General Information on Depreciation The first part of this chapter gives you basic information on whatproperty can and cannot be depreciated, when to begin and enddepreciation, and how to claim depreciation. What Can BeDepreciated You can depreciate property only if it meets all the followingrequirements. It is used in business or held for the production ofincome. It must be expected to last more than one year. In otherwords, it must have a useful life that extends substantially beyondthe year it is placed in service. It is property that wears out, decays, gets used up, becomesobsolete, or loses value from natural causes. Depreciable property may be tangible or intangible. Tangible Property Tangible property is property you can see or touch and it includesboth real and personal property. Tangible personal property includesmachinery or equipment and anything else you can see or touch exceptreal property. Real property is land, buildings, and generallyanything built or constructed on land, growing on land, or attached toland. However, land itself is never depreciable. Livestock.Livestock purchased for draft, breeding, or dairy purposes that isnot kept in an inventory account may be depreciated. Raised livestock.Livestock you raise usually has no depreciable basis because thecosts of raising them are deducted and are not added to their basis.However, if you purchase immature livestock for draft, dairy, orbreeding purposes, you can depreciate your initial costs when thelivestock reach the age when they can be worked, milked, or bred. Dams, ponds, and terraces.In general, you cannot depreciate earthen dams, ponds, and terracesunless the structures have a determinable useful life. Irrigation systems and water wells.You can depreciate irrigation systems and wells composed ofmasonry, concrete, tile, metal, or wood. In addition, you candepreciate costs for moving dirt to make irrigation systems and waterwells composed of these materials. Partial business use.If you use tangible property (including your car) for business orinvestment purposes and for personal purposes, you can deductdepreciation on the part used for business or investment. For example, if you use your car for farm business, you can deductdepreciation for the part you use it in farming. If you also use itfor investment purposes, you can depreciate the part used forinvestment. If you use part of your home for business, you may be able to takea depreciation deduction for its business use. For more information,see Business Use of Your Home in chapter 5. Intangible Property Intangible property is generally any property that has value butthat you cannot see or touch. It includes items such as computersoftware, copyrights, patents, franchises, trademarks, and tradenames. Computer software.Computer software includes any program used to cause a computer toperform a desired function. It also includes any data base or similaritem in the public domain and incidental to the operation ofqualifying software. Generally, you can depreciate software over 36 months. However, ifyou acquired the software in connection with the acquisition of asubstantial portion of a business, you can depreciate it over 36months only if it meets the following requirements. It is readily available for purchase by the generalpublic. It is not subject to an exclusive license. It has not been substantially modified. If you acquire software in connection with the acquisition of asubstantial portion of a business and it does not meet theprevious requirements, you must amortize it over 15 years (rather thandepreciate it). For more information on amortization, seeAmortization, later. spelen online kenoYear 2000 costs.Year 2000 costs are costs of converting or replacing computersoftware to recognize dates beginning in the year 2000. They includecosts of the following. Manually converting existing software. Developing new software. Purchasing or leasing new software to replace existingsoftware. Developing or purchasing software tools to assist you inconverting your existing software. Treat year 2000 costs as computer software for depreciationpurposes. Any change in the treatment of year 2000 costs to allow them to betreated as computer software for depreciation purposes is a change inaccounting method. If you want to make this type of change, follow theautomatic change procedures in Revenue Procedure 98-60 inInternal Revenue Bulletin No. 1998-51. Leased software.If you lease software, treat the rental payments the same as anyother rental payments. What Cannot BeDepreciated To determine if you can depreciate any item, you must know not onlywhat you can depreciate but what you cannot depreciate. Property placed in service and disposed of in the same year.You cannot depreciate property you place in service and dispose ofin the same year. Determining when property is placed in service isexplained later. Land.You can never depreciate the cost of land because land does notwear out, become obsolete, or get used up. The cost of land generallyincludes