What activity economic type classification should a software company use when choosing a depreciation method for its equipment?
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To determine the appropriate activity economic type classification for a software company when selecting a depreciation method for its equipment, it is necessary to refer to the MACRS property classification system, which is based on the asset’s primary use and the business activity in which it is used. The classification determines the applicable recovery period and depreciation method under the Internal Revenue Code and related guidance.
1. Asset Classification Under MACRS
The IRS provides two main tables for asset classification:- Table B-1: Specific depreciable assets used in all business activities (e.g., office furniture, computers, data handling equipment).- Table B-2: Assets used in specific business activities (e.g., manufacturing, distributive trades, services).
The general rule is:- If an asset is described in both Table B-1 (asset class) and Table B-2 (activity class), the recovery period from Table B-2 (activity class) takes precedence .- If the asset is not specifically included in an activity class, use the asset class from Table B-1.
2. Software Company: Relevant Activity Economic Type
A software company is generally engaged in the development, sale, and support of software products and related services. The most relevant activity economic type classification for such a company is found in Table B-2:
- Asset Class 57.0: Distributive Trades and Services
- This class includes assets used in wholesale and retail trade, and personal and professional services. It is the default for most service-oriented businesses, including software companies, unless a more specific activity class applies .
3. Common Equipment for a Software Company
- Computers and Peripheral Equipment: Asset Class 00.12 (Table B-1), with a 5-year recovery period.
- Office Furniture and Fixtures: Asset Class 00.11 (Table B-1), with a 7-year recovery period.
- Data Handling Equipment (e.g., copiers, calculators): Asset Class 00.13 (Table B-1), with a 5-year recovery period.
If the company’s equipment is not specifically listed in Table B-2 under a more specific activity (such as manufacturing or research), then the default is to use the asset class from Table B-1. However, for general business equipment not otherwise classified, the activity class 57.0 applies.
4. Depreciation Method
- For most 3-, 5-, and 7-year property, the General Depreciation System (GDS) using the 200% declining balance method (switching to straight line when advantageous) is the default, unless the taxpayer elects to use a different method or is required to use the Alternative Depreciation System (ADS) .
- For listed property (such as computers), if business use is 50% or less, ADS (straight line) must be used .
5. Summary Table for a Software Company
6. Conclusion
A software company should use Asset Class 57.0, "Distributive Trades and Services," as its activity economic type classification when selecting a depreciation method for its equipment, unless a more specific activity class applies.For most equipment, the default depreciation method is the 200% declining balance method under the General Depreciation System, with the recovery period determined by the specific asset class (e.g., 5 years for computers, 7 years for office furniture) .
If you have a specific type of equipment or a unique business activity (such as in-house manufacturing or research), further classification may be required. Otherwise, Asset Class 57.0 is the standard for software companies.
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