8
Depreciation 153
Chapter and Amortization
Highlights of 2010 Tax Changes
The dollar limit for purposes of the immediate expensing of Section 179 property increased to $500,000
in 2010 (from $250,000 for 2009). The phase-out of this amount begins when more than $2 million of
Section 179 property is placed in service during 2010 (up from $800,000 in 2009).
Bonus rst-year depreciation equal to 50% of the cost of the property is allowed on qualifying property
placed in service during 2010 (same as in 2009).
Depreciation deduction limits for most automobiles placed in service in 2010 are limited to $3,060/$11,060
in the rst year; $4,800 in the second year; $2,850 in the third year; and $1,775 in each subsequent year.
These amounts are based on 100% business use.
The indexed inclusion amounts for leased vehicles valued between $35,000 and $40,000 are included in
the chapter.
Teaching Suggestions
1. Computing rst-year depreciation for personal property placed in service during 2010 may involve several
separate calculations. Students need to be aware of the rules for each calculation and, more importantly, the
order in which these calculations need to be made.
First, if Section 179 property is placed in service during the year, the taxpayer must rst determine the
maximum Section 179 that is available. The statutory dollar limit ($500,000 in 2010), placed in service limit
($2 million), and taxable income limit all come into consideration in making the decision. Once the taxpayer
determines the maximum Section 179 that is available, the decision must be made on how much to elect
to expense in the rst year. The maximum amount of Section 179 expense that can be elected is based on
the dollar and placed-in-service limits. The maximum amount that can be deducted is based on the taxable
income limitation.
Second, the remainder of the taxpayers basis in the property (after subtracting out the amount elected) may be
eligible for the 50% bonus depreciation. Third, after subtracting out bonus depreciation taken, the rest of the
basis is depreciated over the appropriate recovery period under MACRS/ADS (whichever the taxpayer elects
to use). The sum of the deductible Section 179 expense and the amount of rst-year bonus depreciation plus
MACRS/ADS comprise the taxpayers total rst-year depreciation for property placed in service in 2010.
2. Students who have used the double declining balance (DDB) method in a nancial accounting course may
have difculty with multiplying the cost of the property by the percentages provided in the tax depreciation
tables. Students will want to use the adjusted basis of the property (cost minus accumulated depreciation).
Showing students how the percentages in the table were derived may help them understand (1) that the halfyear/midquarter convention has been incorporated into the percentages for the rst year (but not for the year
of sale) and (2) that the propertys adjusted basis actually is used in computing the annual cost recovery
percentages.
For example, students could be presented with 5-year property costing $1,000. Assuming the half-year
convention applies, the rst year of cost recovery would be $200 ($1,000 1/5 200% 1/2 year). Therefore,
the rst year recovery percentage would be 20% ($200/$1,000), the percentage from the table for Year 1.
Using the DDB method, cost recovery for the second year would begin with the adjusted basis of the property,
or $800 ($1,000 $200). Cost recovery for the second year would be $320 ($800 1/5 200%). This amount
equals 32% of the propertys cost ($320/$1,000), which is the percentage shown in the table for Year 2. The
2010 CCH. All Rights Reserved.
Chapter 8
154
Essentials of Federal Income Taxation
cost recovery for the third year would begin with the adjusted basis of $480 ($1,000 $200 $320). The cost
recovery amount for Year 3 would be $192 ($480 1/5 200%), which is 19.2% of the cost of the property
(and the percentage shown in the table for Year 3).
At the end of Year 3, the property has an adjusted basis of $288 ($1,000 $200 $320 $192) and has
been depreciated for 2.5 years. This means that 2.5 years of cost recovery remain. Using the DDB method,
Year 4 cost recovery would be $115.20 ($288 1/5 200%), which is the same cost recovery amount had
the straight-line method been used ($288/2.5 years). This deduction is 11.52% of the cost of the property
($115.20/$1,000), the percentage in the table for Year 4. Because the DDB and straight-line methods both
produce the same deduction, this indicates that beginning in Year 5, the switch to straight-line will produce a
greater deduction.
