MACRS depreciation definition
/What is MACRS Depreciation?
MACRS depreciation is the tax depreciation system used in the United States. MACRS is an acronym for Modified Accelerated Cost Recovery System. Under MACRS, fixed assets are assigned to a specific asset class, which has a designated depreciation period associated with it. The Internal Revenue Service has published a complete set of depreciation tables for each of these classes. The classes are noted in the following table.
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A business determines its tax depreciation based on the information in the preceding table for assets ready and available for use since 1986. The resulting depreciation is included in the company's income tax return as part of the derivation of taxable income.
Advantages of MACRS Depreciation
MACRS depreciation provides three primary tax and financial reporting advantages that enhance cash flow, investment performance, and compliance efficiency. They are:
Accelerated tax deductions. MACRS front-loads depreciation expense into the early years of an asset’s life, reducing taxable income sooner and improving short-term cash flow.
Improved investment returns. By accelerating deductions, MACRS enhances after-tax return metrics such as net present value and internal rate of return.
Administrative simplicity. Standardized recovery periods and IRS percentage tables reduce estimation uncertainty and simplify tax compliance.
Disadvantages of MACRS Depreciation
There are several disadvantages associated with using the MACRS depreciation system, which are as follows:
Differs from book depreciation. This depreciation is not used in the entity's financial statements, which instead likely uses depreciation that is based on either straight-line or some form of accelerated depreciation calculations. This can result in differences between the tax basis and book basis of an organization's fixed assets.
No calculation flexibility. The MACRS system mandates the use of highly specific depreciation periods. This means that a business has no flexibility at all in aligning its reported depreciation with the actual usage patterns of its assets.
Larger tax burden in later years. Because the MACRS system accelerates expense recognition, it leaves much less depreciation expense available for use in later years. This will result in increased taxable income in later years, which could result in unsupportable tax liabilities in those periods.