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Freestatetax 7. Freestatetax   Depreciation, Depletion, and Amortization Table of Contents What's New for 2013 Introduction Topics - This chapter discusses: Useful Items - You may want to see: Overview of DepreciationWhat Property Can Be Depreciated? What Property Cannot Be Depreciated? When Does Depreciation Begin and End? Can You Use MACRS To Depreciate Your Property? What Is the Basis of Your Depreciable Property? How Do You Treat Repairs and Improvements? Do You Have To File Form 4562? How Do You Correct Depreciation Deductions? Section 179 Expense DeductionWhat Property Qualifies? What Property Does Not Qualify? How Much Can You Deduct? How Do You Elect the Deduction? When Must You Recapture the Deduction? Claiming the Special Depreciation AllowanceWhat is Qualified Property? How Can You Elect Not To Claim the Allowance? When Must You Recapture an Allowance Figuring Depreciation Under MACRSWhich Depreciation System (GDS or ADS) Applies? Which Property Class Applies Under GDS? What Is the Placed-in-Service Date? What Is the Basis for Depreciation? Which Recovery Period Applies? Which Convention Applies? Which Depreciation Method Applies? How Is the Depreciation Deduction Figured? How Do You Use General Asset Accounts? When Do You Recapture MACRS Depreciation? Additional Rules for Listed PropertyWhat Is Listed Property? What Is the Business-Use Requirement? Do the Passenger Automobile Limits Apply? Depletion Who Can Claim Depletion? Figuring Depletion AmortizationBusiness Start-Up Costs Reforestation Costs Section 197 Intangibles What's New for 2013 Increased section 179 expense deduction dollar limits. Freestatetax  The maximum amount you can elect to deduct for most section 179 property you placed in service in 2013 is $500,000. Freestatetax This limit is reduced by the amount by which the cost of the property placed in service during the tax year exceeds $2 million. Freestatetax See Dollar Limits under Section 179 Expense Deduction , later. Freestatetax Extension of special depreciation allowance for certain qualified property acquired after December 31, 2007. Freestatetax . Freestatetax  You may be able to take a 50% special depreciation allowance for certain qualified property acquired after December 31, 2007, and placed in service before January 1, 2014. Freestatetax See Claiming the Special Depreciation Allowance , later. Freestatetax Expiration of the 3- year recovery period for certain race horses. Freestatetax  The 3-year recovery period for race horses two years old or younger will expire for such horses placed in service after December 31, 2013. Freestatetax Introduction If you buy or make improvements to farm property such as machinery, equipment, livestock, or a structure with a useful life of more than a year, you generally cannot deduct its entire cost in one year. Freestatetax Instead, you must spread the cost over the time you use the property and deduct part of it each year. Freestatetax For most types of property, this is called depreciation. Freestatetax This chapter gives information on depreciation methods that generally apply to property placed in service after 1986. Freestatetax For information on depreciating pre-1987 property, see Publication 534, Depreciating Property Placed in Service Before 1987. Freestatetax Topics - This chapter discusses: Overview of depreciation Section 179 expense deduction Special depreciation allowance Modified Accelerated Cost Recovery System (MACRS) Listed property Basic information on cost depletion (including timber depletion) and percentage depletion Amortization of the costs of going into business, reforestation costs, the costs of pollution control facilities, and the costs of section 197 intangibles Useful Items - You may want to see: Publication 463 Travel, Entertainment, Gift, and Car Expenses 534 Depreciating Property Placed in Service Before 1987 535 Business Expenses 544 Sales and Other Dispositions of Assets 551 Basis of Assets 946 How To Depreciate Property Form (and Instructions) T (Timber), Forest Activities Schedule 3115 Application for Change in Accounting Method 4562 Depreciation and Amortization 4797 Sales of Business Property See chapter 16 for information about getting publications and forms. Freestatetax It is important to keep good records for property you depreciate. Freestatetax Do not file these records with your return. Freestatetax Instead, you should keep them as part of the permanent records of the depreciated property. Freestatetax They will help you verify the accuracy of the depreciation of assets placed in service in the current and previous tax years. Freestatetax For general information on recordkeeping, see Publication 583, Starting a Business and Keeping Records. Freestatetax For specific information on keeping records for section 179 property and listed property, see Publication 946, How To Depreciate Property. Freestatetax Overview of Depreciation This overview discusses basic information on the following. Freestatetax What property can be depreciated. Freestatetax What property cannot be depreciated. Freestatetax When depreciation begins and ends. Freestatetax Whether MACRS can be used to figure depreciation. Freestatetax What is the basis of your depreciable property. Freestatetax How to treat repairs and improvements. Freestatetax When you must file Form 4562. Freestatetax How you can correct depreciation claimed