRS property acquired by a corporation or partnership in certain nontaxable transfers over the property's remaining recovery period in the transferor's hands, as if the transfer had not occurred. You must continue to use the same depreciation method and convention as the transferor. You can depreciate the part of the property's basis that exceeds its carryover basis (the transferor's adjusted basis in the property) as newly purchased MACRS property.

The nontaxable transfers covered by this rule include the following.

 

Figuring the Deduction for a Short Tax Year

You cannot use the MACRS percentage tables to determine depreciation for a short tax year. A short tax year is any tax year with less than 12 full months. This section discusses the rules for determining the depreciation deduction for property you place in service or dispose of in a short tax year. It also discusses the rules for determining depreciation when you have a short tax year during the recovery period (other than the year the property is placed in service or disposed of).

For more information on figuring depreciation for a short tax year, see Revenue Procedure 89-15, 1989-1 C.B. 816.

Using the Applicable Convention in a Short Tax Year

The applicable convention establishes the date property is treated as placed in service and disposed of. Depreciation is allowable only for that part of the tax year the property is treated as in service. The recovery period begins on the placed in service date determined by applying the convention. The remaining recovery period at the beginning of the next tax year is the full recovery period less the part for which depreciation was allowable in the first tax year.

The following discussions explain how to use the applicable convention in a short tax year.

Mid-month convention. Under the mid-month convention, you always treat your property as placed in service or disposed of on the midpoint of the month it is placed in service or disposed of. You apply this rule without regard to your tax year.

Half-year convention. Under the half-year convention, you treat property as placed in service or disposed of on the midpoint of the tax year it is placed in service or disposed of.

First or last day of month. For a short tax year beginning on the first day of a month or ending on the last day of a month, the tax year consists of the number of months in the tax year. If the short tax year includes part of a month, you generally include the full month in the number of months in the tax year. You determine the midpoint of the tax year by dividing the number of months in the tax year by 2. For the half-year convention, you treat property as placed in service or disposed of on either the first day or the midpoint of a month.

For example, a short tax year that begins on June 20 and ends on December 31 consists of 7 months. You use only full months for this determination, so you treat the tax year as beginning on June 1 instead of June 20. The midpoint of the tax year is the middle of September (3 1/2 months from the beginning of the tax year). You treat property as placed in service or disposed of on this midpoint.

Example. Tara Corporation, a calendar year taxpayer, was incorporated on March 15. For purposes of the half-year convention, it has a short tax year of 10 months, ending on December 31, 2016. During the short tax year, Tara placed property in service for which it uses the half-year convention. Tara treats this property as placed in service on the first day of the sixth month of the short tax year, or August 1, 2016.

Not on first or last day of month. For a short tax year not beginning on the first day of a month and not ending on the last day of a month, the tax year consists of the number of days in the tax year. You determine the midpoint of the tax year by dividing the number of days in the tax year by 2. For the half-year convention, you treat property as placed in service or disposed of on either the first day or the midpoint of a month. If the result of dividing the number of days in the tax year by 2 is not the first day or the midpoint of a month, you treat the property as placed in service or disposed of on the nearest preceding first day or midpoint of a month.

Mid-quarter convention. To determine if you must use the mid-quarter convention, compare the basis of property you place in service in the last 3 months of your tax year to that of property you place in service during the full tax year. The length of your tax year does not matter. If you have a short tax year of 3 months or less, use the mid-quarter convention for all applicable property you place in service during that tax year.

You treat property under the mid-quarter convention as placed in service or disposed of on the midpoint of the quarter of the tax year in which it is placed in service or disposed of. Divide a short tax year into 4 quarters and determine the midpoint of each quarter.

For a short tax year of 4 or 8 full calendar months, determine quarters on the basis of whole months. The midpoint of each quarter is either the first day or the midpoint of a month. Treat property as placed in service or disposed of on this midpoint.

To determine the midpoint of a quarter for a short tax year of other than 4 or 8 full calendar months, complete the following steps.

 

If the result of (3) gives you a midpoint of a quarter that is on a day other than the first day or midpoint of a month, treat the property as placed in service or disposed of on the nearest preceding first day or midpoint of that month.

Example. Tara Corporation, a calendar year taxpayer, was incorporated and began business on March 15. It has a short tax year of 9 1/2 months, ending on December 31. During December, it placed property in service for which it must use the mid-quarter convention. This is a short tax year of other than 4 or 8 full calendar months, so it must determine the midpoint of each quarter.

 

The following table shows the quarters of Tara Corporation's short tax year, the midpoint of each quarter, and the date in each quarter that Tara must treat its property as placed in service.

