Liberty Tax Service Online
Basic Income Tax Course.
Lesson 12
1
Chapter 11 Homework 1
HOMEWORK 1:
William D. Williams (345-77-3443, born 10/14/1960)
of 4545 West Ave., Braden, TN 38010 is single. He
received the following forms and he is a radio
engineer.
Prepare William’s return.
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Chapter 11 Homework 1
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Chapter 11 Homework 1
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Chapter 11 Homework 1
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Chapter 11 Homework 1
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Chapter 11 Homework 1
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Chapter 11 Homework 1
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Chapter 11 Homework 1
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Chapter 11 Homework 2
HOMEWORK 2:
Matthew J. Morgan (SSN 083-21-6493, born 9/18/1958) lives
at 4684 McKinley Parkway, New Orleans, LA 70130. He has
Form 1099-B from Broker One, who reported gross
proceeds as follows:
Stock
Date Sold
Sales Price
100 shares MNO
02/12/2008
$5,050
500 shares ZYX
08/06/2008
$5,250
Broker One reported sales commissions to Matthew separately.
They were: MNO, $50 and ZYX, $200.
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Chapter 11 Homework 2
Matthew also has a Form 1099-B from Broker Two, who reported the
net proceeds as follows:
Stock
Date Sold
Sales Price
200 shares BCA
08/06/2008
$4,000
300 shares JKL
08/06/2008
$5,910
Matthew gave you the following information about the stocks he sold:
 He paid $6,940, plus a $60 commission, to buy the MNO stock on
February 12, 2006.
 He bought the ZYX on March 11, 2005, for $5,200, plus a $100
commission.
 He paid $3,900, plus a $50 commission, to buy the BCA stock on
January 29, 2008.
 He bought the JKL on June 25, 2006, for $6,300, plus a $30
commission.
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Chapter 11 Homework 2
Matthew’s filing status is head of household. His son
Joe (SSN 088-99-1234, born 03/25/1999) lived with
him the whole year. His only other income was
$65,182 in wages. Line 41 of his Form 1040 shows
$54,182.
Matthew’s Form 1040 and Capital Loss Carryover
Worksheet from 2007 shows that he has a $450
short-term loss and a $325 long-term loss that he
can carryover to his 2008 return.
Complete Matthew’s Schedule D and his Form 1040
through line 13. Also complete the Capital Loss
Carryover Worksheet to figure how much capital loss
he can carry over to 2009.
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Chapter 11 Homework 2
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Chapter 11 Homework 2
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Chapter 11 Homework 2
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Chapter 11 Homework 2
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Chapter 11 Homework 2
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Chapter 12: Depreciation
Chapter Content
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The Depreciation Deduction
Modified Accelerated Cost Recovery System (MACRS)
Listed Property
Section 179 Deduction
Disposition of Property
Amortization
Form 4562, Depreciation and Amortization
Key Ideas
Objectives
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Understand Property Depreciation and the Depreciation Deduction
Know How to Use MACRS to Depreciate Property
Understand the Limits on Depreciating Listed Property
Determine What Property Qualifies for the Section 179 Deduction
Know When to Use Form 4562 and How to Complete the Form
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Depreciation
A. Depreciation is the decrease in the value of
property over the time it is used.
B. You can recover the cost of certain business or
income-producing property by taking yearly
deductions for depreciation over the life of the
property.
C. The property must have a useful life lasting
substantially beyond the tax year.
D. Tax law sets the time periods that different types of
property are expected to last.
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Depreciation
E. To depreciate property you need to know:
1. The basis of the property
2. The useful life of the property, and
3. The depreciation method.
4. Date placed in service
5. Convention
F. There are additional rules and requirements for
depreciation of property that is listed property.
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Depreciation
G. Section 179 allows you to deduct all or part of
the cost of certain property, up to a limit, in the
first year you place the property in service (this
is called expensing).
H. The form or schedule used to report depreciation
depends on the use of the property being
depreciated.
I. For many depreciation deductions, you must also
complete Form 4562.
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Depreciation
22
Depreciation
23
THE DEPRECIATION DEDUCTION
A.
The depreciation deduction is a percentage of the
basis of depreciable property taken over the useful
life of the property.
You purchase a copier in 2008 at a cost of $4,000. If
the useful life of the copier is 5 years, you deduct a
percentage of the $4,000 each year.
B. IRS rules determine the useful life and the
percentage to use.
C. If the property is depreciable, you must take the
deduction.
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THE DEPRECIATION DEDUCTION
D. To claim the deduction, you must own the property and
use it in your business or for producing income.
Sue took out a loan to buy a van. She is a carpenter and
she uses the van 75% in her business and 25% for
personal purposes. She owns the van and can
depreciate 75% of the cost of the van.
E. Depreciable property is either tangible or intangible.
1. Tangible property is property you can see or touch
and includes both real and personal property (land,
buildings, cars, furniture)
John rents apartments in an apartment building he owns.
The building, the furnace, the garage, and the trees
and shrubs are all real property owned by John. His
computer, the furniture in his office, and the truck he
uses for his business are all examples of tangible
personal property.
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THE DEPRECIATION DEDUCTION
2. Intangible property is generally any property that
has value but cannot be seen or touched
(computer software, copyrights, patents).
F. Real or personal property used for personal
(nonbusiness) purposes is not depreciable.
Chris owns a framing business. In 2007, she purchased
a van that she uses to deliver frames to her
customers. She also uses the van to shop and take
her kids to school. Chris can depreciate the cost of
the van based on its business use. If 60% of the
miles she drives are for business, she can use 60%
of the cost of the van as her cost basis for
depreciation.