incorrectly. Freestatetax What Property Can Be Depreciated? You can depreciate most types of tangible property (except land), such as buildings, machinery, equipment, vehicles, certain livestock, and furniture. Freestatetax You can also depreciate certain intangible property, such as copyrights, patents, and computer software. Freestatetax To be depreciable, the property must meet all the following requirements. Freestatetax It must be property you own. Freestatetax It must be used in your business or income-producing activity. Freestatetax It must have a determinable useful life. Freestatetax It must have a useful life that extends substantially beyond the year you place it in service. Freestatetax Property You Own To claim depreciation, you usually must be the owner of the property. Freestatetax You are considered as owning property even if it is subject to a debt. Freestatetax Leased property. Freestatetax   You can depreciate leased property only if you retain the incidents of ownership in the property. Freestatetax This means you bear the burden of exhaustion of the capital investment in the property. Freestatetax Therefore, if you lease property from someone to use in your trade or business or for the production of income, you generally cannot depreciate its cost because you do not retain the incidents of ownership. Freestatetax You can, however, depreciate any capital improvements you make to the leased property. Freestatetax See Additions and Improvements under Which Recovery Period Applies in chapter 4 of Publication 946. Freestatetax   If you lease property to someone, you generally can depreciate its cost even if the lessee (the person leasing from you) has agreed to preserve, replace, renew, and maintain the property. Freestatetax However, you cannot depreciate the cost of the property if the lease provides that the lessee is to maintain the property and return to you the same property or its equivalent in value at the expiration of the lease in as good condition and value as when leased. Freestatetax Life tenant. Freestatetax   Generally, if you hold business or investment property as a life tenant, you can depreciate it as if you were the absolute owner of the property. Freestatetax See Certain term interests in property , later, for an exception. Freestatetax Property Used in Your Business or Income-Producing Activity To claim depreciation on property, you must use it in your business or income-producing activity. Freestatetax If you use property to produce income (investment use), the income must be taxable. Freestatetax You cannot depreciate property that you use solely for personal activities. Freestatetax However, if you use property for business or investment purposes and for personal purposes, you can deduct depreciation based only on the percentage of business or investment use. Freestatetax Example 1. Freestatetax   If you use your car for farm business, you can deduct depreciation based on its percentage of use in farming. Freestatetax If you also use it for investment purposes, you can depreciate it based on its percentage of investment use. Freestatetax Example 2. Freestatetax   If you use part of your home for business, you may be able to deduct depreciation on that part based on its business use. Freestatetax For more information, see Business Use of Your Home in chapter 4. Freestatetax Inventory. Freestatetax   You can never depreciate inventory because it is not held for use in your business. Freestatetax Inventory is any property you hold primarily for sale to customers in the ordinary course of your business. Freestatetax Livestock. Freestatetax   Livestock purchased for draft, breeding, or dairy purposes can be depreciated only if they are not kept in an inventory account. Freestatetax Livestock you raise usually has no depreciable basis because the costs of raising them are deducted and not added to their basis. Freestatetax However, see Immature livestock under When Does Depreciation Begin and End , later, for a special rule. Freestatetax Property Having a Determinable Useful Life To be depreciable, your property must have a determinable useful life. Freestatetax This means it must be something that wears out, decays, gets used up, becomes obsolete, or loses its value from natural causes. Freestatetax Irrigation systems and water wells. Freestatetax   Irrigation systems and wells used in a trade or business can be depreciated if their useful life can be determined. Freestatetax You can depreciate irrigation systems and wells composed of masonry, concrete, tile, metal, or wood. Freestatetax In addition, you can depreciate costs for moving dirt to construct irrigation systems and water wells composed of these materials. Freestatetax However, land preparation costs for center pivot irrigation systems are not depreciable. Freestatetax Dams, ponds, and terraces. Freestatetax   In general, you cannot depreciate earthen dams, ponds, and terraces unless the structures have a determinable useful life. Freestatetax What Property Cannot Be Depreciated? Certain property cannot be depreciated, even if the requirements explained earlier are met. Freestatetax This includes the following. Freestatetax Land. Freestatetax You can never depreciate the cost of land because land does not wear out, become obsolete, or get used up. Freestatetax The cost of land generally includes the cost of clearing, grading, planting, and landscaping. Freestatetax Although you cannot