 ----------------------------------------------------------------

 

                                            Placed in

 

 Quarter                 Midpoint           Service

 

 ----------------------------------------------------------------

 

 3/15 - 5/26                  4/20                  4/15

 

 ----------------------------------------------------------------

 

 5/27 - 8/07                  7/02                  7/01

 

 ----------------------------------------------------------------

 

 8/08 - 10/19                 9/13                  9/01

 

 ----------------------------------------------------------------

 

 10/20 - 12/31               11/25                 11/15

 

 ----------------------------------------------------------------

 

 

The last quarter of the short tax year begins on October 20, which is 73 days from December 31, the end of the tax year. The 37th day of the last quarter is November 25, which is the midpoint of the quarter. November 25 is not the first day or the midpoint of November, so Tara Corporation must treat the property as placed in service in the middle of November (the nearest preceding first day or midpoint of that month).

Property Placed in Service in a Short Tax Year

To figure your MACRS depreciation deduction for the short tax year, you must first determine the depreciation for a full tax year. You do this by multiplying your basis in the property by the applicable depreciation rate. Then, determine the depreciation for the short tax year. Do this by multiplying the depreciation for a full tax year by a fraction. The numerator (top number) of the fraction is the number of months (including parts of a month) the property is treated as in service during the tax year (applying the applicable convention). The denominator (bottom number) is 12. See Depreciation After a Short Tax Year, later, for information on how to figure depreciation in later years.

Example 1--half-year convention. Tara Corporation, with a short tax year beginning March 15 and ending December 31, placed in service on March 16 an item of 5-year property with a basis of $1,000. This is the only property the corporation placed in service during the short tax year. Tara does not elect to claim a section 179 deduction and the property does not qualify for a special depreciation allowance. The depreciation method for this property is the 200% declining balance method. The depreciation rate is 40% and Tara applies the half-year convention.

Tara treats the property as placed in service on August 1. The determination of this August 1 date is explained in the example illustrating the half-year convention under Using the Applicable Convention in a Short Tax Year, earlier. Tara is allowed 5 months of depreciation for the short tax year that consists of 10 months. The corporation first multiplies the basis ($1,000) by 40% (the declining balance rate) to get the depreciation for a full tax year of $400. The corporation then multiplies $400 by 5/12 to get the short tax year depreciation of $167.

Example 2--mid-quarter convention. Tara Corporation, with a short tax year beginning March 15 and ending on December 31, placed in service on October 16 an item of 5-year property with a basis of $1,000. Tara does not elect to claim a section 179 deduction and the property does not qualify for a special depreciation allowance. The depreciation method for this property is the 200% declining balance method. The depreciation rate is 40%. The corporation must apply the mid-quarter convention because the property was the only item placed in service that year and it was placed in service in the last 3 months of the tax year.

Tara treats the property as placed in service on September 1. This date is shown in the table provided in the example illustrating the mid-quarter convention under Using the Applicable Convention in a Short Tax Year, earlier, for property that Tara Corporation placed in service during the quarter that begins on August 8 and ends on October 19. Under MACRS, Tara is allowed 4 months of depreciation for the short tax year that consists of 10 months. The corporation first multiplies the basis ($1,000) by 40% to get the depreciation for a full tax year of $400. The corporation then multiplies $400 by 4/12 to get the short tax year depreciation of $133.

Property Placed in Service Before a Short Tax Year

If you have a short tax year after the tax year in which you began depreciating property, you must change the way you figure depreciation for that property. If you were using the percentage tables, you can no longer use them. You must figure depreciation for the short tax year and each later tax year as explained next.

Depreciation After a Short Tax Year

You can use either of the following methods to figure the depreciation for years after a short tax year.

 

You must use the method you choose consistently.

Using the simplified method for a 12-month year. Under the simplified method, you figure the depreciation for a later 12-month year in the recovery period by multiplying the adjusted basis of your property at the beginning of the year by the applicable depreciation rate.

Example. Assume the same facts as in Example 1 under Property Placed in Service in a Short Tax Year, earlier. The Tara Corporation claimed depreciation of $167 for its short tax year. The adjusted basis on January 1 of the next year is $833 ($1,000 - $167). Tara's depreciation for that next year is 40% of $833, or $333.

Using the simplified method for a short year. If a later tax year in the recovery period is a short tax year, you figure depreciation for that year by multiplying the adjusted basis of the property at the beginning of the tax year by the applicable depreciation rate, and then by a fraction. The fraction's numerator is the number of months (including parts of a month) in the tax year. Its denominator is 12.

Using the simplified method for an early disposition. If you dispose of property in a later tax year before the end of the recovery period, determine the depreciation for the year of disposition by multiplying the adjusted basis of the property at the beginning of the tax year by the applicable depreciation rate and then multiplying the result by a fraction. The fraction's numerator is the number of months (including parts of a month) the property is treated as in service during the tax year (applying the applicable convention). Its denominator is 12.

Using the allocation method for a 12-month or short tax year. Under the allocation method, you figure the 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. Whether your tax year is a 12-month or short tax year, you figure the depreciation by determining which recovery years are included in 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. Its denominator is 12. The allowable depreciation for the tax year is the sum of the depreciation figured for each recovery year.

