CH. 10 - Property Acquisition Flashcards
Cost recovery
the method by which a company expenses the cost of acquiring capital assets. Cost recovery can take the form of depreciation, amortization, or depletion.
Depreciation
the cost recovery method to allocate the cost of tangible personal and real property over a specific time period.
Amortization
the method of recovering the cost of intangible assets over a specific time period.
Intangible assets
assets that do not have physical characteristics. Examples include goodwill, covenants not to compete, organizational expenditures, and research and experimentation expenses.
Depletion
the cost recovery method to allocate the cost of natural resources as they are removed.
What are example of personal property, and how is the cost recovered?
All tangible assets other than real property. (Ex: Tangible assets such as cars, equipment and machinery)
Depreciation
What are examples of real property, and how is the cost recovered?
land and structures permanently attached to land. (although land is nondepreciable)
Depreciation
tax basis
the amount of a taxpayer’s unrecovered cost of or investment in an asset; see also adjusted tax basis.
Businesses may begin recouping the cost of purchased business assets once ________
they begin using the asset in their business (aka it is placed into service)
Once a business establishes its costs in an asset, the business recovers the cost of the asset through _____________
cost recovery deductions such as depreciation, amortization, and depletion
Once a business establishes its costs in an asset, the business recovers the cost of the asset through _____________
cost recovery deductions such as depreciation, amortization, and depletion.
Adjusted tax basis/adjusted basis
an asset’s carrying value for tax purposes at a given point in time, measured as the initial basis (for example, cost) plus capital improvements less depreciation or amortization. Also called adjusted tax basis.
Aka the amount of an asset’s cost that has yet to be recovered through cost recovery deductions such as depreciation.
How can you calculate an asset’s adjusted tax basis?
Subtracting the accumulated depreciation (or amortization or depletion) from the asset’s initial or historical basis.
Generally speaking, taxpayers _______ assets with useful lives over one year
capitalize
What is the exception to capitalizing assets with useful lives of over one year?
Taxpayers can immediately deduct low-cost personal property items that are used in their business. Low cost is defined as:
If the taxpayer has a certified, audited financial statement, they can deduct amounts paid for personal property up to $5000 per invoice or item. If they do not have a financial statement, they can deduct up to $2500 per invoice or item
When a business acquires multiple assets for one purchase price, the tax law requires the business to __________
determine a cost basis for each separate asset. For example, if land and a building are purchased together, the land and the building would be considered separate assets.
When a business incurs additional costs associated with an asset after the asset has been placed into service, are these costs imediately deducted or are they capitalized?
In general, it depends on whether the expenditure constitutes routine maitenance or whether it results in a “betterment, restoration, or new or different use for the property.”
Taxpayers can immediately deduct the cost if they meet the routine maintenance rules.
True or false: taxpayers can immediately deduct the additional costs of an asset that is considered routine maintenance.
True
If an asset is used for personal purposes and is later converted to business (or rental) use, the basis for cost recovery purposes is ___________
the lesser of (1) the cost basis of the asset or (2) the fair market value of the asset on the date of conversion to business use.
Modified Accelerated Cost Recovery System (MACRS)
the current tax depreciation system for tangible personal and real property. Depreciation under MACRS is calculated by finding the depreciation method, the recovery period, and the applicable convention.
Recovery period
a length of time prescribed by statute in which business property is depreciated or amortized.
Aka the “depreciable life” of the asset
To compute MACRS depreciation for an asset, the business needs to know:
-The asset’s deprecable basis
-The date in which it was placed into service
-The depreciation method
-The asset’s recovery period
The applicable depreciation convention
True or false: personal property and personal use property mean the same thing
False; personal prepoerty denotes any property that is not real property while personal-use property is any property used for personal purposes.
MACRS provides _____ acceptable methods for depreciating personal property. What are they, and which one is the default method?
3
200 % (double) declining balance
150% declining balance
Straightline
200 % (double) declining balance is the default
True or false–a business can choose different depreciation methods for similar assets placed into use the same year.
False; for example, if a business buys several pieces of machinery the same year, they all must use the same method. However, the business can choose different methods for similar assets purchased in different years.
In financial accounting, an assets recovery period (aka depreciable life) is based on ___________. For tax purposes, an asset’s recovery period is ___________
The taxpayer-determined estimated useful life; predetermined by the IRS.
