Publication 225 (2015) FARMER'S TAX GUIDE

Excess farm losses that are disallowed can be carried forward to the next tax year and treated as a deduction from that year.

Not-for-Profit Farming

Category 1. Deductions you can take for personal as well as for business activities are allowed in full. For individuals, all nonbusiness deductions, such as those for home mortgage interest, taxes, and casualty losses, belong in this category. See chapter 11 for more information. For the limits that apply to mortgage interest, see Pub. 936.

Category 2. Deductions that do not result in an adjustment to the basis of property are allowed next, but only to the extent your gross income from the activity is more than the deductions you take (or could take) under the first category. Most business deductions, such as those for fertilizer, feed, insurance premiums, utilities, wages, etc., belong in this category.

Category 3. Business deductions that decrease the basis of property are allowed last, but only to the extent the gross income from the activity is more than deductions you take (or could take) under the first two categories. The deductions for depreciation, amortization, and the part of a casualty loss an individual could not deduct in category (1) belong in this category. Where more than one asset is involved, divide depreciation and these other deductions proportionally among those assets.

TIP: Individuals must claim the amounts in categories (2) and (3) above as miscellaneous deductions on Schedule A (Form 1040). They are subject to the 2%-of-adjusted-gross-income limit. See Pub. 529, Miscellaneous Deductions, for information on this limit.

Partnerships and S corporations. If a partnership or S corporation carries on a not-for-profit activity, these limits apply at the partnership or S corporation level. They are reflected in the individual shareholder's or partner's distributive shares.

More information. For more information on not-for-profit activities, see Not-for-Profit Activities in Pub. 535, chapter 1.

5. Soil and Water Conservation Expenses

Introduction

If you are in the business of farming, you can choose to deduct certain expenses for:

Otherwise, these are capital expenses that must be added to the basis of the land. (See chapter 6 for information on determining basis.) Conservation expenses for land in a foreign country do not qualify for this special treatment.

The deduction for conservation expenses cannot be more than 25% of your gross income from farming. See 25% Limit on Deduction, later.

Although some expenses are not deductible as soil and water conservation expenses, they may be deductible as ordinary and necessary farm expenses. These include interest and taxes, the cost of periodically clearing brush from productive land, the regular removal of sediment from a drainage ditch, and expenses paid or incurred primarily to produce an agricultural crop that may also conserve soil.

You must include in income most government payments for approved conservation practices. However, you can exclude some payments you receive under certain cost-sharing conservation programs. For more information, see Agricultural Program Payments in chapter 3.

TIP: To get the full deduction to which you are entitled, you should maintain your records to clearly distinguish between your ordinary and necessary farm business expenses and your soil and water conservation expenses.

Topics

This chapter discusses:

For purposes of soil and water conservation expenses, you are in the business of farming if you cultivate, operate, or manage a farm for profit, either as an owner or a tenant. You are not in the business of farming if you cultivate or operate a farm for recreation or pleasure, rather than for profit. You are not farming if you are engaged only in forestry or the growing of timber.

Farm defined. A farm includes livestock, dairy, poultry, fish, fruit, and truck farms. It also includes plantations, ranches, ranges, and orchards. A fish farm is an area where fish and other marine animals are grown or raised and artificially fed, protected, etc. It does not include an area where they are merely caught or harvested. A plant nursery is a farm for purposes of deducting soil and water conservation expenses.

Farm rental. If you own a farm and receive farm rental payments based on farm production, either in cash or crop shares, you are in the business of farming. If you get cash rental for a farm you own that is not used in farm production, you cannot deduct soil and water conservation expenses for that farm.

If you receive a fixed rental payment that is not based on farm production, you are in the business of farming only if you materially participate in operating or managing the farm.

Example. You own a farm in Iowa and live in California. You rent the farm for $175 in cash per acre and do not materially participate in producing or managing production of the crops grown on the farm. You cannot deduct your soil conservation expenses for this farm. You must capitalize the expenses and add them to the basis of the land.

For more information, see Material participation for landlords under Landlord Participation in Farming in chapter 12.

Plan Certification

You can deduct soil and water conservation expenses only if they are consistent with a plan approved by the Natural Resources Conservation Service (NRCS) of the Department of Agriculture. If no such plan exists, the expenses must be consistent with a soil conservation plan of a comparable state agency. Keep a copy of the plan with your books and records to support your deductions.

Conservation plan. A conservation plan includes the farming conservation practices approved for the area where your farmland is located. There are three types of approved plans.

A list of NRCS conservation programs is available at

Individual site plans can be obtained from NRCS offices and the comparable state agencies.

Conservation Expenses

You can deduct conservation expenses only for land you or your tenant are using, or have used in the past, for farming. These expenses include, but are not limited to, the following.

You cannot deduct expenses to drain or fill wetlands, or to prepare land for center pivot irrigation systems, as soil and water conservation expenses. These expenses are added to the basis of the land.

CAUTION: If you choose to deduct soil and water conservation expenses, you must include as gross income any cost-sharing payments you receive for those expenses. See chapter 3 for information about payments eligible for the cost-sharing exclusion.

New farm or farmland. If you acquire a new farm or new farmland from someone who was using it in farming immediately before you acquired the land, soil and water conservation expenses you incur on it will be treated as made on land used in farming at the time the expenses were paid or incurred. You can deduct soil and water conservation expenses for this land if your use of it is substantially a continuation of its use in farming. The new farming activity does not have to be the same as the old farming activity. For example, if you buy land that was used for grazing cattle and then prepare it for use as an apple orchard, you can deduct your conservation expenses.

Land not used for farming. If your conservation expenses benefit both land that does not qualify as land used for farming and land that does qualify, you must allocate the expenses between the two types of land. For example, if the expenses benefit 200 acres of your land, but only 120 acres of this land are used for farming, then you can deduct 60% (120 ÷ 200) of the expenses. You can use another method to allocate these expenses if you can clearly show that your method is more reasonable.

Depreciable conservation assets. You generally cannot deduct your expenses for depreciable conservation assets. However, you can deduct certain amounts you pay or incur for an assessment for depreciable property that a soil and water conservation or drainage district levies against your farm. See Assessment for Depreciable Property, later.

You must capitalize expenses to buy, build, install, or improve depreciable structures or facilities. These expenses include those for materials, supplies, wages, fuel, hauling, and moving dirt when making structures such as tanks, reservoirs, pipes, culverts, canals, dams, wells, or pumps composed of masonry, concrete, tile (including drainage tile), metal, or wood. You recover your capital investment through annual allowances for depreciation.

You can deduct soil and water conservation expenses for nondepreciable earthen items. Nondepreciable earthen items include certain dams, ponds, and terraces described under Property Having a Determinable Useful Life in chapter 7.

Water well. You cannot deduct the cost of drilling a water well for irrigation and other agricultural purposes as a soil and water conservation expense. It is a capital expense. You recover your cost through depreciation. You also must capitalize your cost for drilling a test hole. If the test hole produces no water and you continue drilling, the cost of the test hole is added to the cost of the producing well. You can recover the total cost through depreciation deductions.

If a test hole, dry hole, or dried-up well (resulting from prolonged lack of rain, for instance) is abandoned, you can deduct your unrecovered cost in the year of abandonment. Abandonment means that all economic benefits from the well are terminated. For example, filling or sealing a well excavation or casing so that all economic benefits from the well are terminated constitutes an abandonment.

Endangered species recovery expenses. If you are in the business of farming and meet other specific requirements, you can choose to deduct the conservation expenses discussed earlier as endangered species recovery expenses. Otherwise, these are capital expenses that must be added to the basis of the land.

The expenses must be paid or incurred for the purpose of achieving site-specific management actions recommended in a recovery plan approved under section 175 for more information.

Assessment by Conservation District

In some localities, a soil or water conservation or drainage district incurs expenses for soil or water conservation and levies an assessment against the farmers who benefit from the expenses. You can deduct as a conservation expense amounts you pay or incur for the part of an assessment that:

Assessment for Depreciable Property

You generally can deduct as a conservation expense amounts you pay or incur for the part of a conservation or drainage district assessment that covers expenses for depreciable property. This includes items such as pumps, locks, concrete structures (including dams and weir gates), draglines, and similar equipment. The depreciable property must be used in the district's soil and water conservation activities. However, the following limits apply to these assessments.

After you apply these limits, the amount you can deduct is added to your other conservation expenses for the year. The total for these expenses is then subject to the 25% of gross income from farming limit on the deduction, discussed later. See Table 5-1 for a brief summary of these limits.

Table 5-1. Limits on Deducting an Assessment by a Conservation District for Depreciable Property

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Total Limit on         Yearly Limit on

 Deduction for          Deduction for

 Assessment for         Assessment for          Yearly Limit for All

 Depreciable Property   Depreciable Property    Conservation Expenses

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10% of:             $500 + 10% of:              25% of:

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 Total assessment       Your deductible         Your gross income from

 against all members    share of the cost to    farming.

 of the district for    the district for the

 the property.          property.

 ----------------------------------------------------------------------

  • No one taxpayer       • If the amount        • Limit for all

    can deduct more         you pay or incur       conservation

    than 10% of the         for any year is        expenses, including

    total assessment.       more than the          assessments for

                            limit, you can         depreciable

  • Any amount over         deduct for that        property.

    10% is a capital        year only 10% of

    expense and is          your deductible      • Amounts greater than

    added to the basis      share of the cost.     25% can be carried

    of your land.                                  to the following

                          • You can deduct the     year and added to

  • If an assessment is     remainder in equal     that year's

    paid in                 amounts over the       expenses.

    installments, each      next 9 tax years.      The total

    payment must be                                is then subject to

    prorated between                               the 25% of gross

    the conservation                               income from farming

    expense and the                                limit in that year.

    capital expense.

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You cannot deduct more than 10% of the total amount assessed to all members of the conservation or drainage district for the depreciable property. This applies whether you pay the assessment in one payment or in installments. If your assessment is more than 10% of the total amount assessed, both the following rules apply.

The maximum amount you can deduct in any one year is the total of 10% of your deductible share of the cost as explained earlier, plus $500. If the amount you pay or incur is equal to or less than the maximum amount, you can deduct it in the year it is paid or incurred. If the amount you pay or incur is more, you can deduct in that year only 10% of your deductible share of the cost. You can deduct the remainder in equal amounts over the next 9 tax years. Your total conservation expense deduction for each year is also subject to the 25% of gross income from farming limit on the deduction, discussed later.

Example 1. This year, the soil conservation district levies and you pay an assessment of $2,400 against your farm. Of the assessment, $1,500 is for digging drainage ditches. You can deduct this part as a soil or conservation expense as if you had paid it directly. The remaining $900 is for depreciable equipment to be used in the district's irrigation activities. The total amount assessed by the district against all its members for the depreciable equipment is $7,000.

The total amount you can deduct for the depreciable equipment is limited to 10% of the total amount assessed by the district against all its members for depreciable equipment, or $700. The $200 excess ($900 - $700) is a capital expense you must add to the basis of your farm.