Example. Assume the same facts as in Example 1 under Property Placed in Service in a Short Tax Year, earlier. The Tara Corporation's first tax year after the short tax year is a full year of 12 months, beginning January 1 and ending December 31. The first recovery year for the 5-year property placed in service during the short tax year extends from August 1 to July 31. Tara deducted 5 months of the first recovery year on its short-year tax return. Seven months of the first recovery year and 5 months of the second recovery year fall within the next tax year. The depreciation for the next tax year is $333, which is the sum of the following.

 

Using the allocation method for an early disposition. If you dispose of property before the end of the recovery period in a later tax year, determine the depreciation for the year of disposition by multiplying the depreciation figured for each recovery year or part of a recovery year included in the tax year by a fraction. The numerator of the fraction is the number of months (including parts of months) the property is treated as in service in the tax year (applying the applicable convention). The denominator is 12. If there is more than one recovery year in the tax year, you add together the depreciation for each recovery year.

How Do You Use General Asset Accounts?

Terms you may need to know (see Glossary):

 

To make it easier to figure MACRS depreciation, you can group separate properties into one or more general asset accounts (GAAs). You then can depreciate all the properties in each account as a single item of property.

Property you cannot include. You cannot include property in a GAA if you use it in both a personal activity and a trade or business (or for the production of income) in the year in which you first place it in service. If property you included in a GAA is later used in a personal activity, see Terminating GAA Treatment, later.

Property generating foreign source income. For information on the GAA treatment of property that generates foreign source income, see sections 1.168(i)-1(c)(1)(ii) and (f) of the regulations.

Change in use. Special rules apply to figuring depreciation for property in a GAA for which the use changes during the tax year. Examples include a change in use resulting in a shorter recovery period and/or more accelerated depreciation method or a change in use resulting in a longer recovery period and/or a less accelerated depreciation method. See sections 1.168(i)-1(h) and 1.168(i)-4 of the regulations.

Grouping Property

Each GAA must include only property you placed in service in the same tax year and that has the following in common.

 

The following rules also apply when you establish a GAA.

 

See section 1.168(i)-1(c)(2)(ii) of the regulations for additional rules that apply when you establish a GAA.

Figuring Depreciation for a GAA

After you have set up a GAA, you generally figure the MACRS depreciation for it by using the applicable depreciation method, recovery period, and convention for the property in the GAA. For each GAA, record the depreciation allowance in a separate depreciation reserve account.

Example. Make & Sell, a calendar-year corporation, set up a GAA for ten machines. The machines cost a total of $10,000 and were placed in service in June 2016. One of the machines cost $8,200 and the rest cost a total of $1,800. This GAA is depreciated under the 200% declining balance method with a 5-year recovery period and a half-year convention. Make & Sell did not claim the section 179 deduction on the machines and the machines did not qualify for a special depreciation allowance. The depreciation allowance for 2016 is $2,000 [($10,000 × 40%) ÷ 2]. As of January 1, 2017, the depreciation reserve account is $2,000.

Passenger automobiles. To figure depreciation on passenger automobiles in a GAA, apply the deduction limits discussed in chapter 5 under Do the Passenger Automobile Limits Apply. Multiply the amount determined using these limits by the number of automobiles originally included in the account, reduced by the total number of automobiles removed from the GAA as discussed in Terminating GAA Treatment, later.

Disposing of GAA Property

When you dispose of property included in a GAA, the following rules generally apply.

 

However, these rules do not apply to any disposition described later under Terminating GAA Treatment.

Disposition. Property in a GAA is considered disposed of when you do any of the following.

 

The retirement of a structural component of real property is not a disposition unless it is a partial disposition. See section 1.168(i)-1(e)(1) of the regulations.

Treatment of amount realized. When you dispose of property in a GAA, you must recognize any amount realized from the disposition as ordinary income, up to a limit. The limit is:

 

Unadjusted depreciable basis. The unadjusted depreciable basis of a GAA is the total of the unadjusted depreciable bases of all the property in the GAA. The unadjusted depreciable basis of an item of property in a GAA is the amount you would use to figure gain or loss on its sale, but figured without reducing your original basis by any depreciation allowed or allowable in earlier years. However, you do reduce your original basis by other amounts, including any amortization deduction, section 179 deduction, special depreciation allowance, and electric vehicle credit.

Expensed costs. Expensed costs that are subject to recapture as depreciation include the following.

Example 1. The facts are the same as in the example under Figuring Depreciation for a GAA, earlier. In February 2017, Make & Sell sells the machine that cost $8,200 to an unrelated person for $9,000. The machine is treated as having an adjusted basis of zero.

On its 2017 tax return, Make & Sell recognizes the $9,000 amount realized as ordinary income because it is not more than the GAA's unadjusted depreciable basis ($10,000) plus any expensed cost (for example, the section 179 deduction) for property in the GAA ($0), minus any amounts previously recognized as ordinary income because of dispositions of other property from the GAA ($0).

