Updated July 14, 2023
What is MACRS Depreciation?
The MACRS is an abbreviation for the modified accelerated cost recovery system. The MACRS depreciation is a type of depreciation system applied to compute depreciation expenses for taxation purposes.
The System allows the business to recover the capitalized cost of the tangible asset having certain useful life with the help of annual deductions.
Explanation of MACRS Depreciation
The MACRS system is a variant of depreciation that is different from the straight-line depreciation method. It is generally employed to meet the compliance requirement of US taxation and classifies the fixed asset into classes. Each class basis of the useful life of the tangible asset has a pre-defined depreciation matrix and depreciation periods. The modified accelerated cost recovery system enables the organization to get back the cost basis of the tangible assets that generally burn out or deteriorate during the course of their useful life. The internal revenue service generally shares the guidelines for the organization on which the assets are qualified under the modified accelerated cost recovery system.
The MACRS enables faster depreciation of assets in the initial years during the asset’s useful life and then gradually slows down the depreciation component at the later stage of the asset’s useful life. Therefore, the MACRS system is regarded as fundamentally useful for the purpose of tax filing.
How Does It Work?
The internal revenue service generally lays down broad guidelines to determine depreciation expense. It identifies such an expense as a deduction on income tax. The business must use the guidelines prescribed by the internal revenue service to recover the tangible asset’s cost. When a business buys a new tangible asset, it cannot write off the amount in the purchase year. The internal revenue service asks the business to minus a portion of the asset’s cost over the useful life of the asset or as and when the asset is utilized fully. When the business employs the method of MACRS, the asset is depreciated at a faster rate or an accelerated pace over the asset’s life cycle. This enables the business to take large deductions of taxes at an early stage or in the initial period of the asset usage itself.
When the asset starts approaching the end of the lifecycle or the useful life, it is depreciated slower and has a reduced depreciation rate. Basis the usage of the asset over a set timeline, there is a defined matrix of the depreciation rates to be employed to compute depreciation. The generally accepted accounting principles do not identify and approve the MACRS system for arriving at the depreciation expense. It rather employs the straight-line depreciation method to arrive at the depreciation expense to be written off throughout the year.
The taxpayers may adopt two broad classes of depreciation systems to depreciate property as per the modified accelerated depreciation system. They are broadly termed alternative depreciation systems and general depreciation systems. Any system employed would help compute the recovery timeline and method of depreciation. As a general convention, the taxpayers have to use an available depreciation system, and in most exceptional cases, the taxpayers may adopt the alternative depreciation system. The exceptional system may comprise a law change or meet the legal requirements.
How to Calculate MACRS Depreciation?
The computation of the depreciation expense basis of the modified accelerated recovery system would broadly require three steps, namely: –
- The business has to determine the asset class of the tangible asset. The classes are defined basis of the useful life of the tangible asset. There is a computation of the recovery period basis the asset class of the tangible asset.
- Once the depreciation matrix is determined, the internal revenue service has laid down guidelines to decide when the assets are acquired basis the acquisition month, quarter, or year-end. The conventions are broadly classified as the mid-quarter, mid-month, and mid-year, respectively.
- The depreciation expense should be computed using three broad methods of depreciation, namely 150 % declining balance, 200% declining balance, and straight-line depreciation.
Example of MACRS Depreciation
Let us take the example of ABC company. The business has purchased a tractor with a useful life of three years. The asset costs around $340,000 and has a useful life of 3 years. Help the management determine the depreciation expense through the asset’s useful life.
The depreciation matrix table basis the useful life of three years is provided below: –
| Percentage Rate of depreciation | |
| Time Period | 3-year |
| 1 | 33.33 |
| 2 | 44.45 |
| 3 | 14.81 |
| 4 | 7.41 |
Compute the depreciation expense for the year 1-4 as displayed below: –
Year 1:
Depreciation Expense is calculated as
- Depreciation Expense = 0.3333 * $340,000
- Depreciation Expense = $113,322
Year 2:
Depreciation Expense is calculated as
Depreciation Expense = Rate of Depreciation * Cost of Asset
- Depreciation Expense = 0.4445 * $340,000
- Depreciation Expense = $ 151,130
Year 3:
Depreciation Expense is calculated as
Depreciation Expense = Rate of Depreciation * Cost of Asset
- Depreciation Expense = 0.1481 * $340,000
- Depreciation Expense = $50,354
Year 4:
Depreciation Expense is calculated as
Depreciation Expense = Rate of Depreciation * Cost of Asset
- Depreciation Expense = 0.0741 x $340,000
- Depreciation Expense = $25,194
The following is an Excel template that displays computations on the depreciation expense through the period of 1-4:
The following are the results: –
| Cost of Asset=$340,000 | |
| Year | Depreciation Expense |
| 1 | $1,13,322.00 |
| 2 | $1,51,130.00 |
| 3 | $50,354.00 |
| 4 | $25,194.00 |
MACRS Depreciation Table
The MACRS depreciation table is formulated on the asset classes. The asset classes are defined based on the useful life of an asset. The following table has formed the basis of the useful life of the asset as identified by the business: –
| Time Period | Percentage rate of depreciation | |||||
| 3-year | 5-year | 7-year | 10-year | 15-year | 20-year | |
| 1 | 33.33 | 20 | 14.29 | 10 | 5 | 3.75 |
| 2 | 44.45 | 32 | 24.49 | 18 | 9.5 | 7.219 |
| 3 | 14.81 | 19.2 | 17.49 | 14.4 | 8.55 | 6.677 |
| 4 | 7.41 | 11.52 | 12.49 | 11.52 | 7.7 | 6.177 |
| 5 | 11.52 | 8.93 | 9.22 | 6.93 | 5.713 | |
| 6 | 5.76 | 8.92 | 7.37 | 6.23 | 5.285 | |
| 7 | 8.93 | 6.55 | 5.9 | 4.888 | ||
| 8 | 4.46 | 6.55 | 5.9 | 4.522 | ||
| 9 | 6.56 | 5.91 | 4.462 | |||
| 10 | 6.55 | 5.9 | 4.461 | |||
| 11 | 3.28 | 5.91 | 4.462 | |||
| 12 | 5.9 | 4.461 | ||||
| 13 | 5.91 | 4.462 | ||||
| 14 | 5.9 | 4.461 | ||||
| 15 | 5.91 | 4.462 | ||||
| 16 | 2.95 | 4.461 | ||||
| 17 | 4.462 | |||||
| 18 | 4.461 | |||||
| 19 | 4.462 | |||||
| 20 | 4.461 | |||||
| 21 | 2.231 | |||||
Uses of MACRS Depreciation
- The MACRS depreciation is used to compute the depreciation expense of an asset primarily employed for tax reporting purposes.
- The MACRS depreciation can be widely applied in computer equipment, automobiles, fences, buildings such as farm buildings and office buildings, and office furniture.
Conclusion
The MACRS depreciation system is a type of depreciation system that helps the organization determine depreciation expenses required for tax filing purposes. The internal revenue service broadly lays down the guidelines to be followed by all organizations on how to use the depreciation system.
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