In addition to convincing students that the depreciation tables incorporate the averaging convention into the
rst year, it also shows that for each subsequent year the percentages in the table reect a full year of cost
recovery. Therefore, it is up to the student to use the appropriate averaging convention (half-year or midquarter) to reduce the percentage in the year the property is sold.
Solutions to Questions and Problems
1. 802, 803.
Useful Life
in Years
Type of Asset
Automobiles
Depreciation
Method
Averaging
Convention
5
200% DB
HY or MQ
Light trucks
5
200% DB
HY or MQ
Computers
5
200% DB
HY or MQ
Furniture & xtures
7
200% DB
HY or MQ
Machinery & equipment
7
200% DB
HY or MQ
31.5
Straight-line
MM
39
Straight-line
MM
27.5
Straight-line
MM
Commercial buildings (before 5/13/93)
Commercial buildings (on or after 5/13/93)
Residential buildings
2. a. Mid-quarter convention with all amounts rounded to the nearest dollar. Since more than 40% of the cost
of the machines were placed in service in the last quarter ($70,000/$130,000 = 54%), the taxpayer must use
the mid-quarter convention for all personalty property acquired in 2010. 802.03.
February 1 machine
($25,000 25.00%) =
$ 6,250
April 1 machine
($35,000 17.85%) =
6,248
October 1 machine
($30,000 3.57%) =
1,071
December 1 machine
($40,000 3.57%) =
1,428
Total MACRS
$14,997
b. Half-year convention: $130,000 14.29% = $18,577. 802.03.
The cost recovery using the mid-quarter convention is $3,580 ($18,577 $14,997) less than the cost recovery
using the half-year convention. The requirement to use the mid-quarter convention when more than 40%
of the tangible personal property is purchased in the last quarter of the year eliminates the tax advantage of
postponing purchases until late in the year.
3. a. During 2010, Cargill will reduce her basis in the machine, equipment, and furniture by the 50% bonus
depreciation she takes on these properties. After doing this, $24,000 of the $144,000 total personal property
placed in service during the year is placed in service in the fourth quarter. Since this percentage (16.67%) does
Chapter 8
2010 CCH. All Rights Reserved.
155
Textbook Solutions
not exceed 40%, the half-year convention applies to all personal property placed in service during 2010. The
mid-month convention applies to the building. 802.01.
b. 802.03, 803.01.
Property
2010 MACRS Deduction
2011 MACRS Deduction
Machine
$65,000 14.29% = $9,289
$65,000 24.49% = $15,919
Equipment
$55,000 14.29% = $7,860
$55,000 24.49% = $13,470
$200,000/39 2.5/12 = $1,068
$200,000/39 = $5,128
$24,000 14.29% = $3,430
$24,000 24.49% = $5,878
Ofce building
Furniture
4.
5.
6.
7.
8.
Cargills total depreciation expense for 2010 equals $165,647 ($144,000 bonus depreciation + $21,647
MACRS). Total depreciation for 2011 is $40,395.
Computer: $4,200 11.52% 1/2 year = $242 (half-year table; 5-yr property, year 4)
Automobile: $12,000 19.2% 1/2 year = $1,152 (half-year table; 5-yr property, year 3)
Furniture: $24,000 8.85% 7.5/12 = $1,328 (3rd quarter table; 7-yr property, year 6)
Under the half-year convention, property is depreciated for 1/2 year in the year of disposition. The computer
and the automobile were depreciated for 1/2 year. Under the mid-quarter convention, property is depreciated
until the middle of the quarter in which it is sold. The furniture was depreciated until August 15. 802.03.
Machine: $44,000 8.87% 10.5/12 = $3,415 (2nd quarter table; 7-yr property, year 5)
Furniture: $12,000 24.49% 1/2 = $1,469 (half-year table; 7-yr property, year 2)
Computer: $24,000 15.60% 7.5/12 = $2,340 (1st quarter table; 5-yr property, year 3)
Under the mid-quarter convention, property is depreciated until the middle of the quarter in which is it sold.