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THE DEPRECIATION DEDUCTION
What Can And Cannot Be Depreciated
G. You can depreciate property only if it:
1. Is used for business or held to produce
income
2. Is expected to last more than one year,
and,
3. Has a limited useful life (for this reason,
land is never depreciable).
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THE DEPRECIATION DEDUCTION
H. In addition to land, business-use property you
cannot depreciate includes:
1. Inventory and stock in trade
2. Items placed in service and disposed of in the
same year
3. Most leased property
John completely replaces the roof on the
apartment building he owns. The new roof
increases the value of the property so he must
depreciate the cost of the roof. If John merely
repaired a leak around the chimney, he would
deduct the cost of the repair in the year the
repair is made.
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THE DEPRECIATION DEDUCTION
When Depreciation Begins And Ends
I. Begin depreciating property when you place it in service
for use in your trade or business.
1. Property is placed in service when it is ready and
available for its specific use.
J. Stop depreciating when you have fully recovered the cost
or when you retire the property from service, whichever
comes first.
1. The cost is recovered when your section 179 and
depreciation deductions are equal to your cost or
investment in the property
2. Property is retired from service when you permanently
withdraw it from use in your trade or business or from
use in the production of income.
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THE DEPRECIATION DEDUCTION –
Problem 1
John bought his apartment building in January 2008
and started advertising for tenants immediately.
Because he did not rent the first apartment until
April, depreciation will not begin until April.
True or False?
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THE DEPRECIATION DEDUCTION –
Problem 1
John bought his apartment building in January 2008
and started advertising for tenants immediately.
Because he did not rent the first apartment until
April, depreciation will not begin until April.
False
The building was ready and available for rent in January so
January 2008 is when it was placed in service and
depreciation begins even though he did not rent the
apartment until April.
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THE DEPRECIATION DEDUCTION
Depreciation Systems
A. There are three different systems used to figure the
depreciation deduction, each with its own set of
rules.
B. The rules of each system determine the useful life of
the property and which depreciation method to use.
1. Straight line method of depreciation provides
equal depreciation deductions each year of the
useful life.
2. Accelerated methods allow larger deductions
during the early years, resulting in a faster
recovery of the cost of the property.
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THE DEPRECIATION DEDUCTION
C. Generally, the system you use depends on the type of
property and when the property was placed in service. The
three systems are:
1. Modified Accelerated Cost Recovery System (MACRS) for
most tangible depreciable property placed in service
after 1986.
2. Accelerated Cost Recovery System (ACRS) for most
depreciable property placed in service after 1980 but
before 1987.
3. Useful lives and either straight line or accelerated
methods for property placed in service before 1981 or
for which MACRS or ACRS is not used.
D. IRS provides MACRS and ACRS tables that give the
depreciation rate (the percentage of the cost you can
deduct) for each year the property is in service.
E. There are no tables for property placed in service before
1981.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
A. MACRS may be used for most tangible depreciable
property placed in service after 1986 and must be
used to depreciate real property acquired before
1987 that you changed from personal to business or
income producing use after 1986.
B. MACRS cannot be used to depreciate the following
property:
1. Intangible property
2. Any films, video tape and recordings
3. Certain real and personal property placed in
service before 1987.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
C. MACRS is actually two systems.
1. General Depreciation System (GDS) is used for
most tangible property (accelerated methods and
straight line method)
2. Alternative Depreciation System (ADS) is used
when specifically required by law or if you elect it
(straight line method)
3. Refer to Table 12-1 for a summary of MACRS
depreciation methods used in each system.
D. The MACRS percentage tables are based on the
different depreciation methods.
1. Refer to Table 12-2 for the percentage tables to
use to depreciate personal property and to Table
12-3 for the tables for residential rental and
nonresidential real property.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
Table 12-3. MACRS Percentage Table Guide for Residential Rental
and Nonresidential Real Property
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
E. To use the MACRS tables, you need to know the
depreciation method and the following about your
property:
1. The basis
2. The property class and recovery period
3. The date placed in service
4. The convention to use.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
Basis
Basis is usually the cost of purchased property. The
cost includes sales tax (unless it was claimed on
Schedule A), shipping, installation and testing fees.
1. If you change personal use property to business
use, the basis is the lesser of the fair market
value on the date you change it from personal
use or your original cost basis adjusted for the
cost of improvements and certain tax deductions
2. If you use property for both personal and business
purposes, use only the percentage of the basis
used for business to figure the depreciation
deduction.
40
MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS) – Problem 1
Rebecca bought a computer system for use in her
business. The price of the system was $28,000. She
paid sales tax of $1,400 and shipping charges of
$130. What is her cost basis?
a. $28,000
b. $29,400
c. $28,130
d. $29,530
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS) – Problem 1
Rebecca bought a computer system for use in her
business. The price of the system was $28,000. She
paid sales tax of $1,400 and shipping charges of
$130. What is her cost basis?
d. $29,530
The cost basis is $29,530 ($28,000 +$1,400 + $130).
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
Property Classes And Recovery Periods
Property classes establish the recovery period (number
of years) over which you can take the deduction.
1. The class property it is assigned to is generally
determined by its class life.
2. Under GDS, property is assigned to one of 9
classes.