The unadjusted depreciable basis and depreciation reserve of the GAA are not affected by the sale of the machine. The depreciation allowance for the GAA in 2017 is $3,200 [($10,000 - $2,000) × 40%].

Example 2. Assume the same facts as in Example 1. In June 2018, Make & Sell sells seven machines to an unrelated person for a total of $1,100. These machines are treated as having an adjusted basis of zero.

On its 2018 tax return, Make & Sell recognizes $1,000 as ordinary income. This is the GAA's unadjusted depreciable basis ($10,000) plus the expensed costs ($0), minus the amount previously recognized as ordinary income ($9,000). The remaining amount realized of $100 ($1,100 - $1,000) is section 1231 gain (discussed in chapter 3 of Pub. 544).

The unadjusted depreciable basis and depreciation reserve of the GAA are not affected by the disposition of the machines. The depreciation allowance for the GAA in 2018 is $1,920 [($10,000 - $5,200) × 40%].

Terminating GAA Treatment

You must remove the following property from a GAA.

 

If you remove property from a GAA, you must make the following adjustments.

 

These adjustments have no effect on the recognition and character of prior dispositions subject to the rules discussed earlier under Disposing of GAA Property.

Nonrecognition transactions. If you dispose of GAA property in a nonrecognition transaction, you must remove it from the GAA. The following are nonrecognition transactions.

 

Rules for recipient (transferee). The recipient of the property (the person to whom it is transferred) must include your (the transferor's) adjusted basis in the property in a GAA. If you transferred either all of the property, the last item of property, or the remaining portion of the last item of property, in a GAA, the recipient's basis in the property is the result of the following.

 

For this purpose, the adjusted depreciable basis of a GAA is the unadjusted depreciable basis of the GAA minus any depreciation allowed or allowable for the GAA.

Abusive transactions. If you dispose of GAA property in an abusive transaction, you must remove it from the GAA. A disposition is an abusive transaction if it is not a nonrecognition transaction (described earlier) or a like-kind exchange or involuntary conversion and a main purpose for the disposition is to get a tax benefit or a result that would not be available without the use of a GAA. Examples of abusive transactions include the following.

Figuring gain or loss. You must determine the gain, loss, or other deduction due to an abusive transaction by taking into account the property's adjusted basis. The adjusted basis of the property at the time of the disposition is the result of the following.

 

If there is a gain, the amount subject to recapture as ordinary income is the smaller of the following: Qualifying dispositions. If you dispose of GAA property in a qualifying disposition, you can choose to remove the property from the GAA. A qualifying disposition is one that does not involve all the property, or the last item of property, remaining in a GAA and that is described by any of the following.

 

If you choose to remove the property from the GAA, figure your gain, loss, or other deduction resulting from the disposition in the manner described earlier under Abusive transactions.

Like-kind exchanges and involuntary conversions. If you dispose of GAA property as a result of a like-kind exchange or involuntary conversion, you must remove from the GAA the property that you transferred. See chapter 1 of Pub. 544 for information on these transactions. Figure your gain, loss, or other deduction resulting from the disposition in the manner described earlier under Abusive transactions.

Example. Sankofa, a calendar-year corporation, maintains one GAA for 12 machines. Each machine costs $15,000 and was placed in service in 2014. Of the 12 machines, nine cost a total of $135,000 and are used in Sankofa's New York plant and three machines cost $45,000 and are used in Sankofa's New Jersey plant. Assume this GAA uses the 200% declining balance depreciation method, a 5-year recovery period, and a half-year convention. Sankofa does not claim the section 179 deduction and the machines do not qualify for a special depreciation allowance. As of January 1, 2016, the depreciation reserve account for the GAA is $93,600.

In May 2016, Sankofa sells its entire manufacturing plant in New Jersey to an unrelated person. The sales proceeds allocated to each of the three machines at the New Jersey plant is $5,000. This transaction is a qualifying disposition, so Sankofa chooses to remove the three machines from the GAA and figure the gain, loss, or other deduction by taking into account their adjusted bases.

For Sankofa's 2016 return, the depreciation allowance for the GAA is figured as follows. As of December 31, 2015, the depreciation allowed or allowable for the three machines at the New Jersey plant is $23,400. As of January 1, 2016, the unadjusted depreciable basis of the GAA is reduced from $180,000 to $135,000 ($180,000 minus the $45,000 unadjusted depreciable bases of the three machines), and the depreciation reserve account is decreased from $93,600 to $70,200 ($93,600 minus $23,400 depreciation allowed or allowable for the three machines as of December 31, 2015). The depreciation allowance for the GAA in 2016 is $25,920 [($135,000 - $70,200) × 40%].

For Sankofa's 2016 return, gain or loss for each of the three machines at the New Jersey plant is determined as follows. The depreciation allowed or allowable in 2016 for each machine is $1,440 [(($15,000 - $7,800) × 40%) ÷ 2]. The adjusted basis of each machine is $5,760 (the adjusted depreciable basis of $7,200 removed from the account less the $1,440 depreciation allowed or allowable in 2016). As a result, the loss recognized in 2016 for each machine is $760 ($5,000 - $5,760). This loss is subject to section 1231 treatment. See chapter 3 of Pub. 544 for information on section 1231 losses.