Thus, the machine is depreciated until November 15 (10 months) and the computer until August 15 (7
months). 802.03.
802.03.
a. Equipment: $72,000 / 10 year life under ADS = $7,200
Furniture: $42,000 12.49% = $5,246 (HY table, 7-yr property, year 4)
Computer: $5,000 MACRS basis 19.2% = $960 (HY table, 5-yr property, year 3)
b. 2010 Depreciation on the furniture: $42,000 10.93% = $4,591 (1st quarter table, 7-yr property, year 4)
c. Equipment: ($72,000 50%) + ($36,000 14.29%) = $41,144
Furniture: ($42,000 50%) + ($21,000 14.29%) = $24,001
Computer: ($10,000 50%) + ($5,000 20%) = $6,000
802.03.
a. Computer: $16,000 MACRS basis 32% = $5,120 (HY table, 5-yr property, year 2)
Machine: $60,000 MACRS basis 19.68% = $11,808 (4th quarter table, 7-yr property, year 3)
Furniture: $21,000 MACRS basis 8.75% = $1,838 (1st quarter table, 7-yr property, year 7)
b. Computer: ($32,000 50%) + ($16,000 15%) = $18,400 (3rd quarter table, 5-yr property, year 1)
Machine: ($120,000 50%) + ($60,000 3.57%) = $62,142 (4th quarter table, 7-yr property, year 1)
Furniture: ($42,000 50%) + ($21,000 25%) = $26,250 (1st quarter table, 7-yr property, year 1)
Because more than 40% of the total personal property was placed in service in the fourth quarter, the midquarter convention applies to all three properties.
a. $200,000 ($500,000 maximum Section 179 $300,000 excess Section 179 property over $2,000,000).
The $200,000 maximum Sands can elect $167,000 taxable income from the business = $33,000 carryover
to 2011. 802.05.
2010 CCH. All Rights Reserved.
Chapter 8
156
Essentials of Federal Income Taxation
b. $1,367,045 [$167,000 Section 179 + $1,050,000 bonus depreciation (($2,300,000 $200,000 for elected
Section 179) 50%) + $150,045 MACRS ($1,050,000 14.29% half-year percentage)]. The $33,000
carryover of Section 179 expense is not deducted in 2010. 802.05.
9. 802.03, 802.05.
a.
Section 179 expense on the 5-year property
$500,000
5-year property ($12,000 50%) + ($6,000 20%)
7,200
7-year property ($512,000 50%) +($256,000 14.29%)
292,582
Total depreciation expense
$799,782
5-year property ($512,000 50%) + ($256,000 20%)
$307,200
b.
Section 179 expense on the 7-year property
500,000
7-year property ($12,000 50%) + ($6,000 14.29%)
6,857
$814,057
Total depreciation expense
c. Total depreciation expense is greater when Roddick elects to expense the 7-year property. This happens
because the MACRS rst year percentage is lower on 7-year property (14.29%) vs. 5-year property (20%).
Thus, by keeping the MACRS basis in the 5-year property at $512,000, greater total depreciation results.
10. 802.03, (1st 802.05.
a.
Automobile year maximum allowed)
$ 11,060
Copier ($28,400 50%) + ($14,200 20%)
17,040
Furniture ($84,000 50%) + ($42,000 14.29%)
48,002
Equipment ($540,000 50%) + ($270,000 14.29%)
Warehouse ($110,250 1/39 5.5/12 months)
308,583
1,296
$385,981
b.
2010
First year expense deduction
Bonus depreciation, Year 1 ($40,000 50%)
MACRS, Year 1 ($20,000 14.29%)
Total depreciation
$500,000
20,000
2,858
$522,858
2011
Second year MACRS depreciation ($20,000 24.49%)
$ 4,898
c. The maximum $500,000 of Section 179 expense would involve expensing $28,400 for the copier and
$84,000 for the furniture. This leaves $387,600 to be expensed for the equipment.
