©2003 south-western college publishing, cincinnati, ohio chapter 7 accounting periods & methods...
TRANSCRIPT
©2003 South-Western College Publishing, Cincinnati, Ohio©2003 South-Western College Publishing, Cincinnati, Ohio©2003 South-Western College Publishing, Cincinnati, Ohio©2003 South-Western College Publishing, Cincinnati, Ohio
Chapter 7
Accounting Periods & Methods and DepreciationAccounting Periods & Methods and Depreciation
© 2003 South-Western College Publishing Transparency 7-2
Objective
Have a general understanding of the different accounting
periods and methods allowed
© 2003 South-Western College Publishing Transparency 7-3
Tax Year for Individuals
Individuals must use a calendar year as their tax year
Businesses must use a calendar year as their tax year unless they can show a different “natural business year”
© 2003 South-Western College Publishing Transparency 7-4
Tax Years for PartnershipsPartnerships don’t pay taxes themselves but
must file an informational tax return (1065)Tax year must be the same tax year as 50%
of partners If partner’s tax years are different, use tax year of
principal owners (principal is 5% or more owner) or least deferral method
Otherwise use calendar yearMay use fiscal year if it results in a deferral period of no
more than three months
© 2003 South-Western College Publishing Transparency 7-5
Tax Year for S CorporationsS Corporations don’t pay taxes themselves but
must file an informational tax return (1120S)They must use a calendar year; however,
May elect a fiscal year if the S corporation can demonstrate a business purpose, or
A fiscal year results in a deferral period of less than 3 months and S corporation agrees to make annual “required tax payment.”deferral period = period of time from fiscal year-end to December
31required tax payment also applies to fiscal year-end partnerships
© 2003 South-Western College Publishing Transparency 7-6
Deferral Example
S-Corp has taxable income of $360,000 for the year ended 5/30 and last year’s required tax payment = $15,000.
CalculationThe “required tax payment” =
(cash flow in deferral period x 39.6%) - prior year’s tax payment
Deferral period is 7 months.
$360,000/12 x 7 months = $210,000 cash flow.
($210,000 x 39.6%) - $15,000 = $68,160 deposit due
© 2003 South-Western College Publishing Transparency 7-7
Tax Year for Personal Service Corporation A Personal Service Corporation (PSC) is corporation
with shareholder-employee who provides a personal service (like an architect or dentist)
Generally must adopt calendar year Can adopt a fiscal year if:
Can prove business purpose, or Shareholders’ salaries for deferral period are proportionate to
salaries received during rest of the period and corporation limits its deduction Purpose is to keep the PSC from deducting one year’s worth of
salary in beginning nine months. If salaries don’t remain constant, the PSC can only deduct pro rata amount
© 2003 South-Western College Publishing Transparency 7-8
Short Tax Periods
Occur when taxpayer changes from fiscal year-end to calendar year-end or visa versa
Taxpayer must annualize income (see example in text), calculate tax and then allocate it to the short period At top of tax return must complete: “For Short Tax
Year From _____ to _____”
© 2003 South-Western College Publishing Transparency 7-9
must use same method for tax & books
Accounting MethodsThere are three acceptable accounting methodsCashHybridAccrual Must use one method consistently
Make an election on your first return by filing using a particular method
Must file Form 3115 within first 6 months after initial election to request permission from IRS to change accounting methods
© 2003 South-Western College Publishing Transparency 7-10
Accounting Methods (continued)Cash basis taxpayers
Can’t deduct prepaid rent or interest Can’t use cash basis if taxpayer is a:
trust with UBI (unrelated business income), orpartnership with a corporation as a partner, orC corporation
PSCs and farms may use cash basis, and entities with gross receipts < $5M
Accrual basis taxpayers Must report prepaid interest or rent as income when received (i.e.,
use cash method)Hybrid basis taxpayers
Cash method but must use accrual for COGS
© 2003 South-Western College Publishing Transparency 7-11
Objective
Understand the concept of depreciation and be able to
calculate depreciation expense using MACRS tables
© 2003 South-Western College Publishing Transparency 7-12
Depreciation (Form 4562)Depreciation is a process of allocating the
cost of assets to expense over their useful life Land is not depreciated
Rules for depreciation have changed over the years Pre-1980: depreciated using straight line method 1980-1986: use ACRS tables Post-1986: use MACRS tables
© 2003 South-Western College Publishing Transparency 7-13
Personal PropertyEach asset is depreciated according to an IRS-
specified recovery period 3 year Race horses, tractors 5 year Computer, cars and light trucks, R&D
equipment 7 year Office furniture, machinery, property with
no life 10 year Barges, vessels 15 year Land Improvements 20 year Utility plants, sewers
© 2003 South-Western College Publishing Transparency 7-14
Personal Property (continued)
Depreciation is determined using IRS tables (Table 2 in text) Percentages from tables are based on the double-
declining balance method of depreciationApplied to cost basis without regard for estimated salvage
value
May elect to use tables based on straight line instead
Tables include half year convention1/2 year depreciation in year of acquisition and 1/2 year
depreciation in year of disposition
© 2003 South-Western College Publishing Transparency 7-15
Personal Property (continued) Always use the half-year convention unless mid-quarter
convention applies Assumes asset owned half of year of purchase, regardless of
true purchase date Assumes asset owned half of year of disposition, regardless of
true disposition date
Mid-quarter convention is required if taxpayer purchases 40% or more of total assets in last quarter of tax year Applies to every asset purchased in the year Excluding real property and §179 property Must use special mid-quarter tables
© 2003 South-Western College Publishing Transparency 7-16
March 15 - purchase furniture for $180,000. Furniture is a 7-year asset.