To figure the maximum amount you can deduct for the depreciable equipment this year, multiply your deductible share of the total assessment ($700) by 10%. Add $500 to the result for a total of $570. Your deductible share, $700, is greater than the maximum amount deductible in one year, so you can deduct only $70 of the amount you paid or incurred for depreciable property this year (10% of $700). You can deduct the balance at the rate of $70 a year over the next 9 years.

You add $70 to the $1,500 portion of the assessment for drainage ditches. You can deduct $1,570 of the $2,400 assessment as a soil and water conservation expense this year, subject to the 25% of gross income from farming limit on the deduction, discussed later.

Example 2. Assume the same facts in Example 1 except that $1,850 of the $2,400 assessment is for digging drainage ditches and $550 is for depreciable equipment. The total amount assessed by the district against all its members for depreciable equipment is $5,500. The total amount you can deduct for the depreciable equipment is limited to 10% of this amount, or $550.

The maximum amount you can deduct this year for the depreciable equipment is $555 (10% of your deductible share of the total assessment, $55, plus $500). Since your deductible share is less than the maximum amount deductible in one year, you can deduct the entire $550 this year. You can deduct the entire assessment, $2,400, as a soil and water conservation expense this year, subject to the 25% of gross income from farming limit on the deduction, discussed below.

Sale or other disposal of land during 9-year period. If you dispose of the land during the 9-year period for deducting conservation expenses subject to the yearly limit, any amounts you have not yet deducted because of this limit are added to the basis of the property.

Death of farmer during 9-year period. If a farmer dies during the 9-year period, any remaining amounts not yet deducted are deducted in the year of death.

25% Limit on Deduction

The total deduction for conservation expenses in any tax year is limited to 25% of your gross income from farming for the year.

Gross income from farming. Gross income from farming is the income you derive in the business of farming from the production of crops, fish, fruits, other agricultural products, or livestock. Gains from sales of draft, breeding, or dairy livestock are included. Gains from sales of assets such as farm machinery, or from the disposition of land, are not included.

Carryover of deduction. If your deductible conservation expenses in any year are more than 25% of your gross income from farming for that year, you can carry the unused deduction over to later years. However, the deduction in any later year is limited to 25% of the gross income from farming for that year as well.

Example. In 2014, you have gross income of $32,000 from two farms. During the year, you incurred $10,000 of deductible soil and water conservation expenses for one of the farms. However, your deduction is limited to 25% of $32,000, or $8,000. The $2,000 excess ($10,000 - $8,000) is carried over to 2015 and added to deductible soil and water conservation expenses made in that year. The total of the 2014 carryover plus 2015 expenses is deductible in 2015, subject to the limit of 25% of your gross income from farming in 2015. Any expenses over the limit in that year are carried to 2016 and later years.

Net operating loss. The deduction for soil and water conservation expenses, after applying the 25% limit, is included when figuring a net operating loss (NOL) for the year. If the NOL is carried to another year, the soil and water conservation deduction included in the NOL is not subject to the 25% limit in the year to which it is carried.

When to Deduct or Capitalize

If you choose to deduct soil and water conservation expenses, you must deduct the total allowable amount on your tax return for the first year you pay or incur these expenses. If you do not choose to deduct the expenses, you must capitalize them.

Change of method. If you want to change your method for the treatment of soil and water conservation expenses, or you want to treat the expenses for a particular project or a single farm in a different manner, you must get the approval of the IRS. To get this approval, submit a written request by the due date of your return for the first tax year you want the new method to apply. You or your authorized representative must sign the request.

The request must include the following information.

Send your request to the following address.

Department of the Treasury Internal Revenue Service Center Cincinnati, OH 45999

For more information, see Change in Accounting Method in chapter 2.

Sale of a Farm

If you sell your farm, you cannot adjust the basis of the land at the time of the sale for any unused carryover of soil and water conservation expenses (except for deductions of assessments for depreciable property, discussed earlier). However, if you acquire another farm and return to the business of farming, you can start taking deductions again for the unused carryovers.

Gain on sale of farmland. If you held the land 5 years or less before you sold it, gain on the sale of the land is treated as ordinary income up to the amount you previously deducted for soil and water conservation expenses. If you held the land less than 10 but more than 5 years, the gain is treated as ordinary income up to a specified percentage of the previous deductions. See Section 1252 property under Other Gains in chapter 9.

6. Basis of Assets

Introduction

Your basis is the amount of your investment in property for tax purposes. Use basis to figure the gain or loss on the sale, exchange, or other disposition of property. Also use basis to figure depreciation, amortization, depletion, and casualty losses. If you use property for both business or the production of income purposes and for personal purposes, you must allocate the basis based on the use. Only the basis allocated to the business or the production of income use of the property can be depreciated.

Your original basis in property is adjusted (increased or decreased) by certain events. For example, if you make improvements to the property, increase your basis. If you take deductions for depreciation, or casualty losses, or claim certain credits, reduce your basis.

RECORDS: Keep accurate records of all items that affect the basis of your assets. For information on keeping records, see chapter 1.

Topics

This chapter discusses:

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Publication

See chapter 16 for information about getting publications and forms.

Cost Basis

The basis of property you buy is usually its cost. Cost is the amount you pay in cash, debt obligations, other property, or services. Your cost includes amounts you pay for sales tax, freight, installation, and testing. The basis of real estate and business assets will include other items, discussed later. Basis generally does not include interest payments. However, see Carrying charges and Capitalized interest in chapter 4 of Pub. 535.

You also may have to capitalize (add to basis) certain other costs related to buying or producing property. Under the uniform capitalization rules, discussed later, you may have to capitalize direct costs and certain indirect costs of producing property.

Loans with low or no interest. If you buy property on a time-payment plan that charges little or no interest, the basis of your property is your stated purchase price minus the amount considered to be unstated interest. You generally have unstated interest if your interest rate is less than the applicable federal rate. See the discussion of unstated interest in Pub. 537, Installment Sales.

Real Property

Real property, also called real estate, is land and generally anything built on, growing on, or attached to land.

If you buy real property, certain fees and other expenses related to the purchase of the property are part of your cost basis in the property. Some of these expenses are discussed next.

Lump sum purchase. If you buy improvements, such as buildings, and the land on which they stand for a lump sum, allocate your cost basis between the land and improvements. Allocate the cost basis according to the respective fair market values (FMVs) of the land and improvements at the time of purchase. Figure the basis of each asset by multiplying the lump sum by a fraction. The numerator is the FMV of that asset and the denominator is the FMV of the whole property at the time of purchase.

Fair market value (FMV). FMV is the price at which property would change hands between a willing buyer and a willing seller, neither having to buy or sell, and both having reasonable knowledge of all necessary facts. Sales of similar property on or about the same date may help in figuring the FMV of the property.

TIP: If you are not certain of the FMV of the land and improvements, you can allocate the basis according to their assessed values for real estate tax purposes.

Real estate taxes. If you pay the real estate taxes the seller owed on real property you bought, and the seller did not reimburse you, treat those taxes as part of your basis.

If you reimburse the seller for taxes the seller paid for you, you generally can deduct that amount as a tax expense. Whether or not you reimburse the seller, do not include that amount in the basis of your property.

Settlement costs. Your basis includes the settlement fees and closing costs for buying the property. See Pub. 551 for a detailed list of items you can and cannot include in basis.

Do not include fees and costs for getting a loan on the property. Also, do not include amounts placed in escrow for the future payment of items such as taxes and insurance.

Points. If you pay points to get a loan (including a mortgage, second mortgage, or line-of-credit), do not add the points to the basis of the related property. You may be able to deduct the points currently or over the term of the loan. For more information about deducting points, see Points in chapter 4 of Pub. 535.

Assumption of a mortgage. If you buy property and assume (or buy the property subject to) an existing mortgage, your basis includes the amount you pay for the property plus the amount you owe on the mortgage.

Example. If you buy a farm for $100,000 cash and assume a mortgage of $400,000, your basis is $500,000.

Constructing assets. If you build property or have assets built for you, your expenses for this construction are part of your basis. Some of these expenses include the following costs.

In addition, if you use your own employees, farm materials, and equipment to build an asset, do not deduct the following expenses. You must capitalize them (include them in the asset's basis).

Allocating the Basis

In some instances, the rules for determining basis apply to a group of assets acquired in the same transaction or to property that consists of separate items. To determine the basis of these assets or separate items, there must be an allocation of basis.

Group of assets acquired. If you buy multiple assets for a lump sum, allocate the amount you pay among the assets. Use this allocation to figure your basis for depreciation and gain or loss on a later disposition of any of these assets. You and the seller may agree in the sales contract to a specific allocation of the purchase price among the assets. If this allocation is based on the value of each asset and you and the seller have adverse tax interests, the allocation generally will be accepted.

Farming business acquired. If you buy a group of assets that makes up a farming business, there are special rules you must use to allocate the purchase price among the assets. Generally, reduce the purchase price by any cash received. Allocate the remaining purchase price to the other business assets received in proportion to (but not more than) their FMV and in a certain order. See Trade or Business Acquired under Allocating the Basis in Pub. 551 for more information. Also, see examples under Sale of a Farm in chapter 8.

Transplanted embryo. If you buy a cow that is pregnant with a transplanted embryo, allocate to the basis of the cow the part of the purchase price equal to the FMV of the cow without the implant. Allocate the rest of the purchase price to the basis of the calf. Neither the cost allocated to the cow nor the cost allocated to the calf is deductible as a current business expense.

Uniform Capitalization Rules

Under the uniform capitalization rules, you must include certain direct and indirect costs in the basis of property you produce or in your inventory costs, rather than claim them as a current year deduction. You recover these costs through depreciation, amortization, or cost of goods sold when you use, sell, or otherwise dispose of the property.

Generally, you are subject to the uniform capitalization rules if you do any of the following.

You produce property if you construct, build, install, manufacture, develop, improve, or create the property.

TIP: You are not subject to the uniform capitalization rules if the property is produced for personal use.

In a farming business, you produce property if you raise or grow any agricultural or horticultural commodity, including plants and animals.

Plants. A plant produced in a farming business includes the following items.

An animal produced in a farming business includes any stock, poultry or other bird, and fish or other sea life.

The direct and indirect costs of producing plants or animals include preparatory costs and preproductive period costs. Preparatory costs include the acquisition costs of the seed, seedling, plant, or animal. For plants, preproductive period costs include the costs of items such as irrigation, pruning, frost protection, spraying, and harvesting. For animals, preproductive period costs include the costs of items such as feed, maintaining pasture or pen areas, breeding, veterinary services, and bedding.

Exceptions. In a farming business, the uniform capitalization rules do not apply to:

Exceptions (1) and (2) do not apply to a corporation, partnership, or tax shelter required to use an accrual method of accounting. See

under

in chapter 2.

In addition, you can elect not to use the uniform capitalization rules for plants with a preproductive period of more than 2 years. If you make this election, special rules apply. This election cannot be made by a corporation, partnership, or tax shelter required to use an accrual method of accounting. This election also does not apply to any costs incurred for the planting, cultivation, maintenance, or development of any citrus or almond grove (or any part thereof) within the first 4 years the trees were planted.

CAUTION: If you elect not to use the uniform capitalization rules, you must use the alternative depreciation system for all property used in any of your farming businesses and placed in service in any tax year during which the election is in effect. See chapter 7 for additional information on depreciation.