Chapter 8
2010 CCH. All Rights Reserved.
157
Textbook Solutions
2010
First year expense deduction
$387,600
Bonus depreciation, Year 1 ($152,400 50%)
76,200
MACRS, Year 1 ($76,200 14.29%)
10,889
$474,689
Total depreciation
2011
Second year MACRS depreciation ($76,200 24.49%)
$18,661
11. a. $1,260. Terrells business/investment basis is $2,100 ($2,800 75%). He deducts $1,050 as bonus depreciation
and is entitled to take MACRS on the remaining business/investment basis because his business use alone
exceeds 50%. MACRS using the half-year convention equals $210 ($1,050 20%). Total depreciation is
$1,260. 802.07.
b. $1,932. Terrell can elect to expense the business-use basis for the computer ($2,800 60% = $1,680) under
Section 179 since business use exceeds 50%. The investment-use basis ($2,800 15% = $420) cannot be
expensed under Section 179. However, bonus depreciation ($420 50% = $210) and MACRS ($210 20%
= $42) can be taken on the investment-use basis. Regular (accelerated) MACRS is allowed (as opposed to the
straight-line method) because business use exceeds 50%. 802.07.
c. Depreciation expense on the business portion of the computer is deducted on Schedule C. Depreciation
on the investment portion is a miscellaneous itemized deduction (subject to the 2% AGI rule) on Schedule A.
802.07.
12. $1,015. Since business use does not exceed 50%, the automobile is not eligible for Section 179 expensing or
bonus depreciation. Also, Simon must use ADS (straight-line method over 5 years) to depreciate the combined
business/investment use. The half-year convention applies in this situation. Total depreciation for 2010 equals
$1,015 ($14,500 70% = $10,150 1/5 1/2), since this amount is less than the $2,142 ($3,060 70%)
luxury automobile limit. 802.09.
13.
Year
Potential Deduction
Luxury Auto Limitations
2007
$4,800
($30,000 20% 80%)
7,680
($30,000 32% 80%)
4,608
($30,000 19.2% 80%)
2,765
($30,000 11.52% 80%)
$2,448
($3,060 80%)
3,920
($4,900 80%)
2,280
($2,850 80%)
1,420
($1,775 80%)
2008
2009
2010
As these gures show, the luxury automobile depreciation limitation allows less cost recovery assuming
80% business use each year. Without the limitations, Milone would depreciate $24,000 in the rst six years.
802.09.
14. $9,954. This is the lesser of (i) $13,500 [($25,000 90% 50% = $11,250 bonus depreciation) + ($11,250
20% = $2,250 MACRS)] or (ii) $9,954 ($11,060 90%). 802.09.
15. The business portion of Stukels lease payments is $3,525 ($470 10 75%) in 2010 and $4,230 ($470 12
75%) in 2011. Her inclusion amount is $26 ($42 75% 306/365) in 2010 and $69 ($92 75%) in 2011.
The inclusion amounts reduce Stukels lease vehicle deduction on Schedule C, line 20a. Thus, her deduction
in 2010 is $3,499 ($3,525 $26), and $4,161 ($4,230 $69) in 2011. 802.09.
2010 CCH. All Rights Reserved.
Chapter 8
158
Essentials of Federal Income Taxation
16. 802.09.
Year
Business Lease Expense
Inclusion Amount
Lease Deduction
2010
$800 85% 3 = $2,040
$48 85% 92/365 = $10
$2,040 $10 = $2,030
2011
$800 85% 12 = $8,160
$105 85% = $89
$8,160 $89 = $8,071
2012
$800 85% 9 = $6,120
$155 85% 273/365 = $99
$6,120 $99 = $6,021
17. The mid-quarter convention applies to the personal property since more than 40% of the personal property
was placed in service in the last quarter ($42,000/$80,000 = 53%). The mid-month convention applies to the
ofce building. 802.03, 803.01.
