The MACRS, or the modified accelerated cost recovery system, is the method of depreciation prescribed by the US Internal Revenue Service (IRS) for assets used for business purposes. This type of depreciation is used when filing taxes, and it differs from the methods accountants use to generate balance sheets. For businesses that purchase assets, familiarity with MACRS is essential for filing taxes properly.
Depreciation is a common practice in accounting. It breaks down the cost of an asset over several periods, so the full purchase price is accounted for over time rather than in the period in which it was actually paid. The reasoning behind this process is that the business’s profits for each period are gained through the use of capital that was purchased in earlier periods; depreciating the cost matches up costs with the profits that come from them.
The United States government defines depreciation methods for tax purposes, since taxable income also depends on an accurate representation of income and expenditures. The Economic Recovery Tax Act of 1981 created the accelerated cost recovery system of depreciation, which was modified in 1986 to become MACRS. These two depreciation methods departed from the traditional concept of depreciation because they required taxpayers to depreciate the entire purchase price of each item rather than its use value, or the purchase price minus the price at which the owner expects to sell it.
To depreciate property with MACRS, a taxpayer needs to have started using the item, which is called placing it into service, after 1986. The property must be used for business purposes. If it is used partially for business and partially for personal use, the percentage of its use that is for business is the percentage of the cost that may be depreciated. Any property that is depreciated must be used to generate profit — inventory, or items that are purchased to be resold, are not eligible for depreciation.
The IRS outlines the calculation method for MACRS in Publication 946. First, the taxpayer must determine the depreciable basis, which is the purchase price minus any required deductions. The next step is to find the category in which the item falls, which tells the taxpayer over how many years he must depreciate the purchase. Each category has two tables that show the percentage of the cost that should be depreciated each year. One table is for the general depreciation system, which is used for most items, and the other is for the alternative depreciation system, which is used for properties with certain qualities, including property used for business less than half the time.