Example. You grow trees that have a preproductive period of more than 2 years. The trees produce an annual crop. You are an individual and the uniform capitalization rules apply to your farming business. You must capitalize the direct costs and an allocable part of indirect costs incurred due to the production of the trees. You are not required to capitalize the costs of producing the annual crop because its preproductive period is 2 years or less.

Preproductive period of more than 2 years. The preproductive period of plants grown in commercial quantities in the United States is based on their nationwide weighted average preproductive period. Plants producing the crops or yields shown in Table 6-1 have a nationwide weighted average preproductive period of more than 2 years. Other plants (not shown in Table 6-1) may also have a nationwide weighted average preproductive period of more than 2 years.

Table 6-1. Plants With a Preproductive Period of More Than 2 Years

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Plants producing the following crops or yields have a nationwide

 weighted average preproductive period of more than 2 years.

 • Almonds       • Dates       • Macadamia nuts  • Pistachio nuts

 • Apples        • Figs        • Mangoes         • Plums

 • Apricots      • Grapefruit  • Nectarines      • Pomegranates

 • Avocados      • Grapes      • Olives          • Prunes

 • Blueberries   • Guavas      • Oranges         • Tangelos

 • Cherries      • Kiwifruit   • Peaches         • Tangerines

 • Chestnuts     • Kumquats    • Pears           • Tangors

 • Coffee beans  • Lemons      • Pecans          • Walnuts

 • Currants      • Limes       • Persimmons

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For more information on the uniform capitalization rules that apply to property produced in a farming business, see Regulations section

Deducting vs. capitalizing costs. Do not add to your basis costs you can deduct as current expenses. For example, amounts paid for incidental repairs or maintenance are deductible as business expenses and are not added to basis. However, you can elect either to deduct or to capitalize certain other costs. See chapter 7 in Pub. 535.

Note. Generally, you can deduct amounts paid for repairs and maintenance to your tangible property if the amounts paid are not otherwise required to be capitalized. However, you may elect to capitalize amounts paid for repair and maintenance consistent with the treatment on your books and records. If you make this election, it applies to all amounts paid for repair and maintenance to tangible property that you treat as capital expenditures on your books and records for the tax year. To make the election to treat repairs and maintenance as capital expenditures, attach a statement titled "Section

Decreases to Basis

Some of these items are discussed next. For a more detailed list of items that decrease basis, see section

of the Internal Revenue Code and

.

Depreciation and section 179 deduction. The adjustments you must make to the basis of the property if you take the section 179 deduction or depreciate the property are explained next. For more information on these deductions, see chapter 7.

Section 179 deduction. If you take the section 179 expense deduction for all or part of the cost of qualifying business property, decrease the basis of the property by the deduction.

Depreciation. Decrease the basis of property by the depreciation you deducted or could have deducted on your tax returns under the method of depreciation you chose. If you took less depreciation than you could have under the method chosen, decrease the basis by the amount you could have taken under that method. If you did not take a depreciation deduction, reduce the basis by the full amount of the depreciation you could have taken.

If you deducted more depreciation than you should have, decrease your basis by the amount you should have deducted plus the part of the excess depreciation you deducted that actually reduced your tax liability for any year.

See chapter 7 for information on figuring the depreciation you should have claimed.

In decreasing your basis for depreciation, take into account the amount deducted on your tax returns as depreciation and any depreciation you must capitalize under the uniform capitalization rules.

Casualty and theft losses. If you have a casualty or theft loss, decrease the basis of the property by any insurance or other reimbursement. Also, decrease it by any deductible loss not covered by insurance. See chapter 11 for information about figuring your casualty or theft loss.

You must increase your basis in the property by the amount you spend on clean-up costs (such as debris removal) and repairs that restore the property to its pre-casualty condition. To make this determination, compare the repaired property to the property before the casualty.

Easements. The amount you receive for granting an easement is usually considered to be proceeds from the sale of an interest in the real property. It reduces the basis of the affected part of the property. If the amount received is more than the basis of the part of the property affected by the easement, reduce your basis in that part to zero and treat the excess as a recognized gain. See Easements and rights-of-way in chapter 3.

Exclusion from income of subsidies for energy conservation measures. You can exclude from gross income any subsidy you received from a public utility company for the purchase or installation of an energy conservation measure for a dwelling unit. Reduce the basis of the property by the excluded amount.

Canceled debt excluded from income. If a debt you owe is canceled or forgiven, other than as a gift or bequest, you generally must include the canceled amount in your gross income for tax purposes. A debt includes any indebtedness for which you are liable or which attaches to property you hold.

You can exclude your canceled debt from income if the debt is any of the following.

If you exclude canceled debt described in (1) or (2), you may have to reduce the basis of your depreciable and nondepreciable property. If you exclude canceled debt described in (3), you must only reduce the basis of your depreciable property by the excluded amount.

For more information about canceled debt in a bankruptcy case, see Pub. 908, Bankruptcy Tax Guide. For more information about insolvency and canceled debt that is qualified farm debt, see chapter 3. For more information about qualified real property business debt, see Pub. 334, Tax Guide for Small Business. For more information about canceled debt in Midwestern disaster areas, see Pub. 4492-B, Information for Affected Taxpayers in the Midwestern Disaster Areas.

Basis Other Than Cost

There are times when you cannot use cost as basis. In these situations, the fair market value or the adjusted basis of property may be used. Examples are discussed next.

Property changed from personal to business or rental use. When you hold property for personal use and then change it to business use or use it to produce rent, you must figure its basis for depreciation. An example of changing property from personal to business use would be changing the use of your pickup truck that you originally purchased for your personal use to use in your farming business.

The basis for depreciation is the lesser of:

If you later sell or dispose of this property, the basis you use will depend on whether you are figuring a gain or loss. The basis for figuring a gain is your adjusted basis in the property when you sell the property. Figure the basis for a loss starting with the smaller of your adjusted basis or the FMV of the property at the time of the change to business or rental use. Then make adjustments (increases and decreases) for the period after the change in the property's use, as discussed earlier under

Property received for services. If you receive property for services, include the property's FMV in income. The amount you include in income becomes your basis. If the services were performed for a price agreed on beforehand, it will be accepted as the FMV of the property if there is no evidence to the contrary.

Example. Rocco Stowsa is an accountant and also operates a farming business. Rocco agreed to do some accounting work for his neighbor in exchange for a dairy cow. The accounting work and the cow are each worth $1,500. Rocco must include $1,500 in income for his accounting services. Rocco's basis in the cow is $1,500.

Taxable Exchanges

A taxable exchange is one in which the gain is taxable, or the loss is deductible. A taxable gain or deductible loss also is known as a recognized gain or loss. A taxable exchange occurs when you receive cash or get property that is not similar or related in use to the property exchanged. If you receive property in exchange for other property in a taxable exchange, the basis of the property you receive is usually its FMV at the time of the exchange.

Example. You trade a tract of farmland with an adjusted basis of $20,000 for a tractor that has an FMV of $60,000. You must report a taxable gain of $40,000 for the land. The tractor has a basis of $60,000.

Nontaxable Exchanges

A nontaxable exchange is an exchange in which you are not taxed on any gain and you cannot deduct any loss. A nontaxable gain or loss also is known as an unrecognized gain or loss. If you receive property in a nontaxable exchange, its basis is usually the same as the basis of the property you transferred.

Involuntary Conversions

If you receive property as a result of an involuntary conversion, such as a casualty, theft, or condemnation, figure the basis of the replacement property you receive using the basis of the converted property.

Similar or related property. If the replacement property is similar or related in service or use to the converted property, the replacement property's basis is the same as the old property's basis on the date of the conversion. However, make the following adjustments.

If you receive money or property not similar or related in service or use to the converted property and you buy replacement property similar or related in service or use to the converted property, the basis of the replacement property is its cost decreased by the gain not recognized on the involuntary conversion.

Allocating the basis. If you buy more than one piece of replacement property, allocate your basis among the properties based on their respective costs.

Basis for depreciation. Special rules apply in determining and depreciating the basis of MACRS property acquired in an involuntary conversion. For more information, see Figuring the Deduction for Property Acquired in a Nontaxable Exchange under Figuring Depreciation Under MACRS in chapter 7.

For more information about involuntary conversions, see chapter 11.

Like-Kind Exchanges

The exchange of property for the same kind of property is the most common type of nontaxable exchange.

For an exchange to qualify as a like-kind exchange, you must hold for business or investment purposes both the property you transfer and the property you receive. There must also be an exchange of like-kind property. For more information, see Like-Kind Exchanges in chapter 8.

The basis of the property you receive generally is the same as the adjusted basis of the property you gave up.

Example 1. You traded a truck you used in your farming business for a new smaller truck to use in farming. The adjusted basis of the old truck was $10,000. The FMV of the new truck is $30,000. Because this is a nontaxable exchange, you do not recognize any gain, and your basis in the new truck is $10,000, the same as the adjusted basis of the truck you traded.

Example 2. You trade a field cultivator (adjusted basis of $8,000) for a planter (FMV of $9,000). You use both the field cultivator and the planter in your farming business. The basis of the planter you receive is $8,000, the same as the field cultivator traded

Exchange expenses. Exchange expenses generally are the closing costs that you pay. They include such items as brokerage commissions, attorney fees, and deed preparation fees. Add them to the basis of the like-kind property you receive.

Property plus cash. If you trade property in a like-kind exchange and also pay money, the basis of the property you receive is the adjusted basis of the property you gave up plus the money you paid.

Example. You trade in a truck (adjusted basis of $3,000) for another truck (FMV of $7,500) and pay $4,000. Your basis in the new truck is $7,000 (the $3,000 adjusted basis of the old truck plus the $4,000 cash).

Special rules for related persons. If a like-kind exchange takes place directly or indirectly between related persons and either party disposes of the property within 2 years after the exchange, the exchange no longer qualifies for like-kind exchange treatment. Each person must report any gain or loss not recognized on the original exchange unless the loss is not deductible under the related party rules. Each person reports it on the tax return filed for the year in which the later disposition occurred. If this rule applies, the basis of the property received in the original exchange will be its FMV. For more information, see chapter 8.

Exchange of business property. Exchanging the property of one business for the property of another business generally is a multiple property exchange. For information on figuring basis, see Multiple Property Exchanges in chapter 1 of Pub. 544.

Basis for depreciation. Special rules apply in determining and depreciating the basis of MACRS property acquired in a like-kind transaction. For more information, see Figuring the Deduction for Property Acquired in a Nontaxable Exchange under Figuring Depreciation Under MACRS in chapter 7.

Partially Nontaxable Exchanges

A partially nontaxable exchange is an exchange in which you receive property that is not a like-kind property or money in addition to a like-kind property. The basis of the property you receive is the same as the adjusted basis of the property you gave up with the following adjustments.

If the other party to the exchange assumes your liabilities, treat the debt assumption as money you received in the exchange.

Example 1. You trade farmland (basis of $100,000) for another tract of farmland (FMV of $110,000) and $30,000 cash. You realize a gain of $40,000. This is the FMV of the land received plus the cash minus the basis of the land you traded ($110,000 + $30,000 - $100,000). Include your gain in income (recognize gain) only to the extent of the cash received. Your basis in the land you received is figured as follows.