3. The shorter the recovery period, the sooner you
get back the cost of the property.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
The nine property classes:
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3-year property
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5-year property
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7-year property
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10-year property
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15-year property
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20-year property

25-year property
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Residential rental property

Nonresidential real property
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
4. Residential rental property and nonresidential real
property have different recovery periods.
5. The recovery period for nonresidential real property
depends on the year it was placed in service.
6. Additions and improvements are treated as separate
property for depreciation purposes.
In 2003, William and Mary bought a house to be used
as rental property for $70,000 not including the land
value. They began depreciating the $70,000 in 2003
over the recovery period of 27.5 years. In 2008, they
completely replaced the roof at a cost of $7,000.
In 2008, they will begin depreciating the $7,000 cost
of the roof over 27.5 years.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
Conventions
Conventions determine the number of months you can
depreciate property in the year it is placed in service
and the year it is disposed of.
The half-year convention is generally used for personal
property.
1. Under the half-year convention, all property is
treated as having been placed in service or
disposed of at the midpoint of the year no matter
when in the year you begin or end the use of the
property.
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Convention
Property
Classes
Years
Property
Has
Been
in
Service
Depreciation
Percentage Rate
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
Louise is furnishing her new office. In February
2008, she purchased filing cabinets for $600, office
furniture for $2,000, and computer equipment for
$5,000. All her purchases are used 100% for her
business. This is all tangible personal property so she
can use MACRS.
First, she determines the class for each item. The
filing cabinets and the office furniture are 7-year
property. The computer equipment is 5-year
property.
Next she determines the convention. The property is
all tangible personal property and none of it was
bought in the last quarter of the year. She can use
the half-year convention.
She figures the depreciation deduction for each item
using percentage Table A-1.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
The basis for the filing cabinets is $600. She looks in
year 1 under 7-year property and finds the
percentage rate is 14.29%. Her depreciation
deduction for the cabinets is $86 [$600 basis (cost) x
14.29%].
The furniture is also 7-year property so the deduction
is $286 ($2,000 basis x 14.29%).
The computer equipment is 5-year property so Louise
uses the percentage under the 5-year column which
is 20%. The deduction for the computer equipment is
$1,000 ($5,000 basis x 20%).
Louise will enter these amounts on a depreciation
worksheet . She will then add the 7-year property
together and enter the 5-year property and the 7year property on Form 4562.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
The mid-quarter convention must be used if the
depreciable basis of personal property placed in
service in the last 3 months of the year exceeds 40%
of the total depreciable basis of all personal property
placed in service that year.
1. Under this convention, all property is treated as
having been placed in service or disposed of at
the midpoint of the quarter of the year in which
you begin or end the use of the property.
2. There is a separate MACRS percentage table for
each quarter.
3. If you are required to use the mid-quarter
convention, you must use it for all personal
property placed in service during the entire year.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS) – Problem 2
In 2008, Richard purchased and placed in service office
furniture and computer equipment for his business.
The total cost was $14,000. $7,000 worth of
equipment was purchased in November 2008 ($7,000
is 50% of $14,000). He does not claim the section
179 deduction. What convention will Richard use to
depreciate his office furniture and equipment?
a. Mid-month
b. Mid-quarter
c. Half year
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS) – Problem 2
In 2008, Richard purchased and placed in service office
furniture and computer equipment for his business. The
total cost was $14,000. $7,000 worth of equipment was
purchased in November 2008 ($7,000 is 50% of $14,000).
He does not claim the section 179 deduction. What
convention will Richard use to depreciate his office
furniture and equipment?
b. Mid-quarter
Because the cost of Richard's purchases in the last three
months of the tax year is more than 40% of the total cost
of the property, he must use the mid-quarter convention
for all the property placed in service in 2008.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
4. Property that is depreciated under the mid-quarter
convention in the first year it is placed in service
must be depreciated under the mid-quarter
convention for each later year.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
The mid-month convention is used for nonresidential
real property and residential rental property.
1. Under this convention, all property is treated as
having been placed in service or disposed of at
the midpoint of the month in which you begin or
end the use of the property.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
On June 1, 2008, Chuck Greene purchased
an office building for $500,000. The value of
the land included in the price was $75,000.
Land is never depreciable so his
depreciation basis is $425,000 ($500,000 $75,000).
Because this is nonresidential real property
purchased after 5/12/1993, the recovery
period is 39 years. Since the property is real
property, the mid-month convention is used.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
Chuck figures his depreciation deduction by
using Table A-7a. Chuck placed the property
in service in June so he looks under column
6 (June is the sixth month). The
depreciation percentage rate for June is
1.391%.
His depreciation deduction for 2008 is
$5,911.75 ($425,000 basis x 1.391%).
To figure his deduction for tax year 2009, he
will multiply the basis by the second year
percentage under column 6 ($425,000 x
2.564% = $10,897).
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
For any convention, when determining the
year of the recovery period to use count the
year the property was placed in service as
year 1.
Mighty Maids bought filing cabinets in May
2005. In 2008, the filing cabinets are in year
4 of the recovery period, not year 3. The
correct percentage in Table A-1 under 7year property is 12.49% not 17.49%.
57
MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
Special Depreciation Allowance
For property placed in service beginning January 1, 2008,
only certain types of property are eligible for an additional
50% (or 30% if applicable) special depreciation
allowance, primarily limited to:
• Qualified Liberty Zone property
• Qualified Gulf Opportunity Zone (GO Zone) property
• Qualified Recovery Assistance property ( property in
the Kansas disaster area)
• Qualified disaster assistance property (property in
federally declared disaster areas)
• Certain qualified property placed in service after
December 31, 2007, and before January 1, 2010.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
Special Depreciation Allowance
This allowance is an additional deduction taken after any
section 179 deduction and before figuring regular
depreciation under MACRS for the year the property is
placed in service.
