When should a business start claiming equipment depreciation deduction for newly purchased assets?
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A business should begin claiming depreciation deductions for newly purchased equipment when the property is "placed in service." The concept of "placed in service" is central to determining when depreciation begins, and it is defined by both the Internal Revenue Code and IRS guidance with specific criteria and practical examples.
Legal Standard for "Placed in Service"
1. Condition of Readiness and Availability- Property is considered placed in service when it is ready and available for a specific use in the taxpayer’s trade or business, for the production of income, in a tax-exempt activity, or for personal activity—even if it is not actually being used yet. The key is that the property is in a condition or state of readiness and availability for its specifically assigned function.
2. Not Necessarily Actual Use- Actual use is not required; the property must be ready and available for its intended use. For example, if a machine is delivered and installed but not yet used in production, it is still considered placed in service if it is ready and available for use.
3. Ownership and Control- The taxpayer must own the property and have the right to possess and use it. If the property is being constructed, it must have been turned over by the contractor and be available for use.
4. All Necessary Permits and Licenses- Any required permits or licenses for use must have been obtained.
5. Functionally Independent- If the equipment is part of a larger system, the entire system must be ready and available for its intended function, unless the equipment can operate independently.
Practical Examples
- Example 1: If a business buys a machine that is delivered and installed in December, but not actually used until the following year, the machine is considered placed in service in December if it is ready and available for use at that time.
- Example 2: If a business buys a truck that requires modification before it can be used, the truck is not placed in service until the modifications are complete and the truck is ready and available for its intended business use.
- Example 3: If a business purchases equipment that is delivered but not yet assembled, the equipment is not placed in service until it is assembled and ready for use.
Supporting Authority
- Regulation Section 1.167(a)-10(b): Depreciation begins when the asset is placed in service and ends when the asset is retired from service. A proportionate part of one year's depreciation is allowable for the part of the first and last year during which the asset was in service.
- IRS Publication 946: "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".
- IRS Publication 225 (Farmers): The placed-in-service date is when the property is ready and available for a specific use, not necessarily the date it is first used.
Summary Table
Key Takeaways
- Depreciation begins when the equipment is ready and available for its intended business use, not necessarily when it is first used.
- All necessary modifications, assembly, and permits must be complete.
- The taxpayer must have ownership and control of the property.
In summary: A business should start claiming depreciation deductions for newly purchased equipment in the tax year when the equipment is placed in service—that is, when it is ready and available for its intended use in the business, regardless of whether it is actually being used at that moment.
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