What is the Depreciation of Assets?

       As a business owner, you may be considering purchasing a new asset for your business. Maybe you are looking for a refresher on the concept of depreciation and how it will impact your financial statements and income taxes.  While deprecation can be a simple concept, it can get quite complex when you consider the difference between tax accounting and GAAP accounting. 

       Depreciation can be described as the concept of recognizing the cost of an asset over the useful life.  For example, if a business were to purchase a new machine for manufacturing purposes the machine would last multiple years.  As a result of applying the matching principle in accounting, depreciation ties the cost of using the asset with the benefit gained over the asset’s useful life. 

Accounting Vs. Tax?

       There are many methods to depreciate assets for GAAP accounting purposes and they differ greatly from the rules used for tax accounting.  As it relates to GAAP accounting, most companies record depreciation using the straight-line basis. The straight-line basis simply divides the cost of the asset equally over the useful life of the asset. For example, with a machine that has a useful life of 5 years the business would write off 20% of the cost each year.

       Tax accounting is different in that the tax laws accelerate the deduction to take a larger deduction in the initial years and a smaller deduction in the later years of the asset’s life.  Tax depreciation is generally referred to as MACRS or Modified Accelerates Cost Recovery System. The Tax laws further complicate this by adding bonus depreciation (section 168) and section 179. Both provisions may allow a business to deduct the entire cost of an asset in the year of purchase thus saving taxes. The table below lists the most common types of assets that our clients own and the related MACRS life. This will help you in understanding the useful life and in recording depreciation on a regular basis.

List of  Assets and Lifetimes

In the link below is a list of assets and the lifetimes that those assets carry.

Depreciation Table

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