depreciate land, you can depreciate certain costs incurred in preparing land for business use. Freestatetax See chapter 1 of Publication 946. Freestatetax Property placed in service and disposed of in the same year. Freestatetax Determining when property is placed in service is explained later. Freestatetax Equipment used to build capital improvements. Freestatetax You must add otherwise allowable depreciation on the equipment during the period of construction to the basis of your improvements. Freestatetax Intangible property such as section 197 intangibles. Freestatetax This property does not have a determinable useful life and generally cannot be depreciated. Freestatetax However, see Amortization , later. Freestatetax Special rules apply to computer software (discussed below). Freestatetax Certain term interests (discussed below). Freestatetax Computer software. Freestatetax   Computer software is generally not a section 197 intangible even if acquired in connection with the acquisition of a business, if it meets all of the following tests. Freestatetax It is readily available for purchase by the general public. Freestatetax It is subject to a nonexclusive license. Freestatetax It has not been substantially modified. Freestatetax   If the software meets the tests above, it can be depreciated and may qualify for the section 179 expense deduction and the special depreciation allowance (if applicable), discussed later. Freestatetax Certain term interests in property. Freestatetax   You cannot depreciate a term interest in property created or acquired after July 27, 1989, for any period during which the remainder interest is held, directly or indirectly, by a person related to you. Freestatetax This rule does not apply to the holder of a term interest in property acquired by gift, bequest, or inheritance. Freestatetax For more information, see chapter 1 of Publication 946. Freestatetax When Does Depreciation Begin and End? 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. Freestatetax 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. Freestatetax Placed in Service Property is placed in service when it is ready and available for a specific use, whether in a business activity, an income-producing activity, a tax-exempt activity, or a personal activity. Freestatetax Even if you are not using the property, it is in service when it is ready and available for its specific use. Freestatetax Example. Freestatetax You bought a planter for use in your farm business. Freestatetax The planter was delivered in December 2012 after harvest was over. Freestatetax You begin to depreciate the planter for 2012 because it was ready and available for its specific use in 2012, even though it will not be used until the spring of 2013. Freestatetax If your planter comes unassembled in December 2012 and is put together in February 2013, it is not placed in service until 2013. Freestatetax You begin to depreciate it in 2013. Freestatetax If your planter was delivered and assembled in February 2013 but not used until April 2013, it is placed in service in February 2013, because this is when the planter was ready for its specified use. Freestatetax You begin to depreciate it in 2013. Freestatetax Fruit or nut trees and vines. Freestatetax   If you acquire an orchard, grove, or vineyard before the trees or vines have reached the income-producing stage, and they have a preproductive period of more than 2 years, you must capitalize the preproductive-period costs under the uniform capitalization rules (unless you elect not to use these rules). Freestatetax See chapter 6 for information about the uniform capitalization rules. Freestatetax Your depreciation begins when the trees and vines reach the income-producing stage (that is, when they bear fruit, nuts, or grapes in quantities sufficient to commercially warrant harvesting). Freestatetax Immature livestock. Freestatetax   Depreciation for livestock begins when the livestock reaches the age of maturity. Freestatetax If you bought immature livestock for drafting purposes, depreciation begins when they can be worked. Freestatetax If you bought immature livestock for dairy purposes, depreciation begins when they can be milked. Freestatetax If you bought immature livestock for breeding purposes, depreciation begins when they can be bred. Freestatetax Your basis for depreciation is your initial cost for the immature livestock. Freestatetax Idle Property Continue to claim a deduction for depreciation on property used in your business or for the production of income even if it is temporarily idle. Freestatetax For example, if you stop using a machine because there is a temporary lack of a market for a product made with that machine, continue to deduct depreciation on the machine. Freestatetax Cost or Other Basis Fully Recovered You stop depreciating property when you have fully recovered your cost or other basis. Freestatetax This happens when your section 179 and allowed or allowable depreciation deductions equal your cost or investment in the property. Freestatetax Retired From Service You stop depreciating property when you retire it from service, even if you have not fully recovered its cost or other basis. Freestatetax You retire property from service when you permanently withdraw it from use in a trade or business or from use in the production of income because of any of the following events. Freestatetax You sell or exchange the property. Freestatetax