Disposition of all property in a GAA. If you dispose of all the property, or the last item of property, in a GAA, you can choose to end the GAA. If you make this choice, you figure the gain or loss by comparing the adjusted depreciable basis of the GAA with the amount realized.

If there is a gain, the amount subject to recapture as ordinary income is limited to the result of the following.

 

Like-kind exchanges and involuntary conversions. If you dispose of all the property or the last item of property in a GAA as a result of a like-kind exchange or involuntary conversion, the GAA terminates. You must figure the gain or loss in the manner described above under Disposition of all property in a GAA.

Example. Duforcelf, a calendar-year corporation, maintains a GAA for 1,000 calculators that cost a total of $60,000 and were placed in service in 2013. Assume this GAA is depreciated under the 200% declining balance method, has a recovery period of 5 years, and uses a half-year convention. Duforcelf does not claim the section 179 deduction and the calculators do not qualify for a special depreciation allowance. In 2015, Duforcelf sells 200 of the calculators to an unrelated person for $10,000. The $10,000 is recognized as ordinary income.

In March 2016, Duforcelf sells the remaining calculators in the GAA to an unrelated person for $35,000. Duforcelf decides to end the GAA.

On the date of the disposition, the adjusted depreciable basis of the account is $23,040 (unadjusted depreciable basis of $60,000 minus the depreciation allowed or allowable of $36,960). In 2016, Duforcelf recognizes a gain of $11,960. This is the amount realized of $35,000 minus the adjusted depreciable basis of $23,040. The gain subject to recapture as ordinary income is limited to the depreciation allowed or allowable minus the amounts previously recognized as ordinary income ($36,960 - $10,000 = $26,960). Therefore, the entire gain of $11,960 is recaptured as ordinary income.

Electing To Use a GAA

An election to include property in a GAA is made separately by each owner of the property. This means that an election to include property in a GAA must be made by each member of a consolidated group and at the partnership or S corporation level (and not by each partner or shareholder separately).

How to make the election. Make the election by completing line 18 of Form 4562.

When to make the election. You must make the election on a timely filed tax return (including extensions) for the year in which you place in service the property included in the GAA. However, if you timely filed your return for the year without making the election, you still can make the election by filing an amended return within 6 months of the due date of the return (excluding extensions). Attach the election to the amended return and write "Filed pursuant to section 301.9100-2" on the election statement.

RECORDS: You must maintain records that identify the property included in each GAA, that establish the unadjusted depreciable basis and depreciation reserve of the GAA, and that reflect the amount realized during the year upon dispositions from each GAA. However, see chapter 2 for the recordkeeping requirements for section 179 property.

Revoking an election. You can revoke an election to use a GAA only in the following situations.

 

When Do You Recapture MACRS Depreciation?

Terms you may need to know (see Glossary):

 

When you dispose of property that you depreciated using MACRS, any gain on the disposition generally is recaptured (included in income) as ordinary income up to the amount of the depreciation previously allowed or allowable for the property. Depreciation, for this purpose, includes the following.

 

There is no recapture for residential rental and nonresidential real property unless that property is qualified property for which you claimed a special depreciation allowance. For more information on depreciation recapture, see Pub. 544.

5. Additional Rules for Listed Property

Introduction

This chapter discusses the deduction limits and other special rules that apply to certain listed property. Listed property includes cars and other property used for transportation, property used for entertainment, and certain computers.

Deductions for listed property (other than certain leased property) are subject to the following special rules and limits.

 

This chapter defines listed property and explains the special rules and depreciation deduction limits that apply, including the special inclusion amount rule for leased property. It also discusses the recordkeeping rules for listed property and explains how to report information about the property on your tax return.

Useful Items

You may want to see:

Publication

 

Form (and Instructions)

 

See chapter 6 for information about getting publications and forms.

What Is Listed Property?

Terms you may need to know (see Glossary):

 

Listed property is any of the following.

 

Improvements to listed property. An improvement made to listed property that must be capitalized is treated as a new item of depreciable property. The recovery period and method of depreciation that apply to the listed property as a whole also apply to the improvement. For example, if you must depreciate the listed property using the straight line method, you also must depreciate the improvement using the straight line method.

Passenger Automobiles

A passenger automobile is any four-wheeled vehicle made primarily for use on public streets, roads, and highways and rated at 6,000 pounds or less of unloaded gross vehicle weight (6,000 pounds or less of gross vehicle weight for trucks and vans). It includes any part, component, or other item physically attached to the automobile at the time of purchase or usually included in the purchase price of an automobile.

The following vehicles are not considered passenger automobiles for these purposes.

