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©2009 Pearson Education, Inc. Publishing as Prentice Hall

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1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall

2 DEPR., COST RECOVERY, AMORTIZATION, & DEPLETION
Depreciation and cost recovery Amortization Depletion, intangible drilling, and development costs Tax planning considerations Compliance and procedural considerations ©2009 Pearson Education, Inc. Publishing as Prentice Hall

3 Depreciation and Cost Recovery
General considerations Depreciation methods Calculation of depreciation MACRS restrictions ©2009 Pearson Education, Inc. Publishing as Prentice Hall

4 General Considerations (1 of 4)
Taxpayers must use specific depreciation methods depending on when an asset is placed into service Prior to 1981 (pre-ACRS) 1981 through 1986 (ACRS) 1987 through present (MACRS) ©2009 Pearson Education, Inc. Publishing as Prentice Hall

5 General Considerations (2 of 4)
Common rules to all systems No depreciation may be claimed on land or other assets with an indefinite life Depreciation permitted in year asset placed into service Apply method consistently Basis of property being depreciated reduced by amount of allowable depreciation each taxable year ©2009 Pearson Education, Inc. Publishing as Prentice Hall

6 General Considerations (3 of 4)
Types of Property Tangible Property (physical) Intangible Property (non-physical) Real Property Personal Property vs. Personal-Use Property ©2009 Pearson Education, Inc. Publishing as Prentice Hall

7 General Considerations (4 of 4)
Capitalization vs. expense Materiality plays a role Frequent disputes between taxpayers and IRS Conversion of personal-use property Basis is lesser of adjusted basis or FMV Prevents taxpayers from depreciating non-deductible decline in value of personal asset ©2009 Pearson Education, Inc. Publishing as Prentice Hall

8 Depreciation Methods (1 of 3)
MACRS Personal property Use 3, 5, 7, 10, 15, 20 year useful life DDB with conversion to straight-line Half-year convention ½ year depr in 1st year and year of disposition Mid-Quarter convention when aggregate basis of all personal property placed into service during last 3 months of year exceed 40% No salvage value ©2009 Pearson Education, Inc. Publishing as Prentice Hall

9 Depreciation Methods (2 of 3)
MACRS Real property Residential rental property 27.5 years Nonresidential rental property 39 years Straight-line depreciation method Mid-month convention in year of acquisition and year of disposition Straight-line or Alternate Depreciation System (ADS) ©2009 Pearson Education, Inc. Publishing as Prentice Hall

10 Depreciation Methods (3 of 3)
MACRS (continued) Qualified leasehold improvements Interior nonresidential improvements 15-year straight-line recovery ©2009 Pearson Education, Inc. Publishing as Prentice Hall

11 Calculation of Depreciation §179 Expense
May elect to expense up to $128K for certain tangible personal property placed into service during the year $ for $ phaseout if qualified property placed into service during year >$510K Limited to taxable ToB income Unused portion carried over indefinitely and added to ©2009 Pearson Education, Inc. Publishing as Prentice Hall

12 Calculation of Depreciation Year of Disposition
MACRS allows ½ of last period of depreciation to be taken in year of disposition based on convention E.g., mid-year, mid-quarter, mid-month ©2009 Pearson Education, Inc. Publishing as Prentice Hall

13 MACRS Restrictions (1 of 3)
Portion of asset used for personal use is not depreciable Listed property rules Must use straight-line of business use < 50% Recapture of excess cost-recovery if MACRS claimed and business use falls below 50% ©2009 Pearson Education, Inc. Publishing as Prentice Hall

14 MACRS Restrictions (2 of 3)
Luxury automobile limitation Passenger vehicles ≤ 6,000 lb Depreciation can’t exceed ceiling limits E.g., $2,960 in 1st year “Luxury” auto defined by 2008 ceiling limits is any passenger vehicle costing > $14,800 ©2009 Pearson Education, Inc. Publishing as Prentice Hall

15 MACRS Restrictions (3 of 3)
Trucks, vans, and SUVs (> 6,000 lb) Max §179 expense is $25,000 No ceiling limits like luxury autos Leased vehicles Income inclusion based on IRS tables to eliminate avoiding luxury auto rules ©2009 Pearson Education, Inc. Publishing as Prentice Hall

16 ©2009 Pearson Education, Inc. Publishing as Prentice Hall
Amortization §197 intangibles Research and experimental expenditures Computer software ©2009 Pearson Education, Inc. Publishing as Prentice Hall

17 ©2009 Pearson Education, Inc. Publishing as Prentice Hall
§197 Intangibles Goodwill, going concern value, trademarks, trade names, etc. Classification and disposition of intangibles 15-year straight-line §197 asset treated as depreciable prop so that §1231 treatment accorded disposition if held > 1 year ©2009 Pearson Education, Inc. Publishing as Prentice Hall

18 Research and Experimental Expenditures
Include experimental and laboratory costs incidental to the development of a product (see table I10-4) Tax treatment options Expense in year paid Capitalize & amortize costs over 60 mo Capitalize and write-off when project abandoned or is worthless ©2009 Pearson Education, Inc. Publishing as Prentice Hall

19 ©2009 Pearson Education, Inc. Publishing as Prentice Hall
Computer Software Developed computer software Cost of developing software is qualified R&E under §174 Expense immediately or Amortize over 60 months Separately purchased and non-§174 developed software Straight-line depreciation over 36 months ©2009 Pearson Education, Inc. Publishing as Prentice Hall

20 Depletion, Intangible Drilling and Development Costs (1 of 2)
Depletion methods Cost depletion Similar to units of activity depreciation Percentage depletion Depletion rates based on statutory percentages Can claim depletion deductions in excess of cost over the life of the asset ©2009 Pearson Education, Inc. Publishing as Prentice Hall

21 Depletion, Intangible Drilling and Development Costs (2 of 2)
Treatment of intangible drilling and development costs Capitalized or deducted currently Decision to expense or capitalize depends on taxpayer’s current position Expected marginal tax rates ©2009 Pearson Education, Inc. Publishing as Prentice Hall

22 Tax Planning Considerations
Alternative depreciation under MACRS Units of production depreciation May use instead of MACRS Structuring a business combination Must consider amortization of goodwill ©2009 Pearson Education, Inc. Publishing as Prentice Hall

23 Compliance and Procedural Considerations
Form 4562 is used to report depreciation, §179 expense, depletion, and amortization deductions ©2009 Pearson Education, Inc. Publishing as Prentice Hall

24 ©2009 Pearson Education, Inc. Publishing as Prentice Hall

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