the cost of clearing, grading, planting, and landscapingbecause these expenses are all part of the cost of the land itself.You may be able to depreciate some land preparation costs. Forinformation on these costs, see chapter 1 of Publication 946. Inventory.You can never depreciate property you hold primarily for sale tocustomers in the ordinary course of your business. Equipment used to build capital improvements.You cannot deduct depreciation on equipment used to build your owncapital improvements. You must add the depreciation allowed onequipment used during the period of construction to the basis of yourimprovements. See Uniform Capitalization Rules in chapter 7. Leased property.You can depreciate leased property only if you retain the incidentsof ownership for the property (explained later). This means you bearthe burden of exhaustion of the capital investment in the property.Therefore, if you lease property to use in your trade or business orfor the production of income, you cannot depreciate its cost. You can,however, depreciate any capital improvements you make to the leasedproperty. See Additions or improvements to property inchapter 3 of Publication 946. If you lease property to someone, you generally can depreciate itscost even if the lessee (the person leasing from you) has agreed topreserve, replace, renew, and maintain the property. However, youcannot depreciate the cost of the property if the lease provides thatthe lessee is to maintain the property and return to you the sameproperty or its equivalent in value at the expiration of the lease inas good condition and value as when leased. Incidents of ownership.Incidents of ownership include the following. The legal title. The legal obligation to pay for it. The responsibility to pay its maintenance and operatingexpenses. The duty to pay any taxes. The risk of loss if the property is destroyed, condemned, ordiminished in value through obsolescence or exhaustion. Intangible property.The following are two types of intangible property that you cannever depreciate. Goodwill.You can never depreciate goodwill because its useful life cannot bedetermined. However, if you acquired a business after August 10, 1993 (July 25,1991, if elected), and part of the price included goodwill, you may beable to amortize the cost of the goodwill over 15 years. For moreinformation, see Amortization, later. Trademark and trade name.In general, you must capitalize trademark and trade name expenses.This means that you cannot deduct the full amount in the current year.You can neither depreciate nor amortize the costs for trademarks andtrade names you acquired before August 11, 1993 (before July 26, 1991,if elected). You may be able to amortize over 15 years the costs oftrademarks and trade names acquired after August 10, 1993 (after July25, 1991, if elected). For more information, see Amortization,later. When DepreciationBegins and Ends You begin to depreciate your property when you place it in servicefor use in your trade or business or for the production of income. Youstop depreciating property either when you have fully recovered yourcost or other basis or when you retire it from service, whicheverhappens first. Placed in Service For depreciation purposes, property is placed in service when it isready and available for a specific use, whether in a trade orbusiness, the production of income, a tax-exempt activity, or apersonal activity. Even if you are not using the property, it is inservice when it is ready and available for its specific use. Example 1.You bought a home and used it as your personal home for severalyears before you converted it to rental property. Although itsspecific use was personal and no depreciation was allowable, youplaced the home in service when you began using it as your home. Youcan claim a straight line depreciation deduction in the year youconverted it to rental property because its use changed to anincome-producing use at that time. Example 2.You bought a planter for your farm business late in the year afterharvest was over. You can take a depreciation deduction for theplanter for that year because it was ready and available for itsspecific use. Cost or other basis fully recovered.You have fully recovered your cost or other basis when you havetaken section 179 and depreciation deductions that are equal to yourcost or investment in the property. Retired From Service You stop depreciating property when you retire it from service. Youretire property from service when you permanently withdraw it from usein a trade or business or in the production of income. You can retire property from service in any of the following ways. Sale or exchange. Abandonment. Destruction. Incorrect Amount of Depreciation Deducted If you deducted an incorrect amount of depreciation in any year,you may be able to make a correction by filing an amended return. SeeAmended Return, later. If you are not allowed to make thecorrection on an amended return, you can change your accounting methodto claim the correct amount