 

Qualified nonpersonal use vehicles. Qualified nonpersonal use vehicles are vehicles that by their nature are not likely to be used more than a minimal amount for personal purposes. They include the trucks and vans listed as excepted vehicles under Other Property Used for Transportation, next. They also include trucks and vans that have been specially modified so that they are not likely to be used more than a minimal amount for personal purposes, such as by installation of permanent shelving and painting the vehicle to display advertising or the company's name.

For a detailed discussion of passenger automobiles, including leased passenger automobiles, see

Other property used for transportation includes trucks, buses, boats, airplanes, motorcycles, and any other vehicles used to transport persons or goods.

Excepted vehicles. Other property used for transportation does not include the following qualified nonpersonal use vehicles (defined earlier under Passenger Automobiles).

 

• Clearly marked police and fire vehicles.

• Unmarked vehicles used by law enforcement officers if the use is officially authorized.

• Ambulances used as such and hearses used as such.

• Any vehicle with a loaded gross vehicle weight of over 14,000 pounds that is designed to carry cargo.

• Bucket trucks (cherry pickers), cement mixers, dump trucks (including garbage trucks), flatbed trucks, and refrigerated trucks.

• Combines, cranes and derricks, and forklifts.

• Delivery trucks with seating only for the driver, or only for the driver plus a folding jump seat.

• Qualified moving vans.

• Qualified specialized utility repair trucks.

• School buses used in transporting students and employees of schools.

• Other buses with a capacity of at least 20 passengers that are used as passenger buses.

• Tractors and other special purpose farm vehicles.

 

Clearly marked police and fire vehicle. A clearly marked police or fire vehicle is a vehicle that meets all the following requirements.

 

• It is owned or leased by a governmental unit or an agency or instrumentality of a governmental unit.

• It is required to be used for commuting by a police officer or fire fighter who, when not on a regular shift, is on call at all times.

• It is prohibited from being used for personal use (other than commuting) outside the limit of the police officer's arrest powers or the fire fighter's obligation to respond to an emergency.

• It is clearly marked with painted insignia or words that make it readily apparent that it is a police or fire vehicle. A marking on a license plate is not a clear marking for these purposes.

 

Qualified moving van. A qualified moving van is any truck or van used by a professional moving company for moving household or business goods if the following requirements are met.

 

• No personal use of the van is allowed other than for travel to and from a move site or for minor personal use, such as a stop for lunch on the way from one move site to another.

• Personal use for travel to and from a move site happens no more than five times a month on average.

• Personal use is limited to situations in which it is more convenient to the employer, because of the location of the employee's residence in relation to the location of the move site, for the van not to be returned to the employer's business location.

 

Qualified specialized utility repair truck. A truck is a qualified specialized utility repair truck if it is not a van or pickup truck and all the following apply.

 

• The truck was specifically designed for and is used to carry heavy tools, testing equipment, or parts.

• Shelves, racks, or other permanent interior construction has been installed to carry and store the tools, equipment, or parts and would make it unlikely that the truck would be used, other than minimally, for personal purposes.

• The employer requires the employee to drive the truck home in order to be able to respond in emergency situations for purposes of restoring or maintaining electricity, gas, telephone, water, sewer, or steam utility services.

 

Computers and Related Peripheral Equipment

A computer is a programmable, electronically activated device capable of accepting information, applying prescribed processes to the information, and supplying the results of those processes with or without human intervention. It consists of a central processing unit with extensive storage, logic, arithmetic, and control capabilities.

Related peripheral equipment is any auxiliary machine which is designed to be controlled by the central processing unit of a computer.

The following are neither computers nor related peripheral equipment.

 

• Any equipment that is an integral part of other property that is not a computer.

• Typewriters, calculators, adding and accounting machines, copiers, duplicating equipment, and similar equipment.

• Equipment of a kind used primarily for the user's amusement or entertainment, such as video games.

 

Can Employees Claim a Deduction?

If you are an employee, you can claim a depreciation deduction for the use of your listed property (whether owned or rented) in performing services as an employee only if your use is a business use. The use of your property in performing services as an employee is a business use only if both the following requirements are met.

 

• The use is for your employer's convenience.

• The use is required as a condition of your employment.

 

If these requirements are not met, you cannot deduct depreciation (including the section 179 deduction) or rent expenses for your use of the property as an employee.

Employer's convenience. Whether the use of listed property is for your employer's convenience must be determined from all the facts. The use is for your employer's convenience if it is for a substantial business reason of the employer. The use of listed property during your regular working hours to carry on your employer's business generally is for the employer's convenience.

Condition of employment. Whether the use of listed property is a condition of your employment depends on all the facts and circumstances. The use of property must be required for you to perform your duties properly. Your employer does not have to require explicitly that you use the property. However, a mere statement by the employer that the use of the property is a condition of your employment is not sufficient.

Example 1. Virginia Sycamore is employed as a courier with We Deliver, which provides local courier services. She owns and uses a motorcycle to deliver packages to downtown offices. We Deliver explicitly requires all delivery persons to own a car or motorcycle for use in their employment. Virginia's use of the motorcycle is for the convenience of We Deliver and is required as a condition of employment.