MACRS for 2010
Computer, 1st quarter acquisition ($6,000 50%) + ($3,000 35%)
$ 4,050
Machine, 3rd quarter acquisition ($70,000 50%) + ($35,000 10.71%)
38,749
Ofce building, nonresidential realty ($270,000/39 3.5/12)
2,019
Equipment, 4th quarter acquisition ($84,000 50%) + ($42,000 3.57%)
43,499
MACRS for 2011
Computer ($3,000 26%)
$
780
Machinery ($35,000 25.51%)
8,929
Ofce building ($270,000/39)
6,923
Equipment ($42,000 27.55%)
11,571
18. a. The half-year convention applies to the personal property. The automobile is 5-year property and is subject
to the luxury automobile limits. The machine and desk are 7-year property. The garage is nonresidential
realty. 802.03, 803.01.
Item
Automobile
Garage
Machine
Ofce desk
1
MACRS
Basis
$18,000
MACRS
Period
5 yrs.
MACRS
Rate
20%
MACRS
Deduction
$10,8001
39,000
39 yrs.
SL
7922
1,246
7 yrs.
14.29%
1783
910
7 yrs.
14.29%
1304
lesser of $10,800 [($18,000 50%) + ($9,000 20%)], or $11,060 luxury automobile limit.
2
$39,000/39 years 9.5/12 = $792 (rounded)
3
($1,246 14.29%)
4
($910 14.29%)
b. See lled-in Form 4562 for H.B. Fields Company. Basis for depreciation of 7-year property (line 19c (c))
is $2,156 ($1,246 + $910). Depreciation deduction for 7-year property (line 19c(g)) is $308 ($178 + $130).
804.
Chapter 8
2010 CCH. All Rights Reserved.
Textbook Solutions
159
Filled-in Form 4562, page 1 for H.B. Fields Company.
2010 CCH. All Rights Reserved.
Chapter 8
160
Essentials of Federal Income Taxation
Filled-in Form 4562, page 2 for H.B. Fields Company.
Chapter 8
2010 CCH. All Rights Reserved.
Textbook Solutions
161
19. The ofce building is nonresidential realty. The apartment building is residential realty. The mid-month
convention applies in both cases. 803.01.
Ofce building: ($320,000/39 years) 11.5/12 months = $7,863
Apartment building: ($400,000/27.5 years) 11.5/12 months = $13,939
20. The ofce building is nonresidential realty placed in service before May 13, 1993, so it is depreciated over
31.5 years. Under the mid-month convention the taxpayer can depreciate the ofce building in 2010 through
August 15. Depreciation expense for 2010 is $4,960 ($250,000/31.5 7.5/12). 803.01.
21. 803.01, 803.02.
a. Warehouse: $650,000/39 11.5/12 = $15,972
Apartment building: $990,000/40 1.5/12 = $3,094
b. Warehouse: $650,000/40 11.5/12 = $15,573
Apartment building: $990,000/27.5 1.5/12 = $4,500
c. Warehouse: $650,000/39 11.5/12 = $15,972
Apartment building: $990,000/27.5 1.5/12 = $4,500
d. Warehouse: $650,000/40 11.5/12 = $15,573
Apartment building: $990,000/40 1.5/12 = $3,094
22. 803.02.
Year
Depreciation Expense
2003
$450,000/40 8.5/12 = $7,969
20042009
$450,000/40 = $11,250
2010
$450,000/40 .5/12 = $469
23. Even though taxpayers live in other parts of the home, the home ofce itself is used exclusively to conduct
business, and as such, it is commercial (nonresidential) realty. Accordingly, the home ofce portion of
the house must be depreciated using the straight-line method over 39 years under MACRS. Alternatively,
taxpayers can elect to depreciate the home ofce using the straight-line method over 40 years under ADS. The
mid-month convention applies to realty, regardless of whether MACRS or ADS is used. 803.03.