What are the recovery period for most common business assets as specified by the IRS?
-Cars, light general-purpose trucks, computers, and peripheral equipment: 5 years
-Office furniture, fixtures, and equipment: 7 years
-Qualified improvement property (straight-line method): 15 years
What does the depreciation convention specify?
It specifies the portion of a full-years depreciation the business can deduct for an asset in the year the asset is first placed into service and in the year the asset was sold.
Half-year convention
a depreciation convention that allows owners of tangible personal property to take one-half of a year’s worth of depreciation in the year of purchase and in the year of disposition regardless of when the asset was actually placed in service or sold.
Mid-quarter convention
a depreciation convention for tangible personal property that allows for one-half of a quarter’s worth of depreciation in the quarter of purchase and in the quarter of disposition. This convention must be used when more than 40 percent of tangible personal property is placed into service in the fourth quarter of the tax year.
For personal property, taxpayers must either use the ________ convention or the _________ convention
The half-year convention or the mid-quarter convention
What are the key facts of the half-year convention?
-One-half of a year’s depreciation is allowed in the first and last years of the asset’s life
-The IRS depreciation tables automatically account for the half-year convention in the acquisition calendar
-If an asset is disposed of before it is fully depreciated, only one-half of the table’s applicable depreciation percentage is allowed in the year of disposition.
Businesses must use mid-quarter convention when more than _________% of their total ____________ that they place into service during the year is placed in service during the ______ quarter.
Businesses must use mid-quarter convention when more than 40% of their total tangible personal property that they place into service during the year is placed in service during the fourth quarter.
True or false: if the mid-quarter convention applies, businesses must use the convention for all tangible personal property placed into service during the year–even assets placed in service in quarters other than the fourth quarter.
True!
How should a business calculate depreciation for the year of disposition on an asset
The business first calculates depreciation for the entire year as if he peropty had not been disposed of. Then the business applies the half-year convention by multiplying the full-year’s depreciation by 50% (one-half of a years depreciation).
True or false: if a business acquires and disposes of an asset in the same tax year, it is allowed to claim depreciation on the asset.
False; it is not.
What are the key facts of the mid-quarter convention?
-The mid-quarter convention is required when more than 40% of personal property is placed into service during the fourth quarter of the tax year.
-Each quarter has its own depreciation table. Once the mid-quarter convention applies, the taxpayer must continue to use it over the asset’s entire recovery period
-If an asset is disposed of before it is fully depreciated, use the formula given to determine the allowable depreciation for the year of disposition.
For depreciation purposes, real property is classified as….
land, residential rental property, or nonresidential property.
What is the recovery period for real property?
-Residental: 27.5 years
-Nonresidental property placed in service on or after May 13, 1993: 39 years
Non residental property placed in service after December 31, 1986 but before May 13, 1993: 31.5 years
If a building is substantially improved (ie expanded) at some point after the initial purchase, the building addition is treated as…..
A new asset with the same recovery period as the original building.
All depreciable real property is depreciated for tax purposes using the _________ method
straight-line method
All real property is depreciated using the _________ convention
mid-month convention
Mid-month convention
a convention that allows owners of real property to take one-half of a month’s depreciation during the month when the property was placed in service and in the month it was disposed of.
What is the formula for mid-month deprecitaion for the year of disposition?
Full year’s depreciation x (month in which asset was disposed of - .5)/12
§179 expense
an incentive for small businesses that allows them to immediately expense a certain amount of tangible personal property placed in service during the year.
Under 179, businesses may elect to immediately expense up to $1,080,000 of qualified property during 2022
True or false; the maximum amount of §179 expense a business may elect to claim goes up to 1,080,000 without a phase out.
False; under the phase-out limitation, businesses must reduce the 1,080,000 maximum available expense dollar-for-dollar for the amount of qualified property placed in service during 2022 over a 2,700,000 threshold.
Aka if a business places $3,780,000 (2.7m over the threshold of $1.8M) or more of tangible personal property into service during 2022, it’s maximum available 179 expense for the year is $0.
A businesses deductible 179 expense is limited to the taxpayers…
business income after deducting all expenses (including regular and bonus depreciation) except the 179 expense.
What are the key facts of §179 expenses?
