Modified Accelerated Cost Recovery System (MACRS)

Overview

The Modified Accelerated Cost Recovery System (MACRS) is the U.S. federal tax system for depreciating tangible property. It lets businesses recover the cost of qualifying assets over fixed recovery periods through annual depreciation deductions. MACRS is generally required for property placed in service after 1986 and is designed to accelerate deductions—larger write-offs in early years, smaller ones later.

Key points

• MACRS is used for tax depreciation, not for financial reporting (GAAP typically uses straight-line).
• Depreciation under MACRS reduces taxable income by recognizing wear, deterioration, or obsolescence.
• The IRS publishes recovery periods (useful lives) and asset classes that determine depreciation schedules.
• Two MACRS systems exist: General Depreciation System (GDS) and Alternative Depreciation System (ADS).
• Some property types and situations are excluded from MACRS.

How MACRS works

• Determine the asset’s class and applicable recovery period from IRS guidance.
• Compute the depreciable basis: the asset’s cost basis multiplied by the percentage of business or investment use.
• Apply the MACRS depreciation method and convention for the asset to calculate annual deductions.
• Report tax depreciation on tax returns; financial statements may use a different method.

Benefits:
* Accelerated depreciation yields larger tax deductions in the early years of an asset’s life, lowering near-term taxable income.

Limitations:
* MACRS does not apply to certain intangible property, films, video tapes, and some property acquired in nontaxable transfers.

GDS vs. ADS

General Depreciation System (GDS)
* Most commonly used.
* Uses declining balance methods (e.g., 200% or 150% declining balance switching to straight-line), producing accelerated deductions.
* Suited to assets that lose value quickly (computers, certain equipment).

Alternative Depreciation System (ADS)
* Uses longer recovery periods and straight-line depreciation.
* Must be used in specific situations, for example:
* Property used predominantly outside the U.S.
* Certain tax-exempt use property.
* Property used in farming when required.
* Listed property used 50% or less for business during the tax year.
* A taxpayer can elect ADS instead of GDS, but the election applies to all property in the same class and is generally irrevocable for that class.

Property classification and useful lives

• The IRS provides asset classes and recovery periods (useful lives) in Publication 946 and related tables.
• Examples:
• Automobiles and many office equipment items — 5 years (GDS).
• Computers and peripheral equipment — typically 5 years (GDS).
• Residential rental property — 27.5 years (GDS); 30 years (ADS).
• Nonresidential real property — commonly 39 or 40 years depending on method and rules (ADS often longer).
• Use the IRS tables to select the correct class life and applicable depreciation convention (half-year, mid-quarter, or mid-month).

Special rules

• Listed property (e.g., vehicles, certain computers, photographic equipment) has additional substantiation and usage rules; ADS is required if business use is 50% or less.
• Conventions (half-year, mid-quarter, mid-month) affect the portion of the first and last year’s depreciation.
• Depreciable basis is adjusted for items such as section 179 expensing, bonus depreciation, and any prior year depreciation.

Guidance

• The IRS’s Publication 946, “How to Depreciate Property,” contains detailed schedules, conventions, examples, and instructions for applying MACRS.
• Because rules can be complex and consequences significant, consult tax guidance or a tax professional when depreciating property.

Bottom line

MACRS is the federal tax framework for depreciating most tangible business assets, favoring accelerated deductions that reduce taxable income earlier in an asset’s life. Choosing between GDS and ADS, correctly classifying property, and following IRS conventions are essential to accurately compute tax depreciation.