The allowance applies only for the first year the property is
placed in service. You can elect, for any class of property,
not to deduct any special allowances for all property in
such class placed in service in the tax year. To make an
election, attach a statement to your return indicating what
election you are making and the class of property for which
you are making the election.
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
On November 24, 2008, Elisabeth Martin bought and
placed in service qualified 7-year property for
$100,000 for her business in the Gulf Opportunity
Zone. Elisabeth can deduct $50,000 ($100,000 x
50%) as a special depreciation allowance for 2008.
She will use the remaining $50,000 ($100,000 $50,000) of the cost to figure her regular year one
depreciation deduction and for each later year of the
recovery period. Her regular year one depreciation
deduction is $7,145 ($50,000 depreciation basis x
14.29%). Her total 2008 depreciation deduction is
$57,145 ($7,145 regular year one depreciation
deduction plus $50,000 special depreciation
allowance).
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MODIFIED ACCELERATED COST RECOVERY
SYSTEM (MACRS)
 The special depreciation allowance for property
placed in service after September 10, 2001 and
before January 1, 2005 and after December 31, 2007
and before January 1, 2010 applied to all areas of the
country and is not limited to the “Qualified” zones.
 For qualified property placed in service after
September 10, 2001 and before May 6, 2003, the 30%
additional depreciation automatically applied unless
you elected not to use it. After May 5, 2003 and
before January 1, 2005, the 50% additional
depreciation automatically applied unless you
elected out. If you did elect out, the 30% bonus
depreciation applied. Or you could have elected out
of both the 30% and 50% additional depreciation.
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DEPRECIATION WORKSHEET
Use a depreciation worksheet to assist you in
maintaining depreciation records. On the worksheet
you record the date placed-in-service, basis, recovery
period and other information needed to figure the
deduction for each item of property you are
depreciating. Use the worksheet to figure your
deductions each tax year and keep the worksheet
with your records for that year.
62
LISTED PROPERTY
A. Property the IRS considers likely to be used for
personal as well as business purposes is listed
property and it includes:
1. Any passenger automobile
2. Any other property used for transportation
(trucks, buses, boats)
3. Any property used for entertainment, recreation or
amusement (cameras, VCRs)
4. Computers and related equipment (unless used at
a regular business establishment owned or leased
by the person operating the establishment)
5. Any cellular telephone or similar
telecommunication equipment.
63
LISTED PROPERTY
Depreciating Listed Property
B. There are additional rules and record keeping
requirements for depreciating listed property.
C. Only the business-use part of the cost can be
depreciated.
D. To depreciate listed property using GDS, the
qualified business use of the property must be more
than 50% of its total use (Predominant Use Test).
1. A qualified business use is any use in your trade or
business
2. Qualified business use does not include use of
investment or rental property; use of a vehicle
for commuting; or employee use of listed
property unless the use is required as a condition
of employment.
64
LISTED PROPERTY – Problem 1
April is self-employed and sells cosmetics. She uses a
computer in a part of her home that does not qualify
as a home office, so the computer is listed property.
Her records show that in 2008 she used the
computer a total of 1,300 hours. She used it 900
hours for business and 400 hours for personal
purposes. How much of the cost of the computer can
April depreciate?
a. 100%
b. 32%
c. 69%
65
LISTED PROPERTY – Problem 1
April is self-employed and sells cosmetics. She uses a
computer in a part of her home that does not qualify
as a home office, so the computer is listed property.
Her records show that in 2008 she used the
computer a total of 1,300 hours. She used it 900
hours for business and 400 hours for personal
purposes. How much of the cost of the computer can
April depreciate?
c. 69%
Because her business use of the computer is more than 50%
of the total use (900 of 1,300 hours is 69%), she can
depreciate 69% of the cost of the computer using the
regular (GDS) MACRS rules.
66
LISTED PROPERTY
E. If the qualified business use of the property is 50%
or less of its total use:
1. Must depreciate using ADS
2. Cannot claim a section 179 deduction.
F. To take a depreciation deduction for listed property,
you must be able to prove business use with
supporting records or evidence.
67
LISTED PROPERTY
Sally Jones uses the computer in her home 50% of the
time to manage her investments. She also uses the
computer 40% of the time in her research business.
The computer is listed property because it is not
used at a regular business establishment or in a part
of her home used regularly and exclusively for
business.
Because she does not use the computer more than
50% for business, it does not meet the predominant
use test. Because it does not meet the predominant
use test, she cannot claim a section 179 deduction
and she must use ADS to depreciate the computer.
Her depreciation basis under ADS is 90% of the cost
of the computer (50% investment use on Form 4952
and 40% business use on her business return).
68
LISTED PROPERTY
Special Rules For Passenger Automobiles
G. There are special additional depreciation rules for
passenger automobiles.
1. Total depreciation allowed (including the section 179
deduction) is limited to the lower of amounts set by
tax law or yearly percentage of the cost basis
2. Each year of useful life, you must determine maximum
depreciation allowed under these limits by the date
the automobile is placed in service
3. Also figure the deduction using MACRS and use the
lower amount as your deduction
a. Must reduce the deduction further if business use is
less than 100%.
4. Refer to Table 12-4 for the maximum deduction, based
on the year the automobile was placed in service.