of depreciation. See Changing YourAccounting Method, later. Basis adjustment.Even if you do not claim depreciation you are entitled to deduct,you must reduce the basis of the property by the full amount ofdepreciation you were entitled to deduct. If you deduct moredepreciation than you should, you must decrease your basis by anyamount deducted from which you received a tax benefit. Amended Return hôtels YorkIf you deducted an incorrect amount of depreciation, you can filean amended return to correct the following. A mathematical error made in any year. A posting error made in any year (for example, omitting anasset from the depreciation schedule). The amount of depreciation for property for which you havenot adopted a method of accounting. If you deducted an incorrect amount of depreciation for theproperty on two or more consecutively filed tax returns, you haveadopted a method of accounting for that property. If you have adopteda method of accounting, you cannot change the method by filing amendedreturns. See Changing Your Accounting Method, later. If an amended return is allowed, you must file it by the later ofthe following. 3 years from the date you filed your original return for theyear in which you deducted the incorrect amount. 2 years from the time you paid your tax for thatyear. A return filed early is considered filed on the due date. Changing YourAccounting Method If you deducted an incorrect amount of depreciation for theproperty on two or more consecutively filed tax returns, you haveadopted a method of accounting for that property. TaxTip: You can claim the correct amount of depreciation only by changingyour method of accounting for depreciation. You will then be able totake into account any unclaimed or excess depreciation from yearsbefore the year of change. Approval required.You must get IRS approval to change your method of accounting. FileForm 3115, Application for Change inAccounting Method, to request a change to a permissible methodof accounting for the depreciation. Revenue Procedure 97-27 inCumulative Bulletin 1997-1 gives general instructions forgetting approval. Cumulative Bulletins are available at many librariesand IRS offices. There is a user fee for changing your method ofaccounting under Revenue Procedure 97-27. Automatic approval.You may be able to get automatic approval from the IRS to changeyour method of accounting if you used an unallowable method ofaccounting for depreciation in at least the 2 years immediately beforethe year of change and the property for which you are changing themethod meets the following conditions. It is property for which, under your unallowable method ofaccounting, you claimed either no depreciation or an incorrect amountof depreciation. It is property for which you figured depreciation using oneof the following. Pre-1981 rules. Accelerated Cost Recovery (ACRS). Modified Accelerated Cost Recovery (MACRS). It is property you owned at the beginning of the year ofchange. File Form 3115 to request a change to a permissible method ofaccounting for depreciation. Revenue Procedure 98-60 and section2.01 of its Appendix, which can be found in Internal Revenue BulletinNo. 1998-51, have instructions for getting automatic approvaland list exceptions to the automatic approval procedures. Exceptions.You generally cannot use the automatic approval procedure in any ofthe following situations. You are under examination by the IRS. Zimmer mit Fruhstuck HaapsaluYou are before a federal court or an IRS appeals office forany income tax issue and the method of accounting for depreciation tobe changed is an issue under consideration by the federal court orappeals office. You are correcting a mathematical or posting error. SeeAmended Return, earlier. five star hotel in Lloret de MarDuring the last five years (including the year of change),you changed the same method of accounting for depreciation (with orwithout obtaining IRS approval). During the last five years (including the year of change),you filed a Form 3115 to change the same method of accounting fordepreciation but did not make the change because the Form 3115 waswithdrawn, not perfected, denied, or not granted. Also, see other exceptions listed in section 2.01(2)(b) of theAppendix of Revenue Procedure 98-60. How To Claim Depreciation Use Form 4562 to claim depreciation and amortization deductions andto elect the section 179 deduction, discussed next. Amortization isdiscussed later. For more information on completing Form 4562, referto its instructions. Files: It is important to keep good records for property you depreciate.Do not file these records with your return. Instead, you should keepthem as part of the records of the depreciated property. They willhelp you verify the accuracy of the information on Form 4562. Forgeneral information on recordkeeping, see Publication 583,Starting a Business and Keeping Records. For specificinformation on keeping records for section 179 property (discussednext) and listed property (discussed later), see Publication 946.