Example 2. Bill Nelson is an inspector for Uplift, a construction company with many sites in the local area. He must travel to these sites on a regular basis. Uplift does not furnish an automobile or explicitly require him to use his own automobile. However, it pays him for any costs he incurs in traveling to the various sites. The use of his own automobile or a rental automobile is for the convenience of Uplift and is required as a condition of employment.

Example 3. Assume the same facts as in Example 2, except that Uplift furnishes a car to Bill, who chooses to use his own car and receive payment for using it. The use of his own car is neither for the convenience of Uplift nor required as a condition of employment.

Example 4. Marilyn Lee is a pilot for Y Company, a small charter airline. Y requires pilots to obtain 80 hours of flight time annually in addition to flight time spent with the airline. Pilots usually can obtain these hours by flying with the Air Force Reserve or by flying part-time with another airline. Marilyn owns her own airplane. The use of her airplane to obtain the required flight hours is neither for the convenience of the employer nor required as a condition of employment.

Example 5. David Rule is employed as an engineer with Zip, an engineering contracting firm. He occasionally takes work home at night rather than work late in the office. He owns and uses a home computer which is virtually identical to the office model. His use of the computer is neither for the convenience of his employer nor required as a condition of employment.

What Is the Business-Use Requirement?

Terms you may need to know (see Glossary):

 

You can claim the section 179 deduction and a special depreciation allowance for listed property and depreciate listed property using GDS and a declining balance method if the property meets the business-use requirement. To meet this requirement, listed property must be used predominantly (more than 50% of its total use) for qualified business use. If this requirement is not met, the following rules apply.

 

CAUTION: Being required to use the straight line method for an item of listed property not used predominantly for qualified business use is not the same as electing the straight line method. It does not mean that you have to use the straight line method for other property in the same class as the item of listed property.

Exception for leased property. The business-use requirement generally does not apply to any listed property leased or held for leasing by anyone regularly engaged in the business of leasing listed property.

You are considered regularly engaged in the business of leasing listed property only if you enter into contracts for the leasing of listed property with some frequency over a continuous period of time. This determination is made on the basis of the facts and circumstances in each case and takes into account the nature of your business in its entirety. Occasional or incidental leasing activity is insufficient. For example, if you lease only one passenger automobile during a tax year, you are not regularly engaged in the business of leasing automobiles. An employer who allows an employee to use the employer's property for personal purposes and charges the employee for the use is not regularly engaged in the business of leasing the property used by the employee.

How To Allocate Use

To determine whether the business-use requirement is met, you must allocate the use of any item of listed property used for more than one purpose during the year among its various uses.

For passenger automobiles and other means of transportation, allocate the property's use on the basis of mileage. You determine the percentage of qualified business use by dividing the number of miles you drove the vehicle for business purposes during the year by the total number of miles you drove the vehicle for all purposes (including business miles) during the year.

For other listed property, allocate the property's use on the basis of the most appropriate unit of time the property is actually used (rather than merely being available for use). For example, you can determine the percentage of business use of a computer by dividing the number of hours you used the computer for business purposes during the year by the total number of hours you used the computer for all purposes (including business use) during the year.

Entertainment use. Treat the use of listed property for entertainment, recreation, or amusement purposes as a business use only to the extent you can deduct expenses (other than interest and property tax expenses) due to its use as an ordinary and necessary business expense.

Commuting use. The use of an automobile for commuting is not business use, regardless of whether work is performed during the trip. For example, a business telephone call made on a car telephone while commuting to work does not change the character of the trip from commuting to business. This is also true for a business meeting held in a car while commuting to work. Similarly, a business call made on an otherwise personal trip does not change the character of a trip from personal to business. The fact that an automobile is used to display material that advertises the owner's or user's trade or business does not convert an otherwise personal use into business use.

Use of your automobile by another person. If someone else uses your automobile, do not treat that use as business use unless one of the following conditions applies.

 

Treat any payment to you for the use of the automobile as a rent payment for purposes of item (3).

Employee deductions. If you are an employee, do not treat your use of listed property as business use unless it is for your employer's convenience and is required as a condition of your employment. See Can Employees Claim a Deduction, earlier.

Qualified Business Use

Qualified business use of listed property is any use of the property in your trade or business. However, it does not include the following uses.

 

CAUTION: Property does not stop being used predominantly for qualified business use because of a transfer at death.

Exception for leasing or compensatory use of aircraft. Treat the leasing of any aircraft by a 5% owner or related person, or the compensatory use of any aircraft, as a qualified business use if at least 25% of the total use of the aircraft during the year is for a qualified business use.

5% owner. For a business entity that is not a corporation, a 5% owner is any person who owns more than 5% of the capital or profits interest in the business.

For a corporation, a 5% owner is any person who owns, or is considered to own, either of the following.