69
70
71
LISTED PROPERTY
On September 26, 2008, Charles Smyth bought and
placed in service a new car for $18,000. He used the
car 60% for business during 2008. He files his tax
return based on the calendar year.
Under GDS, his car is a 5-year property. He uses Table
A-1 to determine the depreciation rate. Using Part 1
of the Depreciation Worksheet for Passenger
Automobiles and Table 12-4, Donald determines his
maximum possible depreciation deduction for a
passenger automobile is $6,576 ($10,960 x 60%).
Donald's depreciation deduction is limited to $2,160
(the lesser of $6,576 MACRS depreciation or the
passenger auto limit of $2,160) as shown in the
worksheet on the following page. If Donald continues
to use his car for business, he will be subject to the
deduction limits in Table 12-4 each year.
72
LISTED PROPERTY
73
LISTED PROPERTY
74
LISTED PROPERTY
Trucks and Vans
5. The maximum depreciation deduction limit for
certain trucks and vans first placed in service in 2008
are higher than those for other passenger
automobiles. Refer to Table 12-5
75
LISTED PROPERTY
76
SECTION 179 DEDUCTION
A. Under section 179 of the Internal Revenue Code (IRC) you
can elect to deduct (expense) all or part of the cost of
certain qualifying property in the year you place it in
service instead of taking depreciation deductions
over a recovery period.
1. Elect the section 179 deduction on Form 4562
2. You can expense part of the cost (the elected cost)
and depreciate the rest of the cost over the
applicable recovery period
3. You can revoke an election to take a section 179
deduction without IRS approval. Make revocation
on an amended return. Applies to tax years
beginning in 2003.
4. You must keep records identifying each piece of
section 179 property.
77
SECTION 179 DEDUCTION
Deductible Costs
B. Generally, qualifying property must be tangible
personal property:
1. Acquired by purchase
2. Used in your trade or business
3. Used for business more than 50% of the total use
in the year you place it in service.
a. Use only the business use cost of the property
to figure the section 179 deduction.
78
SECTION 179 DEDUCTION – Problem 1
In 2008, Sam Smith bought and placed in service an
item of tangible property. He paid $11,000 for it and
used it 80% for business and 20% for personal
purposes. What is the business part of the cost of
the property that Sam can claim as a section 179
deduction?
a. $8,800
b. $11,000
c. $2,200
79
SECTION 179 DEDUCTION – Problem 1
In 2008, Sam Smith bought and placed in service an
item of tangible property. He paid $11,000 for it and
used it 80% for business and 20% for personal
purposes. What is the business part of the cost of
the property that Sam can claim as a section 179
deduction?
a. $8,800
The business part of the cost of the property is $8,800 (80%
x $11,000). John cannot claim more than $8,800 as his
section 179 deduction.
80
SECTION 179 DEDUCTION
Nondeductible Costs
C. Property for which a section 179 deduction generally
cannot be claimed includes: property held only for
the production of income and rental property;
property used predominately to furnish lodging, and
property acquired from relatives.
81
SECTION 179 DEDUCTION
Figuring The Deduction
D. Your section 179 deduction cannot be more than the
business cost of the qualifying property. There are three
additional limits on the amount of the deduction.
1. For tax year 2008, the total amount you can elect to
deduct under section 179 property cannot exceed
$250,000
2. The $250,000 maximum must be reduced one dollar for
each dollar the cost of the property is over $800,000
3. The total cost of the property you can deduct is limited
to the amount of your taxable income from the active
conduct of any trade or business, including wages,
salaries, and other employee compensation
4. Any cost that is not deductible because of the taxable
income limit can be carried over to the next tax year
82
SECTION 179 DEDUCTION – Problem 2
In 2008, Carter James placed in service machinery costing
$807,000. Because this cost is $7,000 more than the
investment limit of $800,000, he must reduce his maximum
dollar limit of $250,000 by $7,000. If his taxable income is
at least $243,000, he can claim a $243,000 section 179
deduction for 2008. He will depreciate the balance of the
basis over the applicable recovery period.
Assume that Carter’s net income from his business in 2008
was $240,000. His wife’s wages were $19,000 and they are
filing jointly. For what amount can they take a section 179
deduction?
a. $250,000
b. $243,000
c. $240,000
83
SECTION 179 DEDUCTION – Problem 2
In 2008, Carter James placed in service machinery costing
$807,000. Because this cost is $7,000 more than the
investment limit of $800,000, he must reduce his maximum
dollar limit of $250,000 by $7,000. If his taxable income is
at least $243,000, he can claim a $243,000 section 179
deduction for 2008. He will depreciate the balance of the
basis over the applicable recovery period.
Assume that Carter’s net income from his business in 2008
was $240,000. His wife’s wages were $19,000 and they are
filing jointly. For what amount can they take a section 179
deduction?
b. $243,000
Taxable income for section 179 purposes is $259,000. They
can take a section 179 deduction for the entire $243,000.
84
SECTION 179 DEDUCTION
In 2008, Ray bought and put into service office
furniture for his new business at a cost of $13,500.
He elected to expense the cost on his tax return.
$13,500 is less than the maximum dollar limit of
$250,000 and less than the investment limit of
$800,000.
However, Ray’s net income in 2008 from his business
was only $11,000. His section 179 deduction is
limited to $11,000. He can carry the $2,500 he could
not deduct to 2009 and take the $2,500 deduction
then, if it is within all three limits. He must deduct
the $2,500 before he takes any section 179
deduction for property acquired in 2009.