You convert the property to personal use. Freestatetax You abandon the property. Freestatetax You transfer the property to a supplies or scrap account. Freestatetax The property is destroyed. Freestatetax For information on abandonment of property, see chapter 8. Freestatetax For information on destroyed property, see chapter 11 and Publication 547, Casualties, Disasters, and Thefts. Freestatetax Can You Use MACRS To Depreciate Your Property? You must use the Modified Accelerated Cost Recovery System (MACRS) to depreciate most business and investment property placed in service after 1986. Freestatetax MACRS is explained later under Figuring Depreciation Under MACRS . Freestatetax You cannot use MACRS to depreciate the following property. Freestatetax Property you placed in service before 1987. Freestatetax Use the methods discussed in Publication 534. Freestatetax Certain property owned or used in 1986. Freestatetax See chapter 1 of Publication 946. Freestatetax Intangible property. Freestatetax Films, video tapes, and recordings. Freestatetax Certain corporate or partnership property acquired in a nontaxable transfer. Freestatetax Property you elected to exclude from MACRS. Freestatetax For more information, see chapter 1 of Publication 946. Freestatetax What Is the Basis of Your Depreciable Property? To figure your depreciation deduction, you must determine the basis of your property. Freestatetax To determine basis, you need to know the cost or other basis of your property. Freestatetax Cost or other basis. Freestatetax   The basis of property you buy is usually its cost plus amounts you paid for items such as sales tax, freight charges, and installation and testing fees. Freestatetax The cost includes the amount you pay in cash, debt obligations, other property, or services. Freestatetax   There are times when you cannot use cost as basis. Freestatetax In these situations, the fair market value (FMV) or the adjusted basis of the property may be used. Freestatetax Adjusted basis. Freestatetax   To find your property's basis for depreciation, you may have to make certain adjustments (increases and decreases) to the basis of the property for events occurring between the time you acquired the property and the time you placed it in service. Freestatetax Basis adjustment for depreciation allowed or allowable. Freestatetax   After you place your property in service, you must reduce the basis of the property by the depreciation allowed or allowable, whichever is greater. Freestatetax Depreciation allowed is depreciation you actually deducted (from which you received a tax benefit). Freestatetax Depreciation allowable is depreciation you are entitled to deduct. Freestatetax   If you do not claim depreciation you are entitled to deduct, you must still reduce the basis of the property by the full amount of depreciation allowable. Freestatetax   If you deduct more depreciation than you should, you must reduce your basis by any amount deducted from which you received a tax benefit (the depreciation allowed). Freestatetax   For more information, see chapter 6. Freestatetax How Do You Treat Repairs and Improvements? You generally deduct the cost of repairing business property in the same way as any other business expense. Freestatetax However, if a repair or replacement increases the value of your property, makes it more useful, or lengthens its life, you must treat it as an improvement and depreciate it. Freestatetax Treat improvements as separate depreciable property. Freestatetax See chapter 1 of Publication 946 for more information. Freestatetax Example. Freestatetax You repair a small section on a corner of the roof of a barn that you rent to others. Freestatetax You deduct the cost of the repair as a business expense. Freestatetax However, if you replace the entire roof, the new roof is considered to be an improvement because it increases the value and lengthens the life for the property. Freestatetax You depreciate the cost of the new roof. Freestatetax Improvements to rented property. Freestatetax   You can depreciate permanent improvements you make to business property you rent from someone else. Freestatetax Do You Have To File Form 4562? Use Form 4562 to claim your deduction for depreciation and amortization. Freestatetax You must complete and attach Form 4562 to your tax return if you are claiming any of the following. Freestatetax A section 179 expense deduction for the current year or a section 179 carryover from a prior year. Freestatetax Depreciation for property placed in service during the current year. Freestatetax Depreciation on any vehicle or other listed property, regardless of when it was placed in service. Freestatetax Amortization of costs that began in the current year. Freestatetax For more information, see the Instructions for Form 4562. Freestatetax How Do You Correct Depreciation Deductions? If you deducted an incorrect amount of depreciation in any year, you may be able to make a correction by filing an amended return for that year. Freestatetax You can file an amended return to correct the amount of depreciation claimed for any property in any of the following situations. Freestatetax You claimed the incorrect amount because of a mathematical error made in any year. Freestatetax You claimed the incorrect amount because of a posting error made in any year, for example, omitting an asset from the depreciation schedule. Freestatetax You have not