REG 6 - Depreciation Flashcards
Modified Accelerated Cost Recovery System
(MACRS)
MACRS are for property placed in service after 1986. This system differs from GAAP depreciation in three significant ways:
- Cost of the asset is deducted over a stated recovery period that is shorter than the estimated useful life of the asset in most cases.
- The recovery period for new & used property is identical.
- Salvage value are ignored.
Real Property
(Section 1250)
The recovery period for Real Propery (1250) is:
- 27.5 Years - Residential rental property
- 39 Years - Most other buildings (business & invst realty)
- Land is NOT depreciated
- Salvage Value is IGNORED
- Straight Line method is used (MACRS)
-
Mid-Month Convention
- Only depreciate the real property for 1/2 the month when placed into service & 1/2 in the month of disposal.
Tangible Personal Property
(Section 1245)
(TESTED - 3,5,7 Years)
- 3 Years - consists of small tools, software
- 5 Years - consists of automobiles, light trucks, computers, office machinery (typewriters, calculators, copiers, etc.) and peripheral equipment.
- 7 Years - Other personal property, equipment, office furniture and fixtures desks, files, etc.
- 10 Years - Barges, tugs, vessels, water transport equip\
- 15 Years - Municipial wastewater treatment plants
- 20 Years - Municipial sewer & farm buildings
Tangible Personal Property
(Section 1245)
Rules for depr, convention?
-
MACRS
-
Double Declining Balance for 3,5,7,10 yr property
- Swith to Stright Line when it results in a greater deduction than DDB
- 150% Declining Balance for 15,20 yr property
- Straight Line MAY BE elected
-
Double Declining Balance for 3,5,7,10 yr property
- Salvage Value is IGNORED
- Generally a Half-year Convention
-
Mid-quarter Convention only IF:
- If aquire at least 40% of its assets in the final 3 months of the year.
Half-year Convention
vs.
Mid-quarter Convention
Half-year Convention - generally applied to tangible personal property under which it is depreciated for 1/2 year in the year of aquisition & 1/2 year in the year of disposal.
Mid-quarter Convention - generally applied to tangible personal property & required when 40% or more of assets are acquired in the final 3 months of the year, depreciating assets from the middle of the quarter in which they are acquired until the middle of the quarter in which they are disposed of.
Section 179 Deduction
An election to immediately expense new & used depreciable business property (Tangible Property 3,5,7) rather than capitalizing & depreciating it.
- For Tangible Property (Depreciable Business Property)
- Not allowed if net loss exists or if taking depreciation expense would create a net loss.
- Purchase must be NOT be a related party transaction.
-
Expense maximum up to $25K
-
Phase out begins at $200K, reduced dollar for dollar
- Not available if purchase exceed $225K
- The rest still gets depreciated DDB 3,5,7
-
Phase out begins at $200K, reduced dollar for dollar
Intangibles (Section 197)
Correct! A covenant not to compete is a section 197 acquired intangible asset when acquired in connection with the acquisition of business. Section 197 acquired intangible assets are amortized over a 15-year period & straighline method is used.
What are the two Depletion methods?
Depletion is used for natural resources that are exhaustible or wasting assets, such as timber, minerals, oil & gas. There are 2 methods allowed:
Cost Method:
+ Adj basis (cost-acct depleted) / Est Recoverable Units
x Units sold
= Depletion Expense per Year
Percentage Method = Statutory Percentage x Gross Income
Domestic Production Activities Deduction (DPAD)
Manufacturers Deduction - Section 199
In order to encourage production within the US, DPAD was established to provide US companies a tax break to the extent that they conduct their activities domestically. Applies to:
- Manufacturing-type operations including manufacturing, producing, growing, and extracting tangible personal property, computer software, and sound recordings
- Construction and substantial renovation of real property, including infrastructure
- Production of certain films and certain engineering and architectural services.
- It does NOT apply to consulting services.
NOTE: Correct! Sole proprietorships, partnerships, S corporations, and LLCs all qualify for the DPAD with the amount limited to AGI. The deduction may not exceed 50% of allocable W-2 wages for all entities, not only corporations. QPAI is the excess of domestic production gross receipts (DPGR) over the total cost of sales allocated to DPGR, not a percentage of taxable income.
Calculation of DPAD
Orange, Inc., a calendar-year C corporation, has $800,000 of qualified production activities income (QPAI) and $950,000 of total taxable income in 20X14. All of the QDPAI was produced by Orange’s manufacturing plant, which relies mainly on a temporary employment agency for its workforce, employing only two W-2 employees who in aggregate earned $140,000 in 20X14. Orange also has an office in Mexico, which is unrelated to its domestic manufacturing plant and which employs one W-2 employee, who earned $75,000 in 20X14. What amount of Domestic Production Activities Deduction may Orange claim on its 20X14 corporate tax return?
The amount of the DPAD is calculated at 9% of the lesser of QPAI or taxable income. There is a limitation depending on the entity:
- C-Corps - deduction is limited to taxable income
- Sole Props, Partnerships, S-Corps, LLCs - deduction is limited to AGI
- For ALL entities, the deduction cannot exceed 50% of W-2 wages
Correct! The DPAD is calculated at 9% of the lesser of QPAI, $800,000, or taxable income, $940,000. The deduction, 9% x $800,000 or $72,000 is limited, however, to 50% of W-2 wages paid to domestic employees. Orange paid a total of $140,000 in W-2 wages allocable to the QPAI, limiting the DPAD to $70,000.
A company acquired off the shelf software that qualifies for the Section 179 deduction. It wishes to minimize its taxable income. In order to do so, it?
Correct! The cost of off the shelf software is eligible for the Section 179 deduction. A company may either take the Section 179 deduction or may depreciate the software on a straight-line basis over 36 months.
Christa purchased and placed into service five-year assets at a total cost of $2,250,000. If Christa elects both the Section 179 deduction and additional first-year bonus depreciation, but does not elect the straight-line method, what is Christa’s depreciation expense for tax purposes for the year, assuming a half-year convention?
Correct! The maximum Section 179 deduction is $500,000, which is reduced by acquisitions of qualifying depreciable property in excess of $2,000,000. Since Christa purchased a total of $2,250,000, $250,000 in excess of the maximum, the 179 deduction would be $500,000 - $250,000 or $250,000. Bonus depreciation is equal to 50% of the depreciable basis of the property, after subtracting any 179 deduction. Christa’s depreciable basis is $2,250,000 - $250,000 or $2,000,000, resulting in bonus depreciation of $1,000,000. The remaining depreciable basis of $1,000,000 will be recovered over a 5 year period, using double-declining balance depreciation (DDB), ignoring salvage value, and applying the half-year convention. With a 5 year life, the straight-line rate would be 20%, resulting in a 40% rate for DDB. As a result, the additional deduction would be $1,000,000 x 40% x ½ or $200,000. The total deduction would be $250,000 + $1,000,000 + $200,000 or $1,450,000.