85
SECTION 179 LIMIT FOR SUVs
Sport utility vehicles (SUVs) and other
vehicles weighing over 6,000 pounds are
normally not subject to the luxury auto
limitations.
However, the maximum section 179 expense
for sport utility vehicles and certain other
vehicles placed in service after October 22,
2004, is $25,000.
86
DISPOSITION OF PROPERTY
A. The permanent withdrawal of property from use.
B. A withdrawal can be made by sale, exchange,
abandonment, or destruction.
C. Disposal before the end of the recovery period is
called early disposition.
D. For MACRS property, you are allowed a depreciation
deduction for the year of the disposition.
E. The deduction is a percentage of the MACRS
deduction for that year of service
1. The percentage is different depending on which
convention you are using.
87
DISPOSITION OF PROPERTY – Problem 1
In May 2006, Tot’s Toys bought desks for $3,000 for
100% business use. Desks are 7-year property. The
desks were sold in 2008. Using the half-year
convention, the 2008 regular depreciation deduction
for year 3 is $525 ($3,000 x 17.49%) for a full year
of business use. What is the actual deduction for the
property when it was disposed of in 2008?
a. $525
b. $263
c. $350
88
DISPOSITION OF PROPERTY- Problem 1
In May 2006, Tot’s Toys bought desks for $3,000 for
100% business use. Desks are 7-year property. The
desks were sold in 2008. Using the half-year
convention, the 2008 regular depreciation deduction
for year 3 is $525 ($3,000 x 17.49%) for a full year
of business use. What is the actual deduction for the
property when it was disposed of in 2008?
b. $263
Because the property was disposed of, the actual deduction is
$263 (½ of $525).
89
AMORTIZATION
A. Used for intangible property; business start up
costs; and certain other expenses.
B. Deduct an equal amount of the cost of property each
year over a period of time set by tax law (first and
last years will generally be less than a full year).
90
FORM 4562
A. You are not required to file Form 4562 to report
depreciation or amortization of non-listed property for the
years after the property was placed in service.
B. You must complete Form 4562 and attach it to your tax
return if you claim:
1. A section 179 deduction or carryover
2. A depreciation deduction on property placed in service in
the current year
3. A depreciation deduction on any vehicle or other listed
property regardless of the year placed in service
4. A deduction for any vehicle using the standard mileage
rate unless the deduction is reported on Schedule C or
C-EZ
5. A deduction for amortization of costs that begin in the
current year.
91
FORM 4562
C. Table 12-7 explains the purpose of each part of Form
4562.
D. Complete and file a separate Form 4562 for each
business or activity for which you are claiming a
depreciation deduction.
E. The amount on line 22 of Form 4562 is entered on
the form or schedule on which you are claiming the
deduction.
F. If you are an employee claiming actual expenses or
the standard mileage rate for the business use of
your vehicle, you must use Form 2106 instead of
Form 4562.
92
Table 12-7. Purpose of Form 4562
Part
Purpose
I
• Electing the section 179 deduction
• Figuring the maximum section 179 deduction for the current year
• Figuring any section 179 deduction carryover to the next year
II
• Reporting depreciation deduction on property being depreciated
under any method other than Modified Accelerated Cost Recovery
System (MACRS)
• Reporting special depreciation allowance deductions
III
• Reporting MACRS depreciation deductions for property placed in
service before this year
• Reporting MACRS depreciation deductions for property (other than
listed property) placed in service during the current year
IV
• Summarizing total depreciation listed in other parts
V
• Reporting depreciation on automobiles and other listed property
• Reporting information on the use of automobiles and other
transportation vehicles
VI
• Reporting amortization deductions
93
Depreciation
KEY IDEAS
♦ The depreciation deduction is a yearly deduction that allows
you to recover your cost of certain business or investment
property over the life of the property. The yearly deduction
is a percentage of the business/investment basis of the
property.
♦ You can only depreciate property you own that is used in
business or to produce income, is expected to last more
than one year, and has a limited useful life in that it wears
out, gets used up or becomes obsolete. Land can never be
depreciated.
♦ The Modified Accelerated Cost Recovery System (MACRS) is
the depreciation system used to depreciate most tangible
property placed in service after 1986. To depreciate
property under MACRS, you need to know its basis,
property class and recovery period, the placed-in-service
date, and which convention to use.
94
Depreciation
KEY IDEAS
♦ Under MACRS, you use rates taken from IRS percentage
tables to figure your depreciation deduction. The tables
incorporate the class lives of different types of property,
the depreciation method, and the appropriate convention.
♦ Listed property is property that is likely to be used for
personal purposes. This includes property used for
transportation and entertainment as well as certain
computers and cellular phones. You can use the GDS
declining balance MACRS tables or expense such property
only if the qualified business use of the property is more
than 50% of its total use.
♦ If the qualified business use of the property is 50% or less,
you must use the MACRS Alternative Depreciation System
(ADS) which uses the straight-line method of depreciation.
95
Depreciation
KEY IDEAS
♦ Instead of depreciating tangible personal property, you can choose
to deduct part or all of the business cost of certain qualifying
property in the year you place it in service for business. This is
called a section 179 deduction.
♦ Property used 50% or less for business or property you hold only
for the production of income such as investment property and
rental property (if renting property is not your trade or business)
does not qualify for this deduction.
♦ The depreciation (including the section 179 deduction) that can be
taken for passenger automobiles (and small trucks and vans) is
subject to a dollar limit.