-$1,080,000 of tangible personal property can be immediately expensed in 2022
-Businesses are eligible for teh full amount of the expense when tangible personal peroperty placed in serivce is less than $2,700,000. Beginning at 2.7M, the 179 expense is phased out, dollar-for-dollar. When assets placed in serivce reach $3,780,000, no 179 expense can be taken.
-179 expenses are also limited to a business’s taxable income before the 179 expense. 179 expenses cannot create losses.
Bonus depreciation
additional depreciation allowed in the acquisition year for tangible personal property with a recovery period of 20 years or less.
True or false: businesses may elect to opt out of bonus depreciation.
False; bonus depreciation is mandatory for all businesses that qualify. However, businesses can elect out of bonus depreciation for all of their five-year class property but still calaim bonus depreciation for all of their seven-year property acqusitions.
What are the bonus depreciation percentages?
Placed in service:
Sep 28, 2017-December 31, 2022: 100%
2023: 80%
2024: 60%
2025: 40%
2026: 20%
2017 and after: none
To qualify for bonus depreciation, property must….
- Be new or used property (as long as the property has not been previously used by the taxpayer within the past 5 years)
- must generally have a regular depreciation life of 20 years or less
What are the key facts of listed property?
-When an asset is used for both personal and business use, calculate the business-use percentage
-If the business-use percentage is above 50%, the allowable depreciation is limited to the business-use percentage
-If a listed property’s business-use percentage ever falls to or below 50%, depreciation for all previous years is retroactively restated using the MACRS straight-line method
Listed property
business assets that are often used for personal purposes. Depreciation on listed property is limited to the business-use portion of the asset.
When the business-use percentage for a listed property asset is less than 50%, the business must compute depreciation for the asset using ____________
the MACRS straight-line method
What are the key facts regarding luxury vehicles?
-Depreciation on automobiles weighing less than 6,000 lbs is subject to luxury auto provisions
-Luxury automobiles have a maximum depreciation limit for each year
-Listed property rules are also applicable to luxury automobiles
Luxury vehicles
automobiles on which the amount of annual depreciation expense is limited because the cost of the automobile exceeds a certain threshold. The definition excludes vehicles with gross vehicle weight exceeding 6,000 pounds.
Research and experimentation (R&E) costs
expenses for research including costs of research laboratories (salaries, materials, and other related expenses). Taxpayers amortize research and development costs over not less than 60 months from the time benefits are first derived from the research.
Covenants not to compete
a contractual promise to refrain from conducting business or professional activities similar to those of another party.
For tax purposes, an intangible asset can be placed into what categories?
- 197 Purchase intangibles
- Organizational expenditures and start-u costs
- Research and experimentation costs
- Patents & copyrights
Businesses amortize all intangible assets using the ________ method for both financial accounting and tax purposes
straight-line method
What are the key facts of 197 Intangible Assets
-Purchased intangibles are amortized over a period of 180 months, regardless of their explicitly states lives
-The full-month convention applies to amortization assets
§197 intangibles
intangible assets that are purchased that must be amortized over 180 months regardless of their actual useful lives.
Full-month convention
a convention that allows owners of intangibles to deduct an entire month’s amortization in the month of purchase and month of disposition.
Organizational expenditures
expenses that are (1) connected directly to the creation of a corporation or partnership, (2) chargeable to a capital account, and (3) generally amortized over 180 months (limited immediate expensing may be available).
What are the key facts of organizational expenditures and start-up costs?
-Taxpayers may immediately expense up to $5,000 of organization expenditures and $5,000 of start-up costs
-The immediate expense rule has a dollar-for-dollar phase out rule that begins are $50,000 for organizational expenditures and for start-up costs. Thus, when organizational expenditures or start-up costs exceed $55,000, there is no immediate expensing
Start-up costs
expenses that would be classified as business expenses except that the expenses are incurred before the business begins. These costs are generally capitalized and amortized over 180 months, but limited immediate expensing may be available.
Cost depletion
the method of recovering the cost of a natural resource that allows a taxpayer to estimate or determine the number of units that remain in the resource at the beginning of the year and allocate a pro rata share of the remaining basis to each unit of the resource that is extracted or sold during the year.
True or false: regarding depletion, taxpayers may expense the larger of cost or depletion
True!
Percentage depletion
a method of recovering the cost of a natural resource that allows a taxpayer to recover or expense an amount based on a statutorily determined percentage.
