Unit 6 Flashcards
MACRS is
An income tax depreciation system
MACRS tables are used for
calculating depreciation and the adjusted basis for assets that are capitalized.
half-year or mid-year convention is (MACRS) included in table?
embedded in the MACRS table and requires no special adjustments.
If you ever have to calculate straight-line (SL) depreciation what do you need to remember
mid-year convention
How is depreciation handled in the first year for straight-line depreciation?
In the first year, only half of the total depreciation is recognized, extending the depreciation period by one year beyond the asset’s life, with the remaining half-year depreciation recognized as an expense later.
What method does MACRS use to classify assets (years)
MACRS classifies assets into 3, 5, 7, 10, 15, 20, 27.5, or 39-year property based on their useful life
How do you depreciate real estate with MACRS
Real estate (27.5 years for residential or 39 years for commercial) must be depreciated using the straight-line (SL) method with mid-month convention, which is not included in the MACRS table detailing accelerated depreciation methods.
Cost Basis
Cost basis, also known as original basis, refers to the initial basis of an asset for tax purposes. This includes all costs associated with putting the asset into service, such as sales tax, shipping, installation, and other related expenses. This comprehensive cost, known as the “fully-loaded” cost, is capitalized and depreciated over the asset’s useful life.
What is cost basis, and how is it determined for tax purposes?
Cost basis is the tax term used for the original basis. An asset is placed into service using its “in-service” cost, which includes sales tax, shipping/freight, installation, etc.
If 40% or more of the assets are placed in service during the 4th quarter what happens
mid-quarter convention applies. You’re unlikely to need to calculate depreciation using this convention unless you’re provided with IRS tables.
Real Estate (residential 27.5-year life) or (commercial 39-year life) follows the mid-month convention. What does that mean
This means that regardless of the day in a month the real estate is placed into service, depreciation will be calculated as if it were placed in service at the midpoint of that month.
What convention applies to real estate depreciation for both residential (27.5-year life) and commercial (39-year life)?
Mid-month convention.
What is mid or half year convention?
This means you’re treating the asset as if it is placed into service on July 1 of the tax year, regardless of the actual date it’s put into service.
Do repairs change the basis?
No repairs do not change the basis, as long as they don’t extend the asset’s life. Repairs are just to maintain the existing asset’s life.
How do you use the MACRS table
- Multiply the total in-service original cost by each percentage in the MACRS table.
- This gives you the total depreciation for each year of recovery.
- For example, for an asset with a five-year life and a $10,000 in-service cost:
- Multiply the MACRS table percentage by the full $10,000 each year.
- This gives you the depreciation for each year.
- Calculate the depreciation for each year accordingly.
What is the key to solving for the depreciation of an asset using MACRS?
Multiply the MACRS table percentage by the full cost of the asset each year.
Expensing policy determines what
whether an expenditure should be capitalized and depreciated, or expensed entirely in the current year
Expenditure should be capitalized when
the expenditure improves the efficiency of an asset or extends the life of an asset
Replacing a roof should be what vs. painting a building plus cost of labor should be what
Painting building plus cost of labor should be expensed in current year bc it doesn’t extend the lifetime of the asset
Replacing a roof the expenditure would be required to be capitalized and not be expensed in the current year bc it extends the life of the asset
IRS says what about computers
Certain assets, like computers, usually need to be capitalized according to the IRS. But due to the drop in technology prices, the IRS is now more open to letting people write off computer expenses.
Sole proprietors, partnerships, LLCs, and corporations have the option to immediately deduct up to $1,220,000 for what
for equipment that would normally need to be depreciated over time. This deduction applies to tangible and depreciable property used for business, but not for property held for generating income
Section 179 does not apply to what type of property
Property held for the production of income
Section 179 profitability constraint
The section 179 expense deduction is restricted by the company’s profitability. If the profit falls below $1,220,000 (excluding the section 179 expense), the deduction available under section 179 cannot surpass the entity’s profit.
Capital Spending constraint phase out
The $1,220,000 amount is phased out, dollar for dollar, if a firm’s total capital expenditure exceeds $3,050,000. For example, if a firm’s capital expenditures totaled $3,500,000, only $1,050,000 section 179 expenses would be available ($1,220,000 − [$3,500,000 − $3,050,000] = $770,000).
What happens if a firm triggers the profitability constraint? (sec 179)
any elected section 179 expenses beyond the firm’s profit can be carried over to future tax years.
What happens if a firm triggers the aggregate capital spending constraint
the phase out serves as an elimination of the benefit, and no carryover is available.
What can a sole proprietor do for the profitability constraint?
aggregate business profits and unrelated W-2 wages
Any asset value beyond the elected 179 amounts can still be what
depreciated
Nonqualifying property for sec 179
-Property held for the production of income (like rental properties).
-Real property, including structural components (like air conditioning and heating systems).
-Property purchased from related parties (§267).
-Property acquired by gift, inheritance, or exchange.
-Property used as a passive activity.
-Property used outside the United States.
Intangible property.
ABC manufacturing company placed into service a piece of equipment (5-year life) with a total installed, in service cost of $1,357,000. Assume that the firm elects and qualifies for the maximum Section 179 deduction, and uses MACRS depreciation.
What is the total maximum deduction allowed for the current tax year?
John Smith, a sole-proprietor, placed into service office furniture with a total in-service cost of $12,500. John elected to expense the entire cost of the furniture under §179. John’s business profit, without regard to the Section 179 expense, is $6,300. Furthermore, in the current tax year, John has W-2 wages of $4,000 he earned as a part time bartender.
What is the total first year deduction and how much is carried over to next year?
Since John operates as a sole-proprietor, he is allowed (for purposes of the profitability constraint) to aggregate his business profit and unrelated W-2 wages. Therefore, the total deduction allowed in the current year is $10,300 ($6,300 + $4,000). Since he elected to expense the entire amount of $12,500, the remaining $2,200 ($12,500 − $10,300) must be carried over, and no further MACRS depreciation deduction will apply.
It should be noted that, had John elected only to expense $10,300, the remaining $2,200 would be eligible for depreciation deductions, but only over the seven-year schedule required under MACRS.
Start-up costs and organizational expenses must be amortized over a what period
15 year
Amortization describes
cost recovery for intangible assets
related party example: let’s assume three situations where a total loss incurred by the original seller will be allowed, partially allowed, or not allowed at all. In all three situations, the son has purchased a tract of land from his Father, who had originally paid $50,000 for the land, and sold it to the son for $30,000.
Important – Realize that the related party rules may make these transactions more restrictive than the wash sales rules when the aggregate economic loss (between Father and son) is lost.