adopted a method of accounting for the property placed in service by you in tax years ending after December 29, 2003. Freestatetax You claimed the incorrect amount on property placed in service by you in tax years ending before December 30, 2003. Freestatetax Note. Freestatetax You have adopted a method of accounting if you used the same incorrect method of depreciation for two or more consecutively filed returns. Freestatetax If you are not allowed to make the correction on an amended return, you may be able to change your accounting method to claim the correct amount of depreciation. Freestatetax See the Instructions for Form 3115. Freestatetax Section 179 Expense Deduction You can elect to recover all or part of the cost of certain qualifying property, up to a limit, by deducting it in the year you place the property in service. Freestatetax This is the section 179 expense deduction. Freestatetax You can elect the section 179 expense deduction instead of recovering the cost by taking depreciation deductions. Freestatetax This part of the chapter explains the rules for the section 179 expense deduction. Freestatetax It explains what property qualifies for the deduction, what property does not qualify for the deduction, the limits that may apply, how to elect the deduction, and when you may have to recapture the deduction. Freestatetax For more information, see chapter 2 of Publication 946. Freestatetax What Property Qualifies? To qualify for the section 179 expense deduction, your property must meet all the following requirements. Freestatetax It must be eligible property. Freestatetax It must be acquired for business use. Freestatetax It must have been acquired by purchase. Freestatetax Eligible Property To qualify for the section 179 expense deduction, your property must be one of the following types of depreciable property. Freestatetax Tangible personal property. Freestatetax Qualified real property. Freestatetax (Special rules apply to qualified real property that you elect to treat as qualified section 179 real property. Freestatetax For more information, see chapter 2 of Publication 946 and section 179(f) of the Internal Revenue Code. Freestatetax ) Other tangible property (except buildings and their structural components) used as: An integral part of manufacturing, production, or extraction or of furnishing transportation, communications, electricity, gas, water, or sewage disposal services; A research facility used in connection with any of the activities in (a) above; or A facility used in connection with any of the activities in (a) for the bulk storage of fungible commodities. Freestatetax Single purpose agricultural (livestock) or horticultural structures. Freestatetax Storage facilities (except buildings and their structural components) used in connection with distributing petroleum or any primary product of petroleum. Freestatetax Off-the-shelf computer software that is readily available for purchase by the general public, is subject to a nonexclusive lease, and has not been substantially modified. Freestatetax Tangible personal property. Freestatetax   Tangible personal property is any tangible property that is not real property. Freestatetax It includes the following property. Freestatetax Machinery and equipment. Freestatetax Property contained in or attached to a building (other than structural components), such as milk tanks, automatic feeders, barn cleaners, and office equipment. Freestatetax Gasoline storage tanks and pumps at retail service stations. Freestatetax Livestock, including horses, cattle, hogs, sheep, goats, and mink and other fur-bearing animals. Freestatetax Facility used for the bulk storage of fungible commodities. Freestatetax   A facility used for the bulk storage of fungible commodities is qualifying property for purposes of the section 179 expense deduction if it is used in connection with any of the activities listed earlier in item (3)(a). Freestatetax Bulk storage means the storage of a commodity in a large mass before it is used. Freestatetax Grain bins. Freestatetax   A grain bin is an example of a storage facility that is qualifying section 179 property. Freestatetax It is a facility used in connection with the production of grain or livestock for the bulk storage of fungible commodities. Freestatetax Single purpose agricultural or horticultural structures. Freestatetax   A single purpose agricultural (livestock) or horticultural structure is qualifying property for purposes of the section 179 expense deduction. Freestatetax Agricultural structure. Freestatetax   A single purpose agricultural (livestock) structure is any building or enclosure specifically designed, constructed, and used for both the following reasons. Freestatetax To house, raise, and feed a particular type of livestock and its produce. Freestatetax To house the equipment, including any replacements, needed to house, raise, or feed the livestock. Freestatetax For this purpose, livestock includes poultry. Freestatetax   Single purpose structures are qualifying property if used, for example, to breed chickens or hogs, produce milk from dairy cattle, or produce feeder cattle or pigs, broiler chickens, or eggs. Freestatetax The facility must include, as an integral part of the structure or enclosure, equipment necessary to house, raise, and feed the livestock. Freestatetax Horticultural structure. Freestatetax   A single purpose horticultural structure is either