 Basis of land traded                   $100,000

 Minus: Cash received (adjustment

 1(a))                                  - 30,000

                                        --------

                                         $70,000

 Plus: Gain recognized (adjustment

 2(b))                                  + 30,000

                                        --------

Basis of land received                 $100,000

                                        ========

You trade a truck (adjusted basis of $22,750) for another truck (FMV of $20,000) and $10,000 cash. You realize a gain of $7,250. This is the FMV of the truck received plus the cash minus the adjusted basis of the truck you traded ($20,000 + $10,000 - $22,750). You include all the gain in your income (recognize gain) because the gain is less than the cash you received. Your basis in the truck you received is figured as follows.

 Adjusted basis of truck traded         $22,750

 Minus: Cash received (adjustment

 1(a))                                  -10,000

                                        -------

                                        $12,750

 Plus: Gain recognized (adjustment

 2(b))                                  + 7,250

                                        -------

Basis of truck received                $20,000

                                        =======

If you receive like-kind and unlike properties in the exchange, allocate the basis first to the unlike property, other than money, up to its FMV on the date of the exchange. The rest is the basis of the like-kind property.

Example. You traded a tractor with an adjusted basis of $95,000 for another tractor that had an FMV of $92,500. You also received $1,000 cash and a truck that had an FMV of $19,000. The truck is unlike property. You realized a gain of $17,500. This is the FMV of the tractor received plus the FMV of the truck received plus the cash minus the adjusted basis of the tractor you traded ($92,500 + $19,000 + $1,000 - $95,000). You include in income (recognize) all $17,500 of the gain because it is less than the FMV of the unlike property plus the cash received. Your basis in the properties you received is figured as follows.

 Adjusted basis of old tractor          $95,000

 Minus: Cash received (adjustment

 1(a))                                  - 1,000

                                       --------

                                        $94,000

 Plus: Gain recognized (adjustment

 2(b))                                 + 17,500

                                       --------

Total basis of properties

 received                              $111,500

                                       ========

Allocate the total basis of $111,500 first to the unlike property--the truck ($19,000). This is the truck's FMV. The rest ($92,500) is the basis of the tractor.

Sale and Purchase

If you sell property and buy similar property in two mutually dependent transactions, you may have to treat the sale and purchase as a single nontaxable exchange.

Example. You used a tractor on your farm for 3 years. Its adjusted basis is $22,000 and its FMV is $40,000. You are interested in a new tractor, which sells for $60,000. Ordinarily, you would trade your old tractor for the new one and pay the dealer $20,000. Your basis for depreciating the new tractor would then be $42,000 ($20,000 + $22,000, the adjusted basis of your old tractor). However, you want a higher basis for depreciating the new tractor, so you agree to pay the dealer $60,000 for the new tractor if he will pay you $40,000 for your old tractor. Because the two transactions are dependent on each other, you are treated as having exchanged your old tractor for the new one and paid $20,000 ($60,000 - $40,000). Your basis for depreciating the new tractor is $42,000, the same as if you traded the old tractor.

Property Received as a Gift

To figure the basis of property you receive as a gift, you must know the donor's adjusted basis (defined earlier) just before it was given to you. You also must know its FMV at the time it was given to you and any gift tax paid on it.

FMV equal to or greater than donor's adjusted basis. If the FMV of the property is equal to or greater than the donor's adjusted basis, your basis is the donor's adjusted basis when you received the gift. Increase your basis by all or part of any gift tax paid, depending on the date of the gift.

Also, for figuring gain or loss from a sale or other disposition of the property, or for figuring depreciation, depletion, or amortization deductions on business property, you must increase or decrease your basis (the donor's adjusted basis) by any required adjustments to basis while you held the property. See Adjusted Basis, earlier.

If you received a gift during the tax year, increase your basis in the gift (the donor's adjusted basis) by the part of the gift tax paid on it due to the net increase in value of the gift. Figure the increase by multiplying the gift tax paid by the following fraction.

                   Net increase in value of the gift

                   ---------------------------------

                          Amount of the gift

The net increase in value of the gift is the FMV of the gift minus the donor's adjusted basis. The amount of the gift is its value for gift tax purposes after reduction by any annual exclusion and marital or charitable deduction that applies to the gift.

Example. In 2015, you received a gift of property from your mother that had an FMV of $50,000. Her adjusted basis was $20,000. The amount of the gift for gift tax purposes was $36,000 ($50,000 minus the $14,000 annual exclusion). She paid a gift tax of $7,320. Your basis, $26,076, is figured as follows.

 Fair market value                         $50,000

 Minus: Adjusted basis                     -20,000

                                           -------

 Net increase in value                     $30,000

                                           =======

 Gift tax paid                              $7,320

 Multiplied by ($30,000 ÷ $36,000)           × .83

                                           -------

 Gift tax due to net increase in value      $6,076

 Adjusted basis of property to your

   mother                                  +20,000

                                           -------

Your basis in the property                $26,076

                                           =======

If you received a gift before 1977, your basis in the gift (the donor's adjusted basis) includes any gift tax paid on it. However, your basis cannot exceed the FMV of the gift when it was given to you.

FMV less than donor's adjusted basis. If the FMV of the property at the time of the gift is less than the donor's adjusted basis, your basis depends on whether you have a gain or a loss when you dispose of the property. Your basis for figuring gain is the donor's adjusted basis plus or minus any required adjustments to basis while you held the property. Your basis for figuring loss is its FMV when you received the gift plus or minus any required adjustments to basis while you held the property. (See Adjusted Basis, earlier.)

If you use the donor's adjusted basis for figuring a gain and get a loss, and then use the FMV for figuring a loss and get a gain, you have neither gain nor loss on the sale or other disposition of the property.

Example. You received farmland as a gift from your parents when they retired from farming. At the time of the gift, the land had an FMV of $80,000. Your parents' adjusted basis was $100,000. After you received the land, no events occurred that would increase or decrease your basis.

If you sell the land for $120,000, you will have a $20,000 gain because you must use the donor's adjusted basis at the time of the gift ($100,000) as your basis to figure a gain. If you sell the land for $70,000, you will have a $10,000 loss because you must use the FMV at the time of the gift ($80,000) as your basis to figure a loss.

If the sales price is between $80,000 and $100,000, you have neither gain nor loss. For instance, if the sales price was $90,000 and you tried to figure a gain using the donor's adjusted basis ($100,000), you would get a $10,000 loss. If you then tried to figure a loss using the FMV ($80,000), you would get a $10,000 gain.

Business property. If you hold the gift as business property, your basis for figuring any depreciation, depletion, or amortization deductions is the same as the donor's adjusted basis plus or minus any required adjustments to basis while you hold the property.

Property Transferred From a Spouse

The basis of property transferred to you or transferred in trust for your benefit by your spouse is the same as your spouse's adjusted basis. The same rule applies to a transfer by your former spouse if the transfer is incident to divorce. However, for property transferred in trust, adjust your basis for any gain recognized by your spouse or former spouse if the liabilities assumed plus the liabilities to which the property is subject are more than the adjusted basis of the property transferred.

The transferor must give you the records needed to determine the adjusted basis and holding period of the property as of the date of the transfer.

For more information, see Property Settlements in Pub. 504, Divorced or Separated Individuals.

Inherited Property

Your basis in property you inherited from a decedent is generally one of the following.

If a federal estate tax return does not have to be filed, your basis in the inherited property is its appraised value at the date of death for state inheritance or transmission taxes.

Special-use valuation method. Under certain conditions, when a person dies, the executor or personal representative of that person's estate may elect to value qualified real property at other than its FMV. If so, the executor or personal representative values the qualified real property based on its use as a farm or other closely held business. If the executor or personal representative elects this method of valuation for estate tax purposes, this value is the basis of the property for the qualified heirs. The qualified heirs should be able to get the necessary value from the executor or personal representative of the estate.

If you are a qualified heir who received special-use valuation property, increase your basis by any gain recognized by the estate or trust because of post-death appreciation. Post-death appreciation is the property's FMV on the date of distribution minus the property's FMV either on the date of the individual's death or on the alternate valuation date. Figure all FMVs without regard to the special-use valuation.

You may be liable for an additional estate tax if, within 10 years after the death of the decedent, you transfer the property or the property stops being used as a farm. This tax does not apply if you dispose of the property in a like-kind exchange or in an involuntary conversion in which all of the proceeds are reinvested in qualified replacement property. The tax also does not apply if you transfer the property to a member of your family and certain requirements are met.

You can elect to increase your basis in special-use valuation property if it becomes subject to the additional estate tax. To increase your basis, you must make an irrevocable election and pay interest on the additional estate tax figured from the date 9 months after the decedent's death until the date of payment of the additional estate tax. If you meet these requirements, increase your basis in the property to its FMV on the date of the decedent's death or the alternate valuation date. The increase in your basis is considered to have occurred immediately before the event that resulted in the additional estate tax.

You make the election by filing, with Form 706-A, United States Additional Estate Tax Return, a statement that:

For more information, see Form 706, United States Estate (and Generation-Skipping Transfer) Tax Return, Form 706-A, and the related instructions.

Property Distributed From a Partnership or Corporation

The following rules apply to determine a partner's basis and a shareholder's basis in property distributed respectively from a partnership to the partner with respect to the partner's interest in the partnership and from a corporation to the shareholder with respect to the shareholder's ownership of stock in the corporation.

Partner's basis. Unless there is a complete liquidation of a partner's interest, the basis of property (other than money) distributed by a partnership to the partner is its adjusted basis to the partnership immediately before the distribution. However, the basis of the property to the partner cannot be more than the adjusted basis of his or her interest in the partnership reduced by any money received in the same transaction. For more information, see Partner's Basis for Distributed Property in Pub. 541, Partnerships.

Shareholder's basis. The basis of property distributed by a corporation to a shareholder is its fair market value. For more information about corporate distributions, see Distributions to Shareholders in Pub. 542, Corporations.

7. Depreciation, Depletion, and Amortization

What's New for 2015

Section 179 expense deduction dollar limits. The maximum amount you can elect to deduct for most section 179 property you placed in service in 2015 is $25,000. This limit is reduced by the amount by which the cost of the property placed in service during the tax year exceeds $200,000. See Dollar Limits under Section 179 Expense Deduction, later.

CAUTION: At the time this publication went to print, Congress had not enacted legislation on the expired provisions related to depreciation. To find out if legislation has been enacted, go to http://www.irs.gov/formspubs, or http://www.irs.gov/pub946.

Introduction

If you buy or make improvements to farm property such as machinery, equipment, livestock, or a structure with a useful life of more than a year, you generally cannot deduct its entire cost in one year. Instead, you must spread the cost over the time you use the property and deduct part of it each year. For most types of property, this is called depreciation.

This chapter gives information on depreciation methods that generally apply to property placed in service after 1986. For information on depreciating pre-1987 property, see Publication 534, Depreciating Property Placed in Service Before 1987.

Topics

This chapter discusses:

You may want to see:

Publication

See chapter 16 for information about getting publications and forms.