24. 805.
a. Yes. Section 197 intangibles are amortized over 15 years using the straight-line method.
b. Yes. Straight-line method over the shorter of 15 years or the remaining useful life.
c. No.
d. Yes. Straight-line method over 15 years since it was acquired in the purchase of a business.
e. No.
25. a. From Appendix A-5 in Publication 463, the inclusion amount in the third tax year of a lease involving
an automobile costing between $40,000 and $41,000 is $413. Woodbys inclusion amount is $268 ($413
65%) in 2010. See page 47 of IRS Publication 463 (reproduced on the next page of this Instructors Guide).
802.09.
2010 CCH. All Rights Reserved.
Chapter 8
162
Essentials of Federal Income Taxation
Page 47 of IRS Publication 463.
Chapter 8
2010 CCH. All Rights Reserved.
Textbook Solutions
163
b. Woodby uses the car 65% for business, so she can deduct 65% of her lease payments ($590 12 65%
= $4,602). 802.09.
c. Woodby reports the net amount ($4,602 $268 = $4,334) as a vehicle lease deduction on Schedule C, line
20a. 802.09.
26. a. The company can claim $20,000 ($550,000/27.5 years) under MACRS. 803.01.
b. For purposes of computing earnings and prots, the law requires the use of ADS over a period of 40 years.
Thus, earnings and prots are reduced by only $13,750 ($550,000/40 years). 803.02.
27. See Forms 1040 and accompanying forms and schedules for the Beckmans.
On Form 1040, the Beckmans deduct $3,000 ($1,500 2) for their contributions to their respective IRAs,
since their modied AGI does not exceed the AGI threshold for MFJ.
Patrick cannot deduct expenses related to the ofce in their home because the room is not used exclusively
for his business.
Schedule C, line 9: $1,042 (2,084 $.50).
Form 4562, line 17: The equipment purchased in 2008 is subject to the mid-quarter convention since it was
Patricks only acquisition that year and 100% of that years personal property was purchased in the fourth
quarter. Patrick uses the column for year 3 under the fourth quarter for 7-year property in Figure 8-3 to
compute his depreciation on the equipment ($12,000 MACRS basis 19.68% = $2,362).
Form 4562, line 26: The computer and printer fall under the half-year convention since they were the only
acquisitions in 2009 and 0% of all acquisitions were purchased in the fourth quarter. The computer and printer
are listed property. Since Patrick uses the computer and printer more than 50% of the time for business, he
uses accelerated MACRS to compute his depreciation on Form 4562. In 2009, Patrick deducted 50% of
the costs of the computer and printer as bonus depreciation, leaving an MACRS basis of $800 and $200,
respectively. His MACRS deduction on the computer is $154 ($800 60% 32%); his MACRS deduction
on the printer is $38 ($200 60% 32%).
2010 CCH. All Rights Reserved.
Chapter 8
164
Essentials of Federal Income Taxation
Filled-in Form 1040, page 1 for the Beckmans.
Chapter 8
2010 CCH. All Rights Reserved.
Textbook Solutions
165
Filled-in Form 1040, page 2 for the Beckmans.
2010 CCH. All Rights Reserved.
Chapter 8
166
Essentials of Federal Income Taxation
Filled-in Schedule C for the Beckmans.
Chapter 8
2010 CCH. All Rights Reserved.
Textbook Solutions
167
Filled-in Schedule M for the Beckmans.
2010 CCH. All Rights Reserved.
Chapter 8
168
Essentials of Federal Income Taxation
Filled-in Schedule SE for the Beckmans.
Chapter 8
2010 CCH. All Rights Reserved.
Textbook Solutions
169
Filled-in Form 4562, page 1 for the Beckmans.
2010 CCH. All Rights Reserved.
Chapter 8
170
Essentials of Federal Income Taxation
Filled-in Form 4562, page 2 for the Beckmans.
Chapter 8
2010 CCH. All Rights Reserved.