 

Related persons. For a description of related persons, see Related persons in the discussion on property owned or used in 1986 under What Method Can You Use To Depreciate Your Property in chapter 1. For this purpose, however, treat as related persons only the relationships listed in items (1) through (10) of that discussion and substitute "50%" for "10%" each place it appears.

Examples. The following examples illustrate whether the use of business property is qualified business use.

Example 1. John Maple is the sole proprietor of a plumbing contracting business. John employs his brother, Richard, in the business. As part of Richard's pay, he is allowed to use one of the company automobiles for personal use. The company includes the value of the personal use of the automobile in Richard's gross income and properly withholds tax on it. The use of the automobile is pay for the performance of services by a related person, so it is not a qualified business use.

Example 2. John, in Example 1, allows unrelated employees to use company automobiles for personal purposes. He does not include the value of the personal use of the company automobiles as part of their compensation and he does not withhold tax on the value of the use of the automobiles. This use of company automobiles by employees is not a qualified business use.

Example 3. James Company Inc. owns several automobiles that its employees use for business purposes. The employees also are allowed to take the automobiles home at night. The fair market value of each employee's use of an automobile for any personal purpose, such as commuting to and from work, is reported as income to the employee and James Company withholds tax on it. This use of company automobiles by employees, even for personal purposes, is a qualified business use for the company.

Investment Use

The use of property to produce income in a nonbusiness activity (investment use) is not a qualified business use. However, you can treat the investment use as business use to figure the depreciation deduction for the property in a given year.

Example 1. Sarah Bradley uses a home computer 50% of the time to manage her investments. She also uses the computer 40% of the time in her part-time consumer research business. Sarah's home computer is listed property because it is not used at a regular business establishment. She does not use the computer predominantly for qualified business use. Therefore, she cannot elect a section 179 deduction or claim a special depreciation allowance for the computer. She must depreciate it using the straight line method over the ADS recovery period. Her combined business/investment use for determining her depreciation deduction is 90%.

Example 2. If Sarah uses her computer 30% of the time to manage her investments and 60% of the time in her consumer research business, it is used predominantly for qualified business use. She can elect a section 179 deduction and, if she does not deduct all the computer's cost, she can claim a special depreciation allowance and depreciate the computer using the 200% declining balance method over the GDS recovery period. Her combined business/investment use for determining her depreciation deduction is 90%.

Recapture of Excess Depreciation

If you used listed property more than 50% in a qualified business use in the year you placed it in service, you must recapture (include in income) excess depreciation in the first year you use it 50% or less. You also increase the adjusted basis of your property by the same amount.

Excess depreciation is:

 

To determine the amount in (2) above, you must refigure the depreciation using the straight line method and the ADS recovery period.

Example. In June 2012, Ellen Rye purchased and placed in service a pickup truck that cost $18,000. She used it only for qualified business use for 2012 through 2015. Ellen claimed a section 179 deduction of $10,000 based on the purchase of the truck. She began depreciating it using the 200% DB method over a 5-year GDS recovery period. The pickup truck's gross vehicle weight was over 6,000 pounds, so it was not subject to the passenger automobile limits discussed later under Do the Passenger Automobile Limits Apply. During 2016, she used the truck 50% for business and 50% for personal purposes. She includes $4,018 excess depreciation in her gross income for 2016. The excess depreciation is determined as follows.

 Total section 179 deduction ($10,000) and

 

   depreciation claimed ($6,618) for 2012 through

 

   2015. (Depreciation is from Table A-1.)                  $16,618

 

 Minus: Depreciation allowable (Table

 

   A-8):

 

   2012 -- 10% of $18,000                           $1,800

 

   2013 -- 20% of $18,000                            3,600

 

   2014 -- 20% of $18,000                            3,600

 

   2015 -- 20% of $18,000                            3,600   12,600

 

                                                    ------  -------

 

 Excess depreciation                                         $4,018

 

                                                            =======

 

 

If Ellen's use of the truck does not change to 50% for business and 50% for personal purposes until 2018, there will be no excess depreciation. The total depreciation allowable using Table A-8 through 2018 will be $18,000, which equals the total of the section 179 deduction and depreciation she will have claimed.

Where to figure and report recapture. Use Form 4797, Part IV, to figure the recapture amount. Report the recapture amount as other income on the same form or schedule on which you took the depreciation deduction. For example, report the recapture amount as other income on Form 2106, report the recapture amount as other income on Form 1040, line 21.

Lessee's Inclusion Amount

If you use leased listed property other than a passenger automobile for business/investment use, you must include an amount in your income in the first year your qualified business-use percentage is 50% or less. Your qualified business-use percentage is the part of the property's total use that is qualified business use (defined earlier). For the inclusion amount rules for a leased passenger automobile, see Leasing a Car in chapter 4 of

 

1. The fair market value of the property, multiplied by

2. The business/investment use for the first tax year the qualified business-use percentage is 50% or less, multiplied by

3. The applicable percentage from Table A-19 in Appendix A.