RECORDS: It is important to keep good records for property you depreciate. Do not file these records with your return. Instead, you should keep them as part of the permanent records of the depreciated property. They will help you verify the accuracy of the depreciation of assets placed in service in the current and previous tax years. For general information on recordkeeping, see Publication 583, Starting a Business and Keeping Records. For specific information on keeping records for section 179 property and listed property, see Publication 946, How To Depreciate Property.

Overview of Depreciation

This overview discusses basic information on the following.

What Property Can Be Depreciated?

You can depreciate most types of tangible property (except land), such as buildings, machinery, equipment, vehicles, certain livestock, and furniture. You can also depreciate certain intangible property, such as copyrights, patents, and computer software. To be depreciable, the property must meet all the following requirements.

To claim depreciation, you usually must be the owner of the property. You are considered as owning property even if it is subject to a debt.

Leased property. You can depreciate leased property only if you retain the incidents of ownership in the property. This means you bear the burden of exhaustion of the capital investment in the property. If you lease property from someone to use in your trade or business or for the production of income, you generally cannot depreciate its cost because you do not have the incidents of ownership. You can, however, depreciate any capital improvements you make to the leased property. See Additions and Improvements under Which Recovery Period Applies in chapter 4 of Publication 946.

You generally can depreciate the cost of property you lease to someone even if the lessee (the person leasing from you) has agreed to preserve, replace, renew, and maintain the property. However, you cannot depreciate the cost of the property if the lease provides that the lessee is to maintain the property and return to you the same property or its equivalent in value at the expiration of the lease in as good condition and value as when leased.

Life tenant. Generally, if you hold business or investment property as a life tenant, you can depreciate it as if you were the absolute owner of the property. See Certain term interests in property, later, for an exception.

Property Used in Your Business or Income-Producing Activity

To claim depreciation on property, you must use it in your business or income-producing activity. If you use property to produce income (investment use), the income must be taxable. You cannot depreciate property that you use solely for personal activities. However, if you use property for business or investment purposes and for personal purposes, you can deduct depreciation based only on the percentage of business or investment use.

Example 1. If you use your car for farm business, you can deduct depreciation based on its percentage of use in farming. If you also use it for investment purposes, you can depreciate it based on its percentage of investment use.

Example 2. If you use part of your home for business, you may be able to deduct depreciation on that part based on its business use. For more information, see Business Use of Your Home in chapter 4.

TIP: You may be able to use the simplified method to determine your business use of the home deduction. If you chose to use the simplified method, you cannot also deduct depreciation on the part of the home used for business. For more information about the simplified method, see Publication 587, Business Use of Your Home.

Inventory. You can never depreciate inventory because it is not held for use in your business. Inventory is any property you hold primarily for sale to customers in the ordinary course of your business.

Livestock. Livestock purchased for draft, breeding, or dairy purposes can be depreciated only if they are not kept in an inventory account. Livestock you raise usually has no depreciable basis because the costs of raising them are deducted and not added to their basis. However, see Immature livestock under When Does Depreciation Begin and End, later, for a special rule.

Property Having a Determinable Useful Life

To be depreciable, your property must have a determinable useful life. This means it must be something that wears out, decays, gets used up, becomes obsolete, or loses its value from natural causes.

Irrigation systems and water wells. Irrigation systems and wells used in a trade or business can be depreciated if their useful life can be determined. You can depreciate irrigation systems and wells composed of masonry, concrete, tile (including drainage tile), metal, or wood. In addition, you can depreciate costs for moving dirt to construct irrigation systems and water wells composed of these materials. However, land preparation costs for center pivot irrigation systems are not depreciable.

Dams, ponds, and terraces. In general, you cannot depreciate earthen dams, ponds, and terraces unless the structures have a determinable useful life.

What Property Cannot Be Depreciated?

Certain property cannot be depreciated, even if the requirements explained earlier are met. This includes the following.

Computer software is generally not a section

intangible even if acquired in connection with the acquisition of a business, if it meets all of the following tests.

If the software meets the tests above, it can be depreciated and may qualify for the section

expense deduction and the special depreciation allowance (if applicable), discussed later.

Certain term interests in property. You cannot depreciate a term interest in property created or acquired after July 27, 1989, for any period during which the remainder interest is held, directly or indirectly, by a person related to you. This rule does not apply to the holder of a term interest in property acquired by gift, bequest, or inheritance. For more information, see chapter 1 of Publication 946.

When Does Depreciation Begin and End?

You begin to depreciate your property when you place it in service for use in your trade or business or for the production of income. You stop depreciating property either when you have fully recovered your cost or other basis or when you retire it from service, whichever happens first.

Placed in Service

Property is placed in service when it is ready and available for a specific use, whether in a business activity, an income-producing activity, a tax-exempt activity, or a personal activity. Even if you are not using the property, it is in service when it is ready and available for its specific use.

Example. You bought a planter for use in your farm business. The planter was delivered in December 2014 after harvest was over. You begin to depreciate the planter for 2014 because it was ready and available for its specific use in 2014, even though it will not be used until the spring of 2015.

If your planter comes unassembled in December 2014 and is put together in February 2015, it is not placed in service until 2015. You begin to depreciate it in 2015.

If your planter was delivered and assembled in February 2015 but not used until April 2015, it is placed in service in February 2015, because this is when the planter was ready for its specified use. You begin to depreciate it in 2015.

Fruit or nut trees and vines. If you acquire an orchard, grove, or vineyard before the trees or vines have reached the income-producing stage, and they have a preproductive period of more than 2 years, you must capitalize the preproductive-period costs under the uniform capitalization rules (unless you elect not to use these rules). See chapter 6 for information about the uniform capitalization rules. Your depreciation begins when the trees and vines reach the income-producing stage (that is, when they bear fruit, nuts, or grapes in quantities sufficient to commercially warrant harvesting).

Immature livestock. Depreciation for livestock begins when the livestock reaches the age of maturity. If you bought immature livestock for drafting purposes, depreciation begins when they can be worked. If you bought immature livestock for breeding or dairy purposes, depreciation begins when they can be bred. Your basis for depreciation is your initial cost for the immature livestock.

Idle Property

Continue to claim a deduction for depreciation on property used in your business or for the production of income even if it is temporarily idle. For example, if you stop using a machine because there is a temporary lack of a market for a product made with that machine, continue to deduct depreciation on the machine.

Cost or Other Basis Fully Recovered

You stop depreciating property when you have fully recovered your cost or other basis. This happens when your section 179 and allowed or allowable depreciation deductions equal your cost or investment in the property.

Retired From Service

You stop depreciating property when you retire it from service, even if you have not fully recovered its cost or other basis. You retire property from service when you permanently withdraw it from use in a trade or business or from use in the production of income because of any of the following events.

For information on abandonment of property, see chapter 8. For information on destroyed property, see chapter 11 and

, Casualties, Disasters, and Thefts.

Can You Use MACRS To Depreciate Your Property?

You must use the Modified Accelerated Cost Recovery System (MACRS) to depreciate most business and investment property placed in service after 1986. MACRS is explained later under Figuring Depreciation Under MACRS.

You cannot use MACRS to depreciate the following property.

For more information, see chapter 1 of

.

What Is the Basis of Your Depreciable Property?

To figure your depreciation deduction, you must determine the basis of your property. To determine basis, you need to know the cost or other basis of your property.

Cost or other basis. The basis of property you buy is usually its cost plus amounts you paid for items such as sales tax, freight charges, and installation and testing fees. The cost includes the amount you pay in cash, debt obligations, other property, or services.

There are times when you cannot use cost as basis. In these situations, the fair market value (FMV) or the adjusted basis of the property may be used.

Adjusted basis. To find your property's basis for depreciation, you may have to make certain adjustments (increases and decreases) to the basis of the property for events occurring between the time you acquired the property and the time you placed it in service.

Basis adjustment for depreciation allowed or allowable. After you place your property in service, you must reduce the basis of the property by the depreciation allowed or allowable, whichever is greater. Depreciation allowed is depreciation you actually deducted (from which you received a tax benefit). Depreciation allowable is depreciation you are entitled to deduct.

If you do not claim depreciation you are entitled to deduct, you must still reduce the basis of the property by the full amount of depreciation allowable.

If you deduct more depreciation than you should, you must reduce your basis by any amount deducted from which you received a tax benefit (the depreciation allowed).

For more information, see chapter 6.

How Do You Treat Repairs and Improvements?

If you improve depreciable property, you must treat the improvement as separate depreciable property. Improvement means an addition to or partial replacement of property that is a betterment to the property, restores the property, or adapts it to a new or different use. See Regulations section Publication 946 for more information.

Example. You repair a small section on a corner of the roof of a barn that you rent to others. You deduct the cost of the repair as a business expense. However, if you replace the entire roof, the new roof is considered to be an improvement because it increases the value and lengthens the life for the property. You depreciate the cost of the new roof.

Improvements to rented property. You can depreciate permanent improvements you make to business property you rent from someone else.

Do You Have To File Form 4562?

Use Form 4562 to claim your deduction for depreciation and amortization. You must complete and attach Form 4562 to your tax return if you are claiming any of the following.

For more information, see the Instructions for Form 4562.

How Do You Correct Depreciation Deductions?

If you deducted an incorrect amount of depreciation in any year, you may be able to make a correction by filing an amended return for that year. You can file an amended return to correct the amount of depreciation claimed for any property in any of the following situations.

You have adopted a method of accounting if you used the same incorrect method of depreciation for two or more consecutively filed returns.

If you are not allowed to make the correction on an amended return, you may be able to change your accounting method to claim the correct amount of depreciation. See the Instructions for Form 3115.

Section 179 Expense Deduction

You can elect to recover all or part of the cost of certain qualifying property, up to a limit, by deducting it in the year you place the property in service. This is the section 179 expense deduction. You can elect the section 179 expense deduction instead of recovering the cost by taking depreciation deductions.

This part of the chapter explains the rules for the section 179 expense deduction. It explains what property qualifies for the deduction, what property does not qualify for the deduction, the limits that may apply, how to elect the deduction, and when you may have to recapture the deduction.

For more information, see chapter 2 of Publication 946.

What Property Qualifies?

To qualify for the section 179 expense deduction, your property must meet all the following requirements.

To qualify for the section 179 expense deduction, your property must be one of the following types of depreciable property.

Tangible personal property is any tangible property that is not real property. It includes the following property.

A facility used for the bulk storage of fungible commodities is qualifying property for purposes of the section

expense deduction if it is used in connection with any of the activities listed earlier in item (2)(c). Bulk storage means the storage of a commodity in a large mass before it is used.

Grain bins. A grain bin is an example of a storage facility that is qualifying section 179 property. It is a facility used in connection with the production of grain or livestock for the bulk storage of fungible commodities.

Single purpose agricultural or horticultural structures. A single purpose agricultural (livestock) or horticultural structure is qualifying property for purposes of the section 179 expense deduction.

Agricultural structure. A single purpose agricultural (livestock) structure is any building or enclosure specifically designed, constructed, and used for both the following reasons.

For this purpose, livestock includes poultry.

Single purpose structures are qualifying property if used, for example, to breed chickens or hogs, produce milk from dairy cattle, or produce feeder cattle or pigs, broiler chickens, or eggs. The facility must include, as an integral part of the structure or enclosure, equipment necessary to house, raise, and feed the livestock.

