The IRS has issued new depreciation regulations that generally apply to tax years beginning on or after January 1, 2014. But, for 2012 and 2013, it also provided taxpayers with the ability to elect certain regulations. The best choice for each taxpayer depends on the taxpayer's unique situation. Consult your advisor to determine which approach would be best for you and your business.
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When Does Depreciation Begin?Your depreciation or Section 179 expense deductions for a piece of property begin in the tax year in which you "place it in service." That means that just buying a depreciable property is not enough. In order to claim a depreciation deduction for the property in a given year, you must put it to productive use in the business before the end of the tax year. If you are using the Section 179 expense deduction, the timing doesn't matter much; as long as you begin using the property before the end of the year, you get the entire deduction. But if you have property that's not eligible for Section 179 expensing (for example, your home office or other business real estate that exceeds the annual limits), the date on which you place the property in service, and the total amount of property placed in service during the year, are the two factors that determine how much of a full year's deduction you will get for the first year. If you sell or dispose of the property within the year you got it, you can't claim a depreciation deduction at all.
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Mid-month convention. This applies to nonresidential real estate, a classification that includes home offices and residential rental property. This type of property is treated as being placed in service in the middle of the month in which you actually placed it in service. You will get a deduction for half of that month, plus the rest of the months for the remainder of the year. This principle (known as the mid-month convention) is factored into the depreciation tables used for most depreciable property. Half-year convention. For most depreciable property other than real estate, no matter what month of the year you begin using the property, you treat it as if you began using it in the middle of the year. So, you will generally get one-half of the first year's depreciation, regardless of when you placed the property in service. You will also get a half-year's depreciation deduction in the year you dispose of the asset. Again, this principle (known as the half-year convention) is factored into the depreciation tables used for most depreciable property. Mid-quarter convention. However, there's an important exception to the half-year convention described above. If Uncle Sam were going to give you a half year's tax break for a purchase made any time in the year, what would keep you from routinely purchasing all your business assets and placing them in use in the final days of December? Presumably, that would allow you to get a deduction for a half-year's worth of depreciation, while avoiding any actual cash outlay until late in the year. Good deal? You bet! Unfortunately, the IRS is well aware of this strategy, and has imposed some special rules to prevent you from using it. These rules, called the mid-quarter convention rules, apply if you place more than 40 percent of your total new property for the year into service in the last quarter. Note that real estate is never included in computing whether more than 40 percent of assets were placed in service in a given year. Nor, does the mid-quarter convention ever apply to real estate. You also don't have to include the value of assets that are depreciated using a method other than MACRS (Modified Accelerated Cost Recovery System). If the mid-quarter convention applies to you, you will have to use these rules for all assets placed in service during the year. Under the mid-quarter rules, assets are considered to be placed in service at the midpoint of the quarter in which they were actually placed in service. So, for the first year, depending on which quarter in which you placed the asset in service, you would get the following portions of a full year's depreciation:
Don't worry about having to use these percentages; they are factored into the depreciation charts the IRS provides for mid-quarter property. If you want to avoid the mid-quarter rules, you can't be too aggressive about placing property in service late in the year. However, there may be times when using the mid-quarter convention can work to your advantage. If you place a large, expensive asset in service in the first quarter, you may be able to claim more depreciation by placing slightly more than 40 percent of new assets in service in the last quarter.
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