Depreciation and Tax Savings
Thursday, May 22, 2014
Posted by: Rhette Baughman
A Brief Overview of Depreciation
Depreciation is an income tax deduction that allows a taxpayer to recover the cost or other basis of certain property. It is an annual allowance for the wear and tear, deterioration, or obsolescence of the property.
Most types of tangible property (except, land), such as buildings, machinery, vehicles, furniture, and equipment are depreciable. Likewise, certain intangible property, such as patents, copyrights, and computer software is depreciable.
In order for a taxpayer to be allowed a depreciation deduction for a property, the property must meet all the following requirements:
- The taxpayer must own the property. Taxpayers may also depreciate any capital improvements for property the taxpayer leases.
- A taxpayer must use the property in business or in an income-producing activity. If a taxpayer uses a property for business and for personal purposes, the taxpayer can only deduct depreciation based only on the business use of that property.
- The property must have a determinable useful life of more than one year.
- Even if a taxpayer meets the preceding requirements for a property, a taxpayer cannot depreciate the following property:
- Property placed in service and disposed of in same year.
- Equipment used to build capital improvements. A taxpayer must add otherwise allowable depreciation on the equipment during the period of construction to the basis of the improvements.
- Certain term interests.
Depreciation begins when a taxpayer places property in service for use in a trade or business or for the production of income. The property ceases to be depreciable when the taxpayer has fully recovered the property’s cost or other basis or when the taxpayer retires it from service, whichever happens first. The Modified Accelerated Cost Recovery System (MACRS) is the proper depreciation method for most property.
If you have not already filed your tax return, you may still take advantage of the special depreciation tax savings for the 2013 tax year.
Depreciation = Tax Savings:
• 179 Expense Deduction - 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. For the 2013 tax year, the maximum section 179 expense deduction is $500,000.
• First Year Bonus Depreciation - You can take a special depreciation allowance to recover part of the cost of qualified property 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 2013, 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.
Note: For the 2014 tax year, the maximum 179 deduction will be 25,000 and the 50% bonus depreciation has not been extended. Please review irs.gov for future updates.
For more information about the 179 Expense and Bonus Depreciation, please review Publication 946, How to Depreciate Property and Form 4562, Depreciation and Amortization and the Instructions for Form 4562. You will also want to watch the IRS May 28th Webinar on Depreciation Basics.
Topics will include:
· What property can and cannot be depreciated
· When depreciation begins and ends
· Methods of depreciating property
· Basis of assets and depreciable property
· How to treat repairs and improvements
· Electing the Section 179 deduction
· Claiming the special depreciation allowance
· Figuring depreciation under MACRS
· Additional rules for listed property
· Live Q&A session with Subject Matter Experts
Click Here to Register for the webinar on Depreciation Basics
• Publication 946, How to Depreciate Property
• Form 4562, Depreciation and Amortization
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Small business owners, especially new sole proprietors, can find a wealth of information covering their federal tax responsibilities on www.IRS.gov. The SB/SE Tax Center (http://www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Small-Business-and-Self-Employed-Tax-Center-1) is the “Go To” IRS.gov page for everything small business.