of the following. Freestatetax A greenhouse specifically designed, constructed, and used for the commercial production of plants. Freestatetax A structure specifically designed, constructed, and used for the commercial production of mushrooms. Freestatetax Use of structure. Freestatetax   A structure must be used only for the purpose that qualified it. Freestatetax For example, a hog barn will not be qualifying property if you use it to house poultry. Freestatetax Similarly, using part of your greenhouse to sell plants will make the greenhouse nonqualifying property. Freestatetax   If a structure includes work space, the work space can be used only for the following activities. Freestatetax Stocking, caring for, or collecting livestock or plants or their produce. Freestatetax Maintaining the enclosure or structure. Freestatetax Maintaining or replacing the equipment or stock enclosed or housed in the structure. Freestatetax Property Acquired by Purchase To qualify for the section 179 expense deduction, your property must have been acquired by purchase. Freestatetax For example, property acquired by gift or inheritance does not qualify. Freestatetax Property acquired from a related person (that is, your spouse, ancestors, or lineal descendants) is not considered acquired by purchase. Freestatetax Example. Freestatetax Ken is a farmer. Freestatetax He purchased two tractors, one from his brother and one from his father. Freestatetax He placed both tractors in service in the same year he bought them. Freestatetax The tractor purchased from his father does not qualify for the section 179 expense deduction because he is a related person (as defined above). Freestatetax The tractor purchased from his brother does qualify for the deduction because Ken is not a related person (as defined above). Freestatetax What Property Does Not Qualify? Land and improvements. Freestatetax   Land and land improvements, do not qualify as section 179 property. Freestatetax Land improvements include nonagricultural fences, swimming pools, paved parking areas, wharves, docks, bridges, and fences. Freestatetax However, agricultural fences do qualify as section 179 property. Freestatetax Similarly, field drainage tile also qualifies as section 179 property. Freestatetax Excepted property. Freestatetax   Even if the requirements explained in the preceding discussions are met, farmers cannot elect the section 179 expense deduction for the following property. Freestatetax Certain property you lease to others (if you are a noncorporate lessor). Freestatetax Certain property used predominantly to furnish lodging or in connection with the furnishing of lodging. Freestatetax Property used by a tax-exempt organization (other than a tax-exempt farmers' cooperative) unless the property is used mainly in a taxable unrelated trade or business. Freestatetax Property used by governmental units or foreign persons or entities (except property used under a lease with a term of less than 6 months). Freestatetax How Much Can You Deduct? Your section 179 expense deduction is generally the cost of the qualifying property. Freestatetax However, the total amount you can elect to deduct under section 179 is subject to a dollar limit and a business income limit. Freestatetax These limits apply to each taxpayer, not to each business. Freestatetax However, see Married individuals under Dollar Limits , later. Freestatetax See also the special rules for applying the limits for partnerships and S corporations under Partnerships and S Corporations , later. Freestatetax If you deduct only part of the cost of qualifying property as a section 179 expense deduction, you can generally depreciate the cost you do not deduct. Freestatetax Use Part I of Form 4562 to figure your section 179 expense deduction. Freestatetax Partial business use. Freestatetax   When you use property for business and nonbusiness purposes, you can elect the section 179 expense deduction only if you use it more than 50% for business in the year you place it in service. Freestatetax If you used the property more than 50% for business, multiply the cost of the property by the percentage of business use. Freestatetax Use the resulting business cost to figure your section 179 expense deduction. Freestatetax Trade-in of other property. Freestatetax   If you buy qualifying property with cash and a trade-in, its cost for purposes of the section 179 expense deduction includes only the cash you paid. Freestatetax For example, if you buy (for cash and a trade-in) a new tractor for use in your business, your cost for the section 179 expense deduction is the cash you paid. Freestatetax It does not include the adjusted basis of the old tractor you trade for the new tractor. Freestatetax Example. Freestatetax J-Bar Farms traded two cultivators having a total adjusted basis of $6,800 for a new cultivator costing $13,200. Freestatetax They received an $8,000 trade-in allowance for the old cultivators and paid $5,200 cash for the new cultivator. Freestatetax J-Bar also traded a used pickup truck with an adjusted basis of $8,000 for a new pickup truck costing $35,000. Freestatetax They received a $5,000 trade-in allowance and paid $30,000 cash for the new pickup truck. Freestatetax Only the cash paid by J-Bar qualifies for the section 179 expense deduction. Freestatetax J-Bar's business costs that qualify for a section 179 expense deduction are $35,200 ($5,200 + $30,000). Freestatetax