How does the activity economic type selection impact the depreciation method for equipment in a software company corporation?
Ask Blue J any tax question, then go deeper. Follow up, add client-specific context, and explore the sources behind every answer with Blue J’s generative AI solution for tax research.
The selection of economic activity type by a software company corporation is a critical step in determining the correct depreciation method and recovery period for equipment under the Modified Accelerated Cost Recovery System (MACRS). Here’s how this selection impacts depreciation:
1. Asset Classification and Recovery Periods
Under MACRS, the recovery period and depreciation method for an asset depend on how the asset is classified, which is based on the economic activity in which it is used. The IRS provides two main sets of asset classes:
- Asset Classes 00.11–00.4: These are specific depreciable assets used in all business activities (e.g., office furniture, computers).
- Asset Classes 01.1–80.0: These are assets used in specific business activities (e.g., manufacturing, retail, software development).
Key Rule: If an asset is described in both an asset class (00.11–00.4) and an activity class (01.1–80.0), the asset class takes precedence unless the activity class specifically includes or excludes the asset.
Example for a Software Company:- Computers and Peripheral Equipment: Asset Class 00.12 (“Information Systems”) applies, with a 5-year recovery period under GDS, regardless of the specific business activity.- Office Furniture: Asset Class 00.11 applies, with a 7-year recovery period under GDS.
If the equipment is not specifically listed in the asset classes, you then look to the activity class that matches the company’s primary business activity (e.g., “Information Technology Services” or “Software Publishing”). If the activity class provides a different recovery period for certain assets, that period is used.
2. Depreciation Method
The depreciation method is also determined by the asset’s classification:
- Most 3-, 5-, 7-, and 10-year property: Use the 200% declining balance method, switching to straight line when it yields a greater deduction.
- 15- and 20-year property: Use the 150% declining balance method.
- Nonresidential real property and residential rental property: Use the straight line method.
For a software company:- Computers and qualified technological equipment: 5-year property, 200% declining balance method under GDS.- Office furniture: 7-year property, 200% declining balance method under GDS.
3. Impact of Activity Type on Equipment Used in Multiple Activities
If equipment is used in more than one activity, the asset is classified according to the activity in which it is primarily used. For example, if a server is used primarily for software development (rather than general office administration), the classification should reflect that primary use.
4. Special Considerations for Software Companies
- Qualified Technological Equipment: Defined in IRC §168(i)(2), includes computers and peripheral equipment, and is assigned a 5-year recovery period.
- Computer Software: If depreciated under §167(f)(1), it is also eligible for a 5-year recovery period.
- Other Equipment: If not specifically listed, refer to the activity class for “Information Services” or similar, which may provide a 5- or 7-year recovery period.
5. Summary of Steps
- Identify the asset and its use.
- Check Asset Classes 00.11–00.4 for a specific listing.
- If not listed, check the activity class that matches the company’s primary business activity.
- Apply the recovery period and depreciation method specified for that class.
- If the asset is used in multiple activities, classify by primary use.
6. Practical Example
Suppose a software company purchases new servers and office furniture:
- Servers: Asset Class 00.12 (“Information Systems”) applies, 5-year recovery period, 200% declining balance method.
- Office Furniture: Asset Class 00.11, 7-year recovery period, 200% declining balance method.
- If the company’s primary activity is software development, and the servers are used primarily for that, the classification remains the same unless the activity class for software development specifically includes servers with a different recovery period (which it does not).
7. Legal Authority
- IRC §168(a), (b), (c), (e), (i): Sets out the general rules for MACRS, including asset classification, recovery periods, and depreciation methods.
- Rev. Proc. 87-56: Provides the asset class tables.
- IRS Publication 946: Offers practical guidance and examples.
8. Conclusion
The selection of economic activity type by a software company corporation directly impacts the depreciation method and recovery period for equipment by determining the correct asset classification under MACRS. This, in turn, dictates whether the 200% or 150% declining balance or straight line method is used, and whether the recovery period is 3, 5, 7, or more years. Proper classification ensures compliance and maximizes allowable depreciation deductions.
If you have a specific type of equipment or a unique business activity in mind, please provide more details for a more tailored analysis.
Was this answer helpful?
What Blue J customers are saying
“We are excited to use Blue J to elevate the initial work product our team is able to produce."
"We’re incorporating Blue J to ensure our people are well-equipped with a research tool that delivers on both ease of use and quality of deliverable. It will save us a lot of time as a starting point, so we can focus our efforts on the analysis. Ultimately, it helps us get to the right answer, faster.”
"We’re incorporating Blue J to ensure our people are well-equipped with a research tool that delivers on both ease of use and quality of deliverable. It will save us a lot of time as a starting point, so we can focus our efforts on the analysis. Ultimately, it helps us get to the right answer, faster.”
"We had used Checkpoint for a long time but found it wasn’t particularly well-used in our practice."
"A lot of our practitioners would have to turn to Google to find what they were looking for, which of course isn’t ideal. Blue J is a real game-changer when it comes to this, since it combines the efficiency of Google with the authoritative tax materials our people really need to serve their clients best. At ELO, we pride ourselves on providing services that are focused on value for clients and exceeding their expectations. Adding Blue J to our toolbox will enable us to do just that, as we continue to evolve our service offerings to better serve our clients’ needs.”
"A lot of our practitioners would have to turn to Google to find what they were looking for, which of course isn’t ideal. Blue J is a real game-changer when it comes to this, since it combines the efficiency of Google with the authoritative tax materials our people really need to serve their clients best. At ELO, we pride ourselves on providing services that are focused on value for clients and exceeding their expectations. Adding Blue J to our toolbox will enable us to do just that, as we continue to evolve our service offerings to better serve our clients’ needs.”
"We find this tool to be a game-changer for us and our clients.”
“We had the opportunity to pilot some other AI solutions in the market, and found that the improvement over traditional search was limited - except in Blue J’s case, where the efficiency gain over traditional research methods is significant."
“We had the opportunity to pilot some other AI solutions in the market, and found that the improvement over traditional search was limited - except in Blue J’s case, where the efficiency gain over traditional research methods is significant."
“Blue J is an exciting technology because it enables the practitioner to remain in the driver’s seat of the analysis."
"Thoughtful functions are included to encourage and facilitate deeper analysis, not to replace or reduce it. We’ll continue to find new and impactful ways to leverage the technology, which has benefited our clients and staff alike. At RSM we strive to be compelling to our clients and to be digital by embracing new technologies to fulfill that promise.”
"Thoughtful functions are included to encourage and facilitate deeper analysis, not to replace or reduce it. We’ll continue to find new and impactful ways to leverage the technology, which has benefited our clients and staff alike. At RSM we strive to be compelling to our clients and to be digital by embracing new technologies to fulfill that promise.”
"We wanted to have a tool that people were using at all staff levels."
"We wanted something that lived up on their third screen - something that would be available and helpful to them every day. What we've found is it's been easy to get people to get into the habit of using Blue J because it helps people. Blue J allows us to quickly respond to client questions in a way that they can understand it, which helps us deal with the volume of client questions that come in. We were up and running very quickly with Blue J - within 5 minutes, our staff understood how this will be helpful, and the rest of the training program is refining prompting skills and building use cases and best practices."
"We wanted something that lived up on their third screen - something that would be available and helpful to them every day. What we've found is it's been easy to get people to get into the habit of using Blue J because it helps people. Blue J allows us to quickly respond to client questions in a way that they can understand it, which helps us deal with the volume of client questions that come in. We were up and running very quickly with Blue J - within 5 minutes, our staff understood how this will be helpful, and the rest of the training program is refining prompting skills and building use cases and best practices."