♦ If you are depreciating property placed in service in the current
year, taking a section 179 deduction, depreciating a vehicle,
claiming a deduction using the standard mileage rate, or beginning
amortization of costs, you must complete Form 4562.
♦ The total depreciation reported on Form 4562 is transferred to the
schedule on which you are claiming depreciation such as Schedule
C, E or F. Amortization will be entered separately as other
deductions or other expenses.
96
Depreciation
CLASSWORK 1: True or False.
(1) Sharon bought business equipment costing $12,000 in
2007. She took delivery of and placed in service $5,000
worth of that equipment in November. She had to use the
mid-quarter convention to depreciate all the equipment
she purchased in 2007 and must use the mid-quarter
convention when she depreciates the equipment in 2008.
(2) Under the half-year convention, real property is treated as
having been placed in service or disposed of at the
midpoint of the year, no matter when in the year you
begin or end the use of the property.
(3) Depreciable property is property that is used in business
or held to produce income, is expected to last more than
one year, and has a limited useful life.
97
Depreciation
CLASSWORK 1: True or False.
(4) In 2008, Virginia Dare bought a computer and related equipment
for $4,000 which she used 100% to manage her investment
property. If her taxable income from trade or business is $4,000
or more, she can take a section 179 deduction for the computer.
(5) In 2008, Ricky used his cellular phone 48% for business. The rest
of the time the phone was used for personal purposes. Woody
cannot depreciate his phone.
(6) Amortization is the deduction of equal amounts of the cost of
certain property over time periods set by tax law.
(7) To take a section 179 deduction for, or to depreciate, listed
property you must be able to prove each element of your
expenditure or use with account books, logs or similar records.
98
Depreciation
CLASSWORK 1: True or False.
(8) In addition to the $5,000 she made as a part time receptionist in
2008, Rebecca earned income from selling crafts that she made.
She used a room in her home exclusively for her business. She
bought furniture and equipment costing $6,000 for her home
office. Her income from her craft business was $4,500. The
maximum section 179 deduction she can claim is $4,500.
(9) The MACRS conventions determine how many months you can
depreciate your property in the year it is placed in service and in
the year you dispose of the property.
(10) Under MACRS, the class to which property is assigned determines
the number of years over which it can be depreciated.
(11) Charles owns a building that he rents to a real estate company. In
2008, Charles paid for a new furnace which added to the value of
the property. Charles must depreciate the cost of the furnace.
99
Depreciation
CLASSWORK 1: True or False.
(12) A trademark is an example of intangible property.
(13) If you are only claiming a section 179 deduction, you do not
need to complete a Form 4562.
(14) In 2007, Mike bought a computer which he used for personal
purposes. In January 2008, he started his own business and
began to use the computer for business only. His business use
of the computer in 2008 was 100%. Mike can take a section
179 deduction for 2008.
(15) A computer used at a regular business establishment and owned
by the person operating the establishment is not listed
property.
100
Depreciation
CLASSWORK 1: True or False.
(1) Sharon bought business equipment costing $12,000 in
2007. She took delivery of and placed in service $5,000
worth of that equipment in November. She had to use the
mid-quarter convention to depreciate all the equipment
she purchased in 2007 and must use the mid-quarter
convention when she depreciates the equipment in 2008.
T
(2) Under the half-year convention, real property is treated as
having been placed in service or disposed of at the
midpoint of the year, no matter when in the year you
begin or end the use of the property. F
(3) Depreciable property is property that is used in business
or held to produce income, is expected to last more than
one year, and has a limited useful life. T
101
Depreciation
CLASSWORK 1: True or False.
(4) In 2008, Virginia Dare bought a computer and related equipment
for $4,000 which she used 100% to manage her investment
property. If her taxable income from trade or business is $4,000
or more, she can take a section 179 deduction for the computer.
F
(5) In 2008, Ricky used his cellular phone 48% for business. The rest
of the time the phone was used for personal purposes. Woody
cannot depreciate his phone. F
(6) Amortization is the deduction of equal amounts of the cost of
certain property over time periods set by tax law. T
(7) To take a section 179 deduction for, or to depreciate, listed
property you must be able to prove each element of your
expenditure or use with account books, logs or similar records. T
102
Depreciation
CLASSWORK 1: True or False.
(8) In addition to the $5,000 she made as a part time receptionist in
2008, Rebecca earned income from selling crafts that she made.
She used a room in her home exclusively for her business. She
bought furniture and equipment costing $6,000 for her home
office. Her income from her craft business was $4,500. The
maximum section 179 deduction she can claim is $4,500. F
(9) The MACRS conventions determine how many months you can
depreciate your property in the year it is placed in service and in
the year you dispose of the property. T
(10) Under MACRS, the class to which property is assigned determines
the number of years over which it can be depreciated. T
(11) Charles owns a building that he rents to a real estate company. In
2008, Charles paid for a new furnace which added to the value of
the property. Charles must depreciate the cost of the furnace. T
103
Depreciation
CLASSWORK 1: True or False.
(12) A trademark is an example of intangible property. T
(13) If you are only claiming a section 179 deduction, you do not
need to complete a Form 4562. F
(14) In 2007, Mike bought a computer which he used for personal
purposes. In January 2008, he started his own business and
began to use the computer for business only. His business use
of the computer in 2008 was 100%. Mike can take a section
179 deduction for 2008. F
(15) A computer used at a regular business establishment and owned
by the person operating the establishment is not listed
property. T
104
Depreciation
CLASSWORK 2: Multiple Choice.