Using tables: Year 1: $180,000 x .1429 = $25,722Year 2: $180,000 x .2449 = $44,082
November 3 - purchase computer for $12,000. This is a 5-year asset.
Using tables:Year 1: $12,000 x .20 = $2,400Year 2: $12,000 x .32 = $3,840
Personal Property Example
© 2003 South-Western College Publishing Transparency 7-17
Bonus Depreciation Property
Additional depreciation is available for assets purchased between 9/11/01 and 9/11/04
Amount = 30% of adjusted basis Only for new personal property with recovery
period < 20 years
Take 30% bonus first, then regular MACRS depreciation on remaining basis
May elect out of bonus if anticipate need for higher depreciation in future years
© 2003 South-Western College Publishing Transparency 7-18
Real PropertyReal assets are placed in a recovery period
depending on use 27.5 year: Residential rental 39 year: Nonresidential
31.5 year if placed in service before 5/13/93
Real assets are depreciated using the straight-line method with a mid-month convention (Table 4) Treats all acquisitions/dispositions as occurring in the
middle of the month There is no mid-quarter convention for real estate
© 2003 South-Western College Publishing Transparency 7-19
Objective
Know when an election to expense the cost of an asset may be used
© 2003 South-Western College Publishing Transparency 7-20
Election to Expense - Section 179 §179 allows immediate expensing of qualifying property
In 2002, the annual amount allowed is $24,000 Qualifying property is tangible personal property used in a
business
§179 limited: If cost of qualifying property placed in service in a year exceeds
$200,000, reduce §179 expense dollar for dollar Cannot take §179 expense in excess of taxable income, but
may carry forward any unused amount
If using 30% bonus take §179 first, then 30%, then regular depreciation.
© 2003 South-Western College Publishing Transparency 7-21
In July 2002, purchase a tooling machine (7-year asset) for $39,000. The taxable income from business is $45,500 and total asset acquisitions for year are $82,453.
CalculationCost $39,000§179 expense (24,000)Adjusted depreciable basis $15,000less 30% bonus ( 4,500)Remaining depreciable basis $10,500 x Table % 0.1429
$ 1,500
Total depreciation: $20,000 + $4,500 + $1,500 = $30,000
Section 179 Example
© 2003 South-Western College Publishing Transparency 7-22
Objective
Understand the limitations placed on depreciation of “listed” property
and luxury automobiles
© 2003 South-Western College Publishing Transparency 7-23
Listed Property Special rules exist to limit deductions on assets used
both in a business and personally Cars, cell phones, computers (unless used exclusively at
business), entertainment equipment
Limitation depends on amount of business use If asset used > 50% for business, can use MACRS If asset used < 50% for business, must use straight line If business usage drops from > 50% to < 50%, must claim
excess depreciation as income on Form 4797
Separate section on page 2 of Form 4562 for listed property
© 2003 South-Western College Publishing Transparency 7-24
Luxury Autos LimitsMaximum allowed amount is
Luxury auto limits x business use % Depreciation on automobiles is also limited based on business use
(5-year MACRS amount x business use %)
Luxury auto limits are quite low: Depreciation on autos placed into service in 2001 is:
Year 2001 - $3,060 Year 2002 - $4,900Year 2003 - $2,950Year 2004 and subsequent years - $1,775
Automobiles may be wholly depreciated, it will just take much longer than five years
© 2003 South-Western College Publishing Transparency 7-25
Special First-Year Depreciation for Automobiles
Extra depreciation of $4,600 is allowed New autos placed in service between 9/11/01 and
9/11/04 and Used > 50% for business
The $4,600 increases the luxury auto limitMay use 30% Bonus depreciation in addition
to regular depreciation
© 2003 South-Western College Publishing Transparency 7-26
Luxury Auto Example In July 2002, purchase a new automobile (5-year asset) for
$50,000. The automobile was used 60% of the time for business.
Calculation30% Bonus depreciation (50,000 X .3) $15,000Regular depreciation (50,000 - 15,000).2 7,000Total $22,000Times business use percentage 60% X .60Possible depreciation $13,200
Luxury limitation 60% of ($3,060 + $4,600) $ 4,596
Total depreciation: $4,596
© 2003 South-Western College Publishing Transparency 7-27
Objective
Know the tax treatment for goodwill and certain other intangible assets
© 2003 South-Western College Publishing Transparency 7-28
Intangible AssetsSection 197 intangible assets (see list in text)
acquired by purchase may be amortized based on a 15-year period Many intangible assets are excluded from Section
197 provisions, for example, may not depreciate internally generated assets like patent and copyright
Must allocate for partial year in year of acquisition
Report in separate section of Form 4562
© 2003 South-Western College Publishing Transparency 7-29
Objective
Be able to determine whether parties are classified as related for tax purposes and understand the
tax treatment of related party transactions
© 2003 South-Western College Publishing Transparency 7-30
Related Party TransactionsRelated parties are:
A corporation and > 50% owner Brother/sister corporations Parent/subsidiary corporations Family members
spouses, lineal descendants, siblingsalso used for purposes of calculating ownership in corporations
§267 disallows losses on sales between related parties When property is later sold to an unrelated party, all previously
disallowed losses may be taken against gain §267 also applies to unpaid interest and expenses between related
parties
© 2003 South-Western College Publishing Transparency 7-31
The End!My head hurts!