Horticultural structure. A single purpose horticultural structure is either of the following.

A structure must be used only for the purpose that qualified it. For example, a hog barn will not be qualifying property if you use it to house poultry. Similarly, using part of your greenhouse to sell plants will make the greenhouse nonqualifying property.

If a structure includes work space, the work space can be used only for the following activities.

To qualify for the section 179 expense deduction, your property must have been acquired by purchase. For example, property acquired by gift or inheritance does not qualify. Property acquired from a related person (that is, your spouse, ancestors, or lineal descendants) is not considered acquired by purchase. New or used equipment you acquired by purchase during the current tax year qualifies for the section 179 deduction.

Example. Adrian is a farmer. He purchased two tractors, one from his brother and one from his father. He placed both tractors in service in the same year he bought them. The tractor purchased from his father does not qualify for the section 179 expense deduction because he is a related person (as defined above). The tractor purchased from his brother does qualify for the deduction because Adrian is not a related person (as defined above).

What Property Does Not Qualify?

Land and improvements. Land and land improvements, do not qualify as section 179 property. Land improvements include nonagricultural fences, swimming pools, paved parking areas, wharves, docks, bridges, and fences. However, agricultural fences do qualify as section 179 property. Similarly, field drainage tile also qualifies as section 179 property.

Excepted property. Even if the requirements explained in the preceding discussions are met, farmers cannot elect the section 179 expense deduction for the following property.

How Much Can You Deduct?

Your section 179 expense deduction is generally the cost of the qualifying property. However, the total amount you can elect to deduct under section 179 is subject to a dollar limit and a business income limit. These limits apply to each taxpayer, not to each business. However, see Married individuals under Dollar Limits, later. See also the special rules for applying the limits for partnerships and S corporations under Partnerships and S Corporations, later.

If you deduct only part of the cost of qualifying property as a section 179 expense deduction, you can generally depreciate the cost you do not deduct.

Use Part I of Form 4562 to figure your section 179 expense deduction.

Partial business use. When you use property for business and nonbusiness purposes, you can elect the section 179 expense deduction only if you use it more than 50% for business in the year you place it in service. If you used the property more than 50% for business, multiply the cost of the property by the percentage of business use. Use the resulting business cost to figure your section 179 expense deduction.

Trade-in of other property. If you buy qualifying property with cash and a trade-in, its cost for purposes of the section 179 expense deduction includes only the cash you paid. For example, if you buy (for cash and a trade-in) a new tractor for use in your business, your cost for the section 179 expense deduction is the cash you paid. It does not include the adjusted basis of the old tractor you trade for the new tractor.

Example. Adyo Farms traded two cultivators having a total adjusted basis of $6,800 for a new cultivator costing $13,200. They received an $8,000 trade-in allowance for the old cultivators and paid $5,200 cash for the new cultivator. Adyo also traded a used pickup truck with an adjusted basis of $8,000 for a new pickup truck costing $35,000. They received a $5,000 trade-in allowance and paid $30,000 cash for the new pickup truck.

Only the cash paid by Adyo qualifies for the section 179 expense deduction. Adyo's business costs that qualify for a section 179 expense deduction are $35,200 ($5,200 + $30,000). For information on the maximum amount you can elect to deduct, see Dollar Limits, below.

Dollar Limits

The total amount you can elect to deduct under section 179 for most property placed in service in 2015 is $25,000. If you acquire and place in service more than one item of qualifying property during the year, you can allocate the section 179 expense deduction among the items in any way, as long as the total deduction is not more than $25,000. You cannot carry costs in excess of the $25,000 limit over to future years.

Reduced dollar limit for cost exceeding $200,000. If the cost of your qualifying section 179 property placed in service in 2015 is over $200,000, you must reduce the dollar limit (but not below zero) by the amount of cost over $200,000. If the cost of your section 179 property placed in service during 2015 is $225,000 or more, you cannot take a section 179 expense deduction and you cannot carry over any of the cost that is more than $225,000.

Example. This year, George Thomas placed in service machinery costing $215,000. Because this cost is $15,000 more than $200,000, he must reduce his dollar limit to $10,000 ($25,000 - $15,000). He cannot carry over any of the costs that exceed the $10,000 reduced limit.

Limits for sport utility vehicles. The total amount you can elect to deduct for certain sport utility vehicles and certain other vehicles placed in service in 2015 is $25,000. This rule applies to any 4-wheeled vehicle primarily designed or used to carry passengers over public streets, roads, and highways that is rated at more than 6,000 pounds gross vehicle weight and not more than 14,000 pounds gross vehicle weight.

For more information, see chapter 2 of Publication 946.

Limits for passenger automobiles. For a passenger automobile that is placed in service in 2015, the total section 179 and depreciation deduction is limited. See Do the Passenger Automobile Limits Apply, later.

Married individuals. If you are married, how you figure your section 179 expense deduction depends on whether you file jointly or separately. If you file a joint return, you and your spouse are treated as one taxpayer in determining any reduction to the dollar limit, regardless of which of you purchased the property or placed it in service. If you and your spouse file separate returns, you are treated as one taxpayer for the dollar limit, including the reduction for costs over $200,000. You must allocate the dollar limit (after any reduction) equally between you, unless you both elect a different allocation. If the percentages elected by each of you do not total 100%, 50% will be allocated to each of you.

Joint return after separate returns. If you and your spouse elect to amend your separate returns by filing a joint return after the due date for filing your return, the dollar limit on the joint return is the lesser of the following amounts.

The total cost you can deduct each year after you apply the dollar limit is limited to the taxable income from the active conduct of any trade or business during the year. Generally, you are considered to actively conduct a trade or business if you meaningfully participate in the management or operations of the trade or business.

Any cost not deductible in one year under section 179 because of this limit can be carried to the next year. See Carryover of disallowed deduction, later.

Taxable income. In general, figure taxable income for this purpose by totaling the net income and losses from all trades and businesses you actively conducted during the year. In addition to net income or loss from a sole proprietorship, partnership, or S corporation, net income or loss derived from a trade or business also includes the following items.

In addition, figure taxable income without regard to any of the following.

In addition to the business income limit for your section

expense deduction, you may have a taxable income limit for some other deduction (for example, charitable contributions). You may have to figure the limit for this other deduction taking into account the section

expense deduction. If so, complete the following steps.

 -----------------------------------------------

Step                  Action

 -----------------------------------------------

   1    Figure taxable income without the

        section 179 expense deduction or the

        other deduction.

 -----------------------------------------------

   2    Figure a hypothetical section

        expense deduction using the taxable

        income figured in Step 1.

 -----------------------------------------------

   3    Subtract the hypothetical section

        expense deduction figured in Step 2

        from the taxable income figured in Step

        1.

 -----------------------------------------------

   4    Figure a hypothetical amount for the

        other deduction using the amount

        figured in Step 3 as taxable income.

 -----------------------------------------------

   5    Subtract the hypothetical other

        deduction figured in Step 4 from the

        taxable income figured in

        Step 1.

 -----------------------------------------------

   6    Figure your actual section

 expense

        deduction using the taxable income

        figured in Step 5.

 -----------------------------------------------

   7    Subtract your actual section

        expense deduction figured in Step 6

        from the taxable income figured in Step

        1.

 -----------------------------------------------

   8    Figure your actual other deduction using

        the taxable income figured in Step 7.

 -----------------------------------------------

On February 1, 2015, the XYZ farm corporation purchased and placed in service qualifying section

property that cost $25,000. It elects to expense the entire $25,000 cost under section

. In June, the corporation gave a charitable contribution of $10,000. A corporation's limit on charitable contributions is figured after subtracting any section

expense deduction. The business income limit for the section

expense deduction is figured after subtracting any allowable charitable contributions. XYZ's taxable income figured without the section

expense deduction or the deduction for charitable contributions is $45,000. XYZ figures its section

expense deduction and its deduction for charitable contributions as follows.

Step 1. Taxable income figured without either deduction is $45,000.

Step 2. Using $45,000 as taxable income, XYZ's hypothetical section 179 expense deduction is $25,000.

Step 3. $20,000 ($45,000 - $25,000).

Step 4. Using $20,000 (from Step 3) as taxable income, XYZ's hypothetical charitable contribution (limited to 10% of taxable income) is $2,000.

Step 5. $43,000 ($45,000 - $2,000).

Step 6. Using $43,000 (from Step 5) as taxable income, XYZ figures the actual section 179 expense deduction. Because the taxable income is at least $25,000, XYZ can take a $25,000 section 179 expense deduction.

Step 7. $20,000 ($45,000 - $25,000).

Step 8. Using $20,000 (from Step 7) as taxable income, XYZ's actual charitable contribution (limited to 10% of taxable income) is $2,000.

Carryover of disallowed deduction. You can carry over for an unlimited number of years the cost of any section 179 property you elected to expense but were unable to because of the business income limit.

The amount you carry over is used in determining your section 179 expense deduction in the next year. However, it is subject to the limits in that year. If you place more than one property in service in a year, you can select the properties for which all or a part of the cost will be carried forward. Your selections must be shown in your books and records.

Example. Last year, Diana Reynolds placed in service a machine that cost $8,000 and elected to deduct all $8,000 under section 179. The taxable income from her business (determined without regard to both a section 179 expense deduction for the cost of the machine and the self-employment tax deduction) was $6,000. Her section 179 expense deduction was limited to $6,000. The $2,000 cost that was not allowed as a section 179 expense deduction (because of the business income limit) is carried to this year.

This year, Diana placed another machine in service that cost $9,000. Her taxable income from business (determined without regard to both a section 179 expense deduction for the cost of the machine and the self-employment tax deduction) is $10,000. Diana can deduct the full cost of the machine ($9,000) but only $1,000 of the carryover from last year because of the business income limit. She can carry over the balance of $1,000 to next year.

Partnerships and S Corporations

The section 179 expense deduction limits apply both to the partnership or S corporation and to each partner or shareholder. The partnership or S corporation determines its section 179 expense deduction subject to the limits. It then allocates the deduction among its partners or shareholders.

If you are a partner in a partnership or shareholder of an S corporation, you add the amount allocated from the partnership or S corporation to any section 179 costs not related to the partnership or S corporation and then apply the dollar limit to this total. To determine any reduction in the dollar limit for costs over $200,000, you do not include any of the cost of section 179 property placed in service by the partnership or S corporation. After you apply the dollar limit, you apply the business income limit to any remaining section 179 costs. For more information, see chapter 2 of Publication 946.

Example. In 2015, Partnership P placed in service section 179 property with a total cost of $210,000. P must reduce its dollar limit by $10,000 ($210,000 - $200,000). Its maximum section 179 expense deduction is $15,000 ($25,000 - $10,000), and it elects to expense that amount. Because P's taxable income from the active conduct of all its trades or businesses for the year was $100,000, it can deduct the full $15,000. P allocates $10,000 of its section 179 expense deduction and $10,000 of its taxable income to John, one of its partners.

John also conducts a business as a sole proprietor and in 2015, placed in service in that business, section 179 property costing $38,000. John's taxable income from that business was $10,000. In addition to the $10,000 allocated from P, he elects to expense the $15,000 of his sole proprietorship's section 179 costs. However, John's deduction is limited to his business taxable income of $20,000 ($10,000 from P plus $10,000 from his sole proprietorship). He carries over $5,000 ($25,000 - $20,000) of the elected section 179 costs to 2016.