1.
In 2006, Randy bought furniture for his office for $10,000. Of
the $10,000 total, $3,000 was for purchases made after October
2005. His depreciation deduction in 2007 is:
a.
b.
c.
d.
2.
$1,749
$1,429
different for the purchases made before and after October
$1,920
For which of the following property can you claim a section 179
deduction:
a.
b.
c.
d.
office equipment you bought from your brother
a car used 50% for business
furniture used in a rental property
none of the above
105
Depreciation
CLASSWORK 2: Multiple Choice
3.
Which property can you depreciate
a. an undeveloped piece of land used as a parking lot
b. an apartment building used as rental property
c. a small tool expected to last 6 months that you use in
your business
d. your personal residence
4.
Under MACRS, the mid-month convention is used for:
a.
b.
c.
d.
only nonresidential real property placed in service
after 5/12/1993
tangible personal property acquired during the last 3
months of the year
only residential rental property
nonresidential real property and residential rental
property
106
Depreciation
CLASSWORK 2: Multiple Choice.
5.
Cassie uses the car she purchased for $18,000 in March 2007 to
deliver goods to her customers. She depreciated the car using
the half-year convention and in 2007, she used the car 80% for
business. In 2008, she used the car 70% for business and 30%
for personal use. Her 2008 depreciation deduction for the car is:
a.
b.
c.
d.
6.
$3,920
$4,800
$4,900
$3,430
Under MACRS, you compute a deduction for depreciation by
multiplying the business basis of your property by a percentage
taken from the applicable table. To find the right percentage you
must know:
a.
b.
c.
d.
the year the property was placed in service
the class the property is assigned to
whether to use the half-year, mid-quarter, or mid-month
convention
all of the above
107
Depreciation
CLASSWORK 2: Multiple Choice.
7.
William and Mary have owned an apartment building since 2002.
They paid $120,000 for the building. In 2008, they put on a new
roof which cost $8,000. They must:
a.
b.
c.
d.
8.
add the $8,000 to the $120,000 cost and depreciate the total
subtract the $8,000 from their rental income as an expense
start depreciating the roof in 2007 as a separate property
item
depreciate the roof as a separate item placed in service in
2001
On May 20, 2008, Judy paid $18,750 for a new car which she
placed in service and uses 80% in her business. She does not
elect a section 179 deduction. What is her allowable
depreciation for 2008?
a.
b.
c.
d.
$2,368
$2,960
$3,000
$3,750
108
Depreciation
CLASSWORK 2: Multiple Choice.
1. In 2006, Randy bought furniture for his
office for $10,000. Of the $10,000 total,
$3,000 was for purchases made after
October 2006. His depreciation deduction
in 2008 is: a. $1,749
2. For which of the following property can
you claim a section 179 deduction: d.
none of the above
3. Which property can you depreciate: b. an
apartment building used as rental property
109
Depreciation
CLASSWORK 2: Multiple Choice.
4. Under MACRS, the mid-month convention is used for:
d. nonresidential real property and residential rental
property
5. Cassie uses the car she purchased for $18,000 in
March 2007 to deliver goods to her customers. She
depreciated the car using the half-year convention
and in 2007, she used the car 80% for business. In
2008, she used the car 70% for business and 30%
for personal use. Her 2008 depreciation deduction for
the car is: d. $3,430
6. Under MACRS, you compute a deduction for
depreciation by multiplying the business basis of
your property by a percentage taken from the
applicable table. To find the right percentage you
must know: d. all of the above
110
Depreciation
CLASSWORK 2: Multiple Choice.
7. William and Mary have owned an apartment building
since 2002. They paid $120,000 for the building. In
2008, they put on a new roof which cost $8,000.
They must: c. start depreciating the roof in 2008 as a
separate property item
8. On May 20, 2008, Judy paid $18,750 for a new car
which she placed in service and uses 80% in her
business. She does not elect a section 179 deduction.
What is her allowable depreciation for 2008? c.
$3,000
111
Depreciation
CLASSWORK 3: The following are items of business property
followed by the date each was placed in service. Each is
used 100% for business and none are subject to the midquarter convention. Determine the property class and
MACRS percentage rate for 2008 for each item:
1. taxi – 2007
2. computer – 2003
3. file cabinet – 2005
4. copier – 2006
5. race horse age 3 – 2008
6. factory building - August 2008
7. calculator – 2008
8. over-the-road tractor unit – 2007
9. office building - April 1993
10. office desk and chair – 2002
11. residential rental - February 1998
12. apartment building - December 2008
112
Depreciation
CLASSWORK 3: The following are items of business property followed
by the date each was placed in service. Each is used 100% for
business and none are subject to the mid-quarter convention.
Determine the property class and MACRS percentage rate for 2008
for each item:
1. taxi – 2007 5 years, 32%
2. computer – 2003 5 years, 5.76%
3. file cabinet – 2005 7 years, 12.49%
4. copier – 2006 5 years, 19.20%
5. race horse age 3 – 2008 3 years, 33.33%
6. factory building - August 2008 39 years, 0.963%
7. calculator – 2008 5 years, 20%
8. over-the-road tractor unit – 2007 3 years, 44.45%
9. office building - April 1993 31.5 years, 3.174%
10. office desk and chair – 2002 7 years, 8.93%
11. residential rental - February 1998 27.5 years, 3.636%
12. apartment building - December 2008 27.5 years, 0.152%
113
Questions & Answers
114