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Julia Kagan is a financial/consumer journalist and former senior editor, personal finance, of Investopedia.
Updated November 15, 2023 Reviewed by Reviewed by Lea D. UraduLea Uradu, J.D. is a Maryland State Registered Tax Preparer, State Certified Notary Public, Certified VITA Tax Preparer, IRS Annual Filing Season Program Participant, and Tax Writer.
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The modified accelerated cost recovery system (MACRS) is a depreciation system used for tax purposes in the U.S. MACRS depreciation allows the capitalized cost of an asset to be recovered over a specified period via annual deductions. The MACRS system puts fixed assets into classes that have set depreciation periods.
As defined by the Internal Revenue Service (IRS), depreciation is an income tax deduction that allows a business to recover the cost basis of certain property. Deprecation is an annual allowance for the wear and tear, deterioration, or obsolescence of property. Most tangible assets are depreciable. Likewise, certain intangible assets, such as patents and copyrights, are depreciable.
The modified accelerated cost recovery system (MACRS) is the proper depreciation method for most assets. MACRS allows for greater accelerated depreciation over longer time periods. This is beneficial since faster acceleration allows individuals and businesses to deduct greater amounts during the first few years of an asset's life, and relatively less later.
For property placed into service after 1986, the IRS requires businesses to use MACRS for depreciation.
Depreciation using MACRS can be applied to assets such as computer equipment, office furniture, automobiles, fences, farm buildings, racehorses, and so on.
Now, there are things for which MACRS cannot be used for. Notably, intangible property, films, video tapes, and recordings. Other property excluded from MACRS include certain corporate or partnership property acquired in nontaxable transfers.
There are two key MACRS depreciation systems. The first is the general depreciation system (GDS), while the second is the alternative depreciation system (ADS). These two systems have different recovery periods and depreciation methods. For the most part, GDS is used, although in special cases ADS can be used.
The general depreciation system uses the declining balance method, which allows for a larger depreciation expense to be recorded in the early years and smaller amounts in the later years. The alternative depreciation system allows depreciation to be taken over a longer period of time.
The GDS is best used for assets that depreciate quickly, such as computers and other technology. Meanwhile, the ADS must be used in certain instances, such as property used in a farming business, property that is exempt from taxation, or any property used outside the U.S. ADS must also be used for any listed property used 50% or less in a business during the tax year.
Now, businesses can elect to use ADS (instead of GDS). The election must cover all property in the same property class, and once made, that election can never be changed.
The IRS publishes the useful lives of various classes of assets. This information is used to compute the depreciation for a given type of qualified asset. A few examples of some assets and their useful lives in years as published by the IRS include.
| Assets and Useful Life in Years | |
|---|---|
Description of Assets | Useful Life (Years) |
Tractors, racehorses, rent-to-own property, etc. | 3 |
Automobiles, buses, trucks, computers, office machinery, breeding cattle, furniture, etc. | 5 |
Office furniture, fixtures, agricultural machinery, railroad track, etc. | 7 |
Vessels, tugs, agricultural structures, tree or vine bearing fruits or nuts, etc. | 10 |
Municipal waste water treatment plant, restaurant property, natural gas distribution line, land improvements, such as shrubbery, fences, sidewalks, etc. | 15 |
Farm buildings, certain municipal sewers, etc. | 20 |
Water utility property, certain municipal sewers, etc. | 25 |
Any building or structure where 80% or more of its gross rental income is from dwelling units | 27.5 |
An office building, store, or warehouse that is not residential property or has a class life of less than 27.5 years | 39 |
The IRS's Publication 946 (How to Depreciate Property) has a full breakdown of asset classes and their useful lives. Since the tax rules for MACRS are complex, the 100-plus pages of the IRS Publication 946 provide complete guidance on depreciating assets with MACRS.
The nine asset classes presented above are for GDS. There are more asset classes for ADS and the recovery life is longer. For example, the useful life of residential rental property under ADS is 30 years, and for commercial property, it is 40 years.
Based on the information provided in the table, a business can determine its tax depreciation for assets. The basis for depreciation of MACRS property is the property's cost basis multiplied by the percentage of business/investment use. The amount derived is recognized in the company’s income tax return and used to determine taxable income by factoring in any tax credits and deductions that can be claimed on the property.
Note that the derived tax depreciation is not recorded in the financial statements, as these statements calculate depreciation using the straight-line depreciation method or some other form of accelerated cost depreciation method.
MACRS is used for tax purposes and not for financial statements, as it's not approved by U.S. Generally Accepted Accounting Principles (GAAP). For example, a company may use MACRS for tax depreciation and straight-line depreciation for creating financial statements.
IRS Publication 946 is a publication by the IRS that details how to depreciate property. In particular, it explains how to recover the cost of property (such as business equipment or income-producing assets) via deprecation.
Depreciation expenses lower the amount of income on which taxes are based, thereby reducing the amount of taxes owed. The benefit of accelerated depreciation is that you are getting a greater tax reduction in the earlier years of an asset's useful life.
Useful life is the accounting estimate of the number of years an asset is likely to remain in service for the purpose of producing income. The IRS determines the useful life for various assets, laying out the length of time in which they can be depreciated. For example, the useful life (according to the IRS) for automobiles is five years, while residential rental properties have a useful life of 27.5 years.
The modified accelerated cost recovery system (MACRS) is a depreciation method used for tax purposes and is more beneficial than other methods of depreciation. The IRS outlines two types of MACRs: GDS and ADS. ADS is usually only used in unique circumstances.
