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What is MACRS depreciation?

MACRS depreciation is the depreciation system used for taxes in the United States. Given the importance of depreciation for reducing your tax bill, it’s imperative to have a robust understanding of the MACRS depreciation method. Read on for a little more information on how to complete a MACRS depreciation calculation.

MACRS depreciation explained

MACRS – which stands for Modified Accelerated Cost Recovery System – is the tax depreciation system used in the U.S. In other words, MACRS depreciation is the system used to calculate your business’s tax deductions based on the depreciation of your tangible (depreciable) assets. The MACRS depreciation method allows for larger deductions in the early years of an asset’s life, and lower deductions in later years. This contrasts significantly with straight-line depreciation, wherein you claim the same tax deduction each year, until the end of the asset’s usable life.

How to do a MACRS depreciation calculation

Using MACRS depreciation is relatively simple, so we’ve put together a step-by-step guide to help you get started with your MACRS depreciation calculation:

  1. Firstly, you need to determine the basis of the calculation, i.e., the original value of the asset. This includes the purchase price, the sales tax, shipping costs, installation costs, and any other costs associated with the purchase.

  2. Next, you need to determine your property’s class. The IRS classifies depreciable assets into different types based on the term of their useful life. The IRS provides a full explanation of property classes in IRS Pub 946, but here’s a simplified guide that you can use as well:

    Class

    Typical assets

    Depreciation method

    3-year

    Tractors, racehorses (over 2 years old), qualified rent-to-own properties, etc.

    200% declining balance

    5-year

    Automobiles, office machinery, computers, etc.

    200% declining balance

    7-year

    Office furniture, agricultural machinery, railroad tracks, etc.

    200% declining balance

    10-year

    Water transportation equipment, single-purpose agricultural structure, tree or vine-bearing fruits, etc.

    200% declining balance

    15-year

    Land improvements, municipal wastewater treatment plants, electric transmission properties, etc.

    150% declining balance

    20-year

    Farm buildings, municipal sewers, etc. 

    150% declining balance

    27.5-year

    Residential properties, etc.

    Straight-line depreciation

    31.5-year

    Office and non-residential properties, etc.

    Straight-line depreciation

  3. Once you’ve determined the class, you need to work out your MACRS depreciation method, i.e., 200% declining balance, 150% declining balance, etc. You can find the appropriate depreciation method for your asset in the MACRS depreciation table above.

  4. Now, you’ll need to select the MACRS depreciation convention. This is essentially just whenever you began using the asset, i.e., mid-month, mid-quarter, or half-year.

Now that you’ve got all the necessary information, you can work out the percentage of the asset’s value that you’ll be able to itemize as a deduction. To do that, you can use the following MACRS depreciation formulas:

1st Year Depreciation = Cost x (1 / Useful Life) x Depreciation Method x Depreciation Convention

and

Subsequent Years Depreciation = (Cost – Depreciation in Previous Years) x (1 / Recovery Period) x Depreciation Method

MACRS depreciation method example

To see how MACRS depreciation works in practice, let’s take a look at an example. Imagine that Company A purchased some agricultural machinery for $150,000 in 2020. Assuming the half-year convention, we can begin our calculations using the MACRS depreciation table. Agricultural equipment is a 7-year property, and again, looking at the MACRS depreciation table, we know to use the 200% declining balance depreciation method. Using all this information, we can complete our MACRS depreciation calculation for the first year (2020):

$150,000 x (1 / 7) x 200% x 0.5 = $21,428.57

Then, we can complete the calculation for every subsequent year, i.e., here’s the formula for 2021:

$150,000 - $21,428.57 x (1 / 7) x 200% = $36,734.69

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