How Do You Elect the Deduction?

You elect to take the section 179 expense deduction by completing Part I of Form 4562.

CAUTION: If you elect the deduction for listed property, complete Part V of Form 4562 before completing Part I.

File Form 4562 with either of the following:

The election made for tax years beginning in 2015 (or any specification made in the election) cannot be revoked without obtaining IRS approval.

The IRS will grant approval only in extraordinary circumstances. A request to change or revoke the election is subject to a user fee. You should follow the procedures for requesting a letter ruling in Revenue Procedure 2015-1 on page 1 of Internal Revenue Bulletin 2015-1 available at http://www.irs.gov/irb/2015-1_IRB/ar13.html (or its successor) to file a request to change or revoke the election. When you file your request you must include the following information:

See section

The election made for tax years beginning after 2002 and before 2015 (or any specification made in the election) can be revoked without obtaining IRS approval by filing an amended return. The amended return must be filed within the time prescribed by law for the applicable tax year. The amended return must include any resulting adjustments to taxable income or to the tax liability (for example, allowable depreciation in the tax year for the item of section 179 property which the revocation pertains). For more information and examples, see sections 179 expense deduction if, in any year during the property's recovery period, the percentage of business use drops to 50% or less. In the year the business use drops to 50% or less, you include the recapture amount as ordinary income. You also increase the basis of the property by the recapture amount. Recovery periods for property are discussed later.

CAUTION: If you sell, exchange, or otherwise dispose of the property, do not figure the recapture amount under the rules explained in this discussion. Instead, use the rules for recapturing depreciation explained in chapter 9 under Section 1245 Property.

CAUTION: If the property is listed property, do not figure the recapture amount under the rules explained in this discussion when the percentage of business use drops to 50% or less. Instead, use the rules for recapturing depreciation explained in chapter 5 of Publication 946 under Recapture of Excess Depreciation.

Figuring the recapture amount. To figure the amount to recapture, take the following steps.

In January 2013, Paul Lamb, a calendar year taxpayer, bought and placed in service section

property costing $10,000. The property is not listed property. He elected a $5,000 section

expense deduction for the property and also elected not to claim a special depreciation allowance. He used the property only for business in 2013 and 2014. During 2015, he used the property 40% for business and 60% for personal use. He figures his recapture amount as follows.

 Section 179 expense deduction claimed

 (2013)                                                 $5,000

Minus:

 Allowable depreciation

 (instead of section

 expense deduction):

 2013                                          $1,250

 2014                                           1,875

 2015 ($1,250 × 40% (business))                   500    3,625

                                               ------   ------

2015 -- Recapture amount                               $1,375

                                                        ======

Paul must include $1,375 in income for 2015.

Where to report recapture. Report any recapture of the section 179 expense deduction as ordinary income in Part IV of Form 4797 and include it in income on Schedule F (Form 1040).

Recapture for qualified section 179 GO Zone property. If any qualified section 179 GO Zone property ceases to be used in the GO Zone in a later year, you must recapture the benefit of the increased section 179 expense deduction as "other income."

Claiming the Special Depreciation Allowance

For qualified property (defined below) placed in service in 2015, you can take an additional 50% special depreciation allowance. The allowance is an additional deduction you can take before you figure regular depreciation under MACRS. Figure the special depreciation allowance by multiplying the depreciable basis of the qualified property by 50%.

What is Qualified Property?

For farmers, qualified property generally is certain qualified property acquired after December 31, 2007, and placed in service before January 1, 2016.

Certain qualified property acquired after December 31, 2007, and placed in service before January 1, 2016. Certain qualified property (defined below) acquired after December 31, 2007, and before January 1, 2016, is eligible for a 50% special depreciation allowance.

Qualified property includes the following:

Qualified property must also meet all of the following tests:

For more information, see chapter 3 of

.

How Can You Elect Not To Claim the Allowance?

You can elect, for any class of property, not to deduct the special depreciation allowance for all property in such class placed in service during the tax year. To make the election, attach a statement to your return indicating the class of property for which you are making the election.

Generally, you must make the election on a timely filed tax return (including extensions) for the year in which you place the property in service. However, if you timely filed your return for the year without making the election, you still can make the election by filing an amended return within 6 months of the due date of the original return (not including extensions). Attach the election statement to the amended return. On the amended return, write "Filed pursuant to section

Once made, the election may not be revoked without IRS consent.

When you dispose of property for which you claimed a special depreciation allowance, any gain on the disposition is generally recaptured (included in income) as ordinary income up to the amount of the special depreciation allowance previously allowed or allowable. For more information, see chapter 3 of Publication 946.

Figuring Depreciation Under MACRS

The Modified Accelerated Cost Recovery System (MACRS) is used to recover the basis of most business and investment property placed in service after 1986. MACRS consists of two depreciation systems, the General Depreciation System (GDS) and the Alternative Depreciation System (ADS). Generally, these systems provide different methods and recovery periods to use in figuring depreciation deductions.

CAUTION: To be sure you can use MACRS to figure depreciation for your property, see Can You Use MACRS To Depreciate Your Property, earlier.

This part explains how to determine which MACRS depreciation system applies to your property. It also discusses the following information that you need to know before you can figure depreciation under MACRS.

Finally, this part explains how to use this information to figure your depreciation deduction.

Which Depreciation System (GDS or ADS) Applies?

Your use of either the General Depreciation System (GDS) or the Alternative Depreciation System (ADS) to depreciate property under MACRS determines what depreciation method and recovery period you use. You generally must use GDS unless you are specifically required by law to use ADS or you elect to use ADS.

Required use of ADS. You must use ADS for the following property.

Electing ADS. Although your property may qualify for GDS, you can elect to use ADS. The election generally must cover all property in the same property class you placed in service during the year. However, the election for residential rental property and nonresidential real property can be made on a property-by-property basis. Once you make this election, you can never revoke it.

You make the election by completing line 20 in Part III of Form 4562.

Which Property Class Applies Under GDS?

The following is a list of the nine property classes under GDS.

See

in chapter 4 of

for examples of the types of property included in each class.

What Is the Placed-in-Service Date?

You begin to claim depreciation when your property is placed in service for use either in a trade or business or for the production of income. The placed-in-service date for your property is the date the property is ready and available for a specific use. It is therefore not necessarily the date it is first used. If you converted property held for personal use to use in a trade or business or for the production of income, treat the property as being placed in service on the conversion date. See Placed in Service under When Does Depreciation Begin and End, earlier, for examples illustrating when property is placed in service.

What Is the Basis for Depreciation?

The basis for depreciation of MACRS property is the property's cost or other basis multiplied by the percentage of business/investment use. Reduce that amount by any credits and deductions allocable to the property. The following are examples of some of the credits and deductions that reduce basis.

For information about how to determine the cost or other basis of property, see

earlier. Also, see chapter 6.

For additional credits and deductions that affect basis, see section 1016 of the Internal Revenue Code.

Which Recovery Period Applies?

The recovery period of property is the number of years over which you recover its cost or other basis. It is determined based on the depreciation system (GDS or ADS) used. See Table 7-1 for recovery periods under both GDS and ADS for some commonly used assets. For a complete list of recovery periods, see the Table of Class Lives and Recovery Periods in Appendix B of Publication 946.

Table 7-1. Farm Property Recovery Periods

 ----------------------------------------------------------------------

Recovery Period in Years

                                              -------------------------

Assets                                          GDS              ADS

 Agricultural structures (single purpose)         10               15

 Automobiles                                       5                5

 Calculators and copiers                           5                6

 Cattle (dairy or breeding)                        5                7

 Communication equipment

¹

                          7               10

 Computer and peripheral equipment                 5                5

 Drainage facilities                              15               20

 Farm buildings

²

                                  20               25

 Farm machinery and equipment                      7               10

 Fences (agricultural)                             7               10

 Goats and sheep (breeding)                        5                5

 Grain bin                                         7               10

 Hogs (breeding)                                   3                3

 Horses (age when placed in service)

   Breeding and working (12 years or less)         7               10

   Breeding and working (more than 12 years)       3               10

   Racing horses (more than 2 years)               3               12

 Horticultural structures (single purpose)        10               15

 Logging machinery and equipment

³

                  5                6

 Nonresidential real property                     39

⁴

              40

 Office furniture, fixtures, and equipment (not

 calculators, copiers, or typewriters)             7               10

 Paved lots                                       15               20

 Residential rental property                      27.5             40

 Tractor units (over-the-road)                     3                4

 Trees or vines bearing fruit or nuts             10               20

 Truck (heavy duty, unloaded weight 13,000 lbs.

 or more)                                          5                6

 Truck (actual weight less than 13,000 lbs)        5                5

 Water wells                                      15               20

 ----------------------------------------------------------------------

¹

 Not including communication equipment listed in other classes.

²

 Not including single purpose agricultural or horticultural

 structures.

³

 Used by logging and sawmill operators for cutting of timber.

⁴

 For property placed in service after May 12, 1993; for property

 placed in service before May 13, 1993, the recovery period is 31.5

 years.

 ======================================================================

To depreciate a house trailer you supply as housing for those who work on your farm, use one of the following recovery periods if the house trailer is mobile (it has wheels and a history of movement).

However, if the house trailer is not mobile (its wheels have been removed and permanent utilities and pipes attached to it), use one of the following recovery periods.

Water wells used to provide water for raising poultry and livestock are land improvements. If they are depreciable, use one of the following recovery periods.

The types of water wells that can be depreciated were discussed earlier in

under

Which Convention Applies?

Under MACRS, averaging conventions establish when the recovery period begins and ends. The convention you use determines the number of months for which you can claim depreciation in the year you place property in service and in the year you dispose of the property. Use one of the following conventions.

For a detailed explanation of each convention, see

in chapter 4 of

. Also, see the Instructions for Form 4562.

Which Depreciation Method Applies?

MACRS provides three depreciation methods under GDS and one depreciation method under ADS.

The following table lists the types of property you can depreciate under each method. The declining balance method is abbreviated as DB and the straight line method is abbreviated as SL.

              Depreciation Table

System/Method              Type of Property

 ------------------------------------------------------

 GDS using           • All property used in a farming

 150% DB               business (except real property)

                     • All 15- and 20-year property

                     • Nonfarm 3-, 5-, 7-, and 10-year

                       property

¹

 ------------------------------------------------------

 GDS using SL        • Nonresidential real property

                     • Residential rental property

                     • Trees or vines bearing fruit or

                       nuts

                     • All 3-, 5-, 7-, 10-, 15-, and

                       20-year property

¹

 ------------------------------------------------------

 ADS using SL        • Property used predominantly

                       outside the United States

                     • Farm property used when an

                       election not to apply the

                       uniform capitalization rules is

                       in effect

                     • Tax-exempt property

                     • Tax-exempt bond-financed

                       property

                     • Imported property

²

                     • Any property for which you

                       elect to use this method

¹

 ------------------------------------------------------

 GDS using           •

Nonfarm

 3-, 5-, 7-, and

 200% DB               10-year property

 ------------------------------------------------------

¹

 Elective method

²

 See section

 of the Internal Revenue

 Code

 ======================================================

For personal property placed in service after 1988 in a farming business, you must use the 150% declining balance method over a GDS recovery period or you can elect one of the following methods.

Real property. You can depreciate real property using the straight line method under either GDS or ADS.

Switching to straight line. If you use a declining balance method, you switch to the straight line method in the year it provides an equal or greater deduction. If you use the MACRS percentage tables, discussed later under How Is the Depreciation Deduction Figured, you do not need to determine in which year your deduction is greater using the straight line method. The tables have the switch to the straight line method built into their rates.

Fruit or nut trees and vines. Depreciate trees and vines bearing fruit or nuts under GDS using the straight line method over a 10-year recovery period.

ADS required for some farmers. If you elect not to apply the uniform capitalization rules to any plant shown in Table 6-1 of chapter 6 and produced in your farming business, you must use ADS for all property you place in service in any year the election is in effect. See chapter 6 for a discussion of the application of the uniform capitalization rules to farm property.

Electing a different method. As shown in the Depreciation Table, you can elect a different method for depreciation for certain types of property. You must make the election by the due date of the return (including extensions) for the year you placed the property in service. However, if you timely filed your return for the year without making the election, you can still make the election by filing an amended return within 6 months of the due date of your return (excluding extensions). Attach the election to the amended return and write "Filed pursuant to section

CAUTION: If you elect to use a different method for one item in a property class, you must apply the same method to all property in that class placed in service during the year of the election. However, you can make the election on a property-by-property basis for residential rental and nonresidential real property.

ADS election. As explained earlier under Which Depreciation System (GDS or ADS) Applies, you can elect to use ADS even though your property may come under GDS. ADS uses the straight line method of depreciation over the ADS recovery periods, which are generally longer than the GDS recovery periods. The ADS recovery periods for many assets used in the business of farming are listed in Table 7-1. Additional ADS recovery periods for other classes of property may be found in the Table of Class Lives and Recovery Periods in Appendix B of Publication 946.

How Is the Depreciation Deduction Figured?

To figure your depreciation deduction under MACRS, you first determine the depreciation system, property class, placed-in-service date, basis amount, recovery period, convention, and depreciation method that applies to your property. Then you are ready to figure your depreciation deduction. You can figure it in one of two ways.

Using the MACRS Percentage Tables

To help you figure your deduction under MACRS, the IRS has established percentage tables that incorporate the applicable convention and depreciation method. These percentage tables are in Appendix A of Publication 946.

Rules for using the tables. The following rules cover the use of the percentage tables.

If you reduce the basis of your property because of a casualty, you cannot continue to use the percentage tables. For the year of the adjustment and the remaining recovery period, you must figure the depreciation yourself using the property's adjusted basis at the end of the year. See

in chapter 4 of

.

Figuring depreciation using the 150% DB method and half-year convention. Table 7-2 has the percentages for 3-, 5-, 7-, and 20-year property. The percentages are based on the 150% declining balance method with a change to the straight line method. This table covers only the half-year convention and the first 8 years for 20-year property. See Appendix A in Publication 946 for complete MACRS tables, including tables for the mid-quarter and mid-month convention.

The following examples show how to figure depreciation under MACRS using the percentages in Table 7-2.

Example 1. During the year, you bought an item of 7-year property for $10,000 and placed it in service. You do not elect a section 179 expense deduction for this property. In addition, the property is not qualified property for purposes of the special depreciation allowance. The unadjusted basis of the property is $10,000. You use the percentages in Table 7-2 to figure your deduction.

Since this is 7-year property, you multiply $10,000 by 10.71% to get this year's depreciation of $1,071. For next year, your depreciation will be $1,913 ($10,000 × 19.13%).

Example 2. You had a barn constructed on your farm at a cost of $20,000. You placed the barn in service this year. You elect not to claim the special depreciation allowance. The barn is 20-year property and you use the table percentages to figure your deduction. You figure this year's depreciation by multiplying $20,000 (unadjusted basis) by 3.75% to get $750. For next year, your depreciation will be $1,443.80 ($20,000 × 7.219%).

Table 7-2. 150% Declining Balance Method (Half-Year Convention)

 ------------------------------------------

Year

3-Year

5-Year

7-Year

20-Year

  1      25.0%   15.00%   10.71%    3.750%

  2      37.5    25.50    19.13     7.219

  3      25.0    17.85    15.03     6.677

  4      12.5    16.66    12.25     6.177

  5              16.66    12.25     5.713

  6               8.33    12.25     5.285

  7                       12.25     4.888

  8                        6.13     4.522

 ------------------------------------------

The following table has the straight line percentages for 3-, 5-, 7-, and 20-year property using the half-year convention. The table covers only the first 8 years for 20-year property. See Appendix A in

for complete MACRS tables, including tables for the mid-quarter and mid-month convention.

Table 7-3. Straight Line Method (Half-Year Convention)

 ------------------------------------------

Year

3-Year

5-Year

7-Year

20-Year

  1     16.67%     10%     7.14%     2.5%

  2     33.33      20     14.29      5.0

  3     33.33      20     14.29      5.0

  4     16.67      20     14.28      5.0

  5                20     14.29      5.0

  6                10     14.28      5.0

  7                       14.29      5.0

  8                        7.14      5.0

 ------------------------------------------

The following example shows how to figure depreciation under MACRS using the straight line percentages in Table 7-3.

Example. If in Example 2, earlier, you had elected the straight line method, you figure this year's depreciation by multiplying $20,000 (unadjusted basis) by 2.5% to get $500. For next year, your depreciation will be $1,000 ($20,000 × 5%).

Figuring Depreciation Without the Tables

If you are required to or would prefer to figure your own depreciation without using the tables, see Figuring the Deduction Without Using the Tables in chapter 4 of Publication 946.

Figuring the Deduction for Property Acquired in a Nontaxable Exchange

If your property has a carryover basis because you acquired it in an exchange or involuntary conversion of other property or in a nontaxable transfer, you generally figure depreciation for the property as if the exchange, conversion, or transfer had not occurred.

Property acquired in a like-kind exchange or involuntary conversion. You generally must depreciate the carryover basis of MACRS property acquired in a like-kind exchange or involuntary conversion over the remaining recovery period of the property exchanged or involuntarily converted. You also generally continue to use the same depreciation method and convention used for the exchanged or involuntarily converted property. This applies only to acquired property with the same or a shorter recovery period and the same or more accelerated depreciation method than the property exchanged or involuntarily converted. The excess basis, if any, of the acquired MACRS property is treated as newly placed in service MACRS property.

Election out. You can elect not to use the above rules. The election, if made, applies to both the acquired property and the exchanged or involuntarily converted property. If you make the election, figure depreciation by treating the carryover basis and excess basis, if any, for the acquired property as if placed in service the later of on the date you acquired it, or the time of the disposition of the exchanged or involuntarily converted property. For depreciation purposes, the adjusted basis of the exchanged or involuntarily converted property is treated as if it was disposed of at the time of the exchange or conversion.

When to make the election. You must make the election on a timely filed return (including extensions) for the year of replacement. Once made, the election may not be revoked without IRS consent.

For more information and special rules, see chapter 4 of Publication 946.

Property acquired in a nontaxable transfer. You must depreciate MACRS property acquired by a corporation or partnership in certain nontaxable transfers over the property's remaining recovery period in the transferor's hands, as if the transfer had not occurred. You must continue to use the same depreciation method and convention as the transferor. You can depreciate the part of the property's basis in excess of its carried-over basis (the transferor's adjusted basis in the property) as newly purchased MACRS property. For information on the kinds of nontaxable transfers covered by this rule, see chapter 4 of Publication 946.

How Do You Use General Asset Accounts?

To make it easier to figure MACRS depreciation, you can group separate assets into one or more general asset accounts (GAAs). You can then depreciate all the assets in each account as a single asset. Each account must include only assets, recovery period, depreciation method, and convention. You cannot include an asset if you use it in both a personal activity and a trade or business (or for the production of income) in the year in which you first placed it in service.

After you have set up a GAA, you generally figure the depreciation for it by using the applicable depreciation method, recovery period, and convention for the assets in the GAA. For each GAA, record the depreciation allowance in a separate depreciation reserve account.

There are additional rules for grouping assets in a GAA, figuring depreciation for a GAA, disposing of GAA assets, and terminating GAA treatment. Special rules apply in determining the basis and figuring the depreciation deduction for MACRS property in a GAA acquired in a like-kind exchange or involuntary conversion. For more details, see Regulations section Publication 946.

When Do You Recapture MACRS Depreciation?

When you dispose of property you depreciated using MACRS, any gain on the disposition is generally recaptured (included in income) as ordinary income up to the amount of the depreciation previously allowed or allowable for the property. For more information on depreciation recapture, see chapter 9. Also, see chapter 4 of Publication 946.

Additional Rules for Listed Property

Listed property includes cars and other property used for transportation, property used for entertainment, and certain computers.

Deductions for listed property (other than certain leased property) are subject to the following special rules and limits.

What Is Listed Property?

Listed property is any of the following.

A passenger automobile is any 4-wheeled vehicle made primarily for use on public streets, roads, and highways and rated at 6,000 pounds or less of unloaded gross vehicle weight (6,000 pounds or less of gross vehicle weight for trucks and vans). It includes any part, component, or other item physically attached to the automobile or usually included in the purchase price of an automobile. Electric passenger automobiles are vehicles produced by an original equipment manufacturer and designed to run primarily on electricity.

Note. A truck or van that is a qualified nonpersonal use vehicle is not considered a passenger automobile. See Qualified nonpersonal use vehicles under Passenger Automobiles in chapter 5 of Publication 946 for the definition of qualified nonpersonal use vehicles.

TIP: For most vehicles the gross vehicle weight rating generally can be found on the driver door post of the vehicle.

Other property used for transportation. This includes trucks, buses, boats, airplanes, motorcycles, and other vehicles used for transporting persons or goods.

Excepted vehicles. Other property used for transportation does not include the following vehicles.

For more information, see chapter 5 of

.

What Is the Business-Use Requirement?

You can claim the section 179 expense deduction for listed property and depreciate listed property using GDS and a declining balance method, if the property meets the business-use requirement. To meet this requirement, listed property must be used predominantly (more than 50% of its total use) for qualified business use. To determine whether the business-use requirement is met, you must allocate the use of any item of listed property used for more than one purpose during the year among its various uses.

Do the Passenger Automobile Limits Apply?

The depreciation deduction (including the section 179 expense deduction) you can claim for a passenger automobile each year is limited. The passenger automobile limits are the maximum depreciation amounts you can deduct for a passenger automobile. They are based on the date you placed the vehicle in service. See chapter 5 of Publication 946 for tables that show the maximum depreciation deduction for passenger automobiles. Also, see the Instructions for Form 4562.

For information about deducting expenses for the business use of your passenger automobile, see chapter 4 in Publication 946 and Regulations section

• You have acquired by investment any interest in mineral deposits or standing timber.

• You have a legal right to income from the extraction of the mineral or the cutting of the timber, to which you must look for a return of your capital investment.