Dollar Limits The total amount you can elect to deduct under section 179 for most property placed in service in 2013 is $500,000. Freestatetax If you acquire and place in service more than one item of qualifying property during the year, you can allocate the section 179 expense deduction among the items in any way, as long as the total deduction is not more than $500,000. Freestatetax Qualified real property that you elect to treat as section 179 property is limited to $250,000 of the maximum section 179 deduction of $500,000 for 2013. Freestatetax You do not have to claim the full $500,000. Freestatetax For specific information on the section 179 dollar limits, see chapter 2 of Publication 946. Freestatetax Reduced dollar limit for cost exceeding $2 million. Freestatetax   If the cost of your qualifying section 179 property placed in service in 2013 is over $2 million, you must reduce the dollar limit (but not below zero) by the amount of cost over $2 million. Freestatetax If the cost of your section 179 property placed in service during 2013 is $2,500,000 or more, you cannot take a section 179 expense deduction and you cannot carry over the cost that is more than $2,500,000. Freestatetax Example. Freestatetax This year, James Smith placed in service machinery costing $2,050,000. Freestatetax Because this cost is $50,000 more than $2 million, he must reduce his dollar limit to $450,000 ($500,000 − $50,000). Freestatetax Limits for sport utility vehicles. Freestatetax   The total amount you can elect to deduct for certain sport utility vehicles and certain other vehicles placed in service in 2013 is $25,000. Freestatetax This rule applies to any 4-wheeled vehicle primarily designed or used to carry passengers over public streets, roads, and highways that is rated at more than 6,000 pounds gross vehicle weight and not more than 14,000 pounds gross vehicle weight. Freestatetax   For more information, see chapter 2 of Publication 946. Freestatetax Limits for passenger automobiles. Freestatetax   For a passenger automobile that is placed in service in 2013, the total section 179 and depreciation deduction is limited. Freestatetax See Do the Passenger Automobile Limits Apply , later. Freestatetax Married individuals. Freestatetax   If you are married, how you figure your section 179 expense deduction depends on whether you file jointly or separately. Freestatetax If you file a joint return, you and your spouse are treated as one taxpayer in determining any reduction to the dollar limit, regardless of which of you purchased the property or placed it in service. Freestatetax If you and your spouse file separate returns, you are treated as one taxpayer for the dollar limit, including the reduction for costs over $2 million. Freestatetax You must allocate the dollar limit (after any reduction) equally between you, unless you both elect a different allocation. Freestatetax If the percentages elected by each of you do not total 100%, 50% will be allocated to each of you. Freestatetax Joint return after separate returns. Freestatetax   If you and your spouse elect to amend your separate returns by filing a joint return after the due date for filing your return, the dollar limit on the joint return is the lesser of the following amounts. Freestatetax The dollar limit (after reduction for any cost of section 179 property over $2 million). Freestatetax The total cost of section 179 property you and your spouse elected to expense on your separate returns. Freestatetax Business Income Limit The total cost you can deduct each year after you apply the dollar limit is limited to the taxable income from the active conduct of any trade or business during the year. Freestatetax Generally, you are considered to actively conduct a trade or business if you meaningfully participate in the management or operations of the trade or business. Freestatetax Any cost not deductible in one year under section 179 because of this limit can be carried to the next year. Freestatetax See Carryover of disallowed deduction , later. Freestatetax Taxable income. Freestatetax   In general, figure taxable income for this purpose by totaling the net income and losses from all trades and businesses you actively conducted during the year. Freestatetax In addition to net income or loss from a sole proprietorship, partnership, or S corporation, net income or loss derived from a trade or business also includes the following items. Freestatetax Section 1231 gains (or losses) as discussed in chapter 9. Freestatetax Interest from working capital of your trade or business. Freestatetax Wages, salaries, tips, or other pay earned by you (or your spouse if you file a joint return) as an employee of any employer. Freestatetax   In addition, figure taxable income without regard to any of the following. Freestatetax The section 179 expense deduction. Freestatetax The self-employment tax deduction. Freestatetax Any net operating loss carryback or carryforward. Freestatetax Any unreimbursed employee business expenses. Freestatetax Two different taxable income limits. Freestatetax   In addition to the business income limit for your section 179 expense deduction, you may have a taxable income limit for some other deduction (for example, charitable contributions). Freestatetax You may have to figure the limit for this other deduction taking into account the section 179 expense deduction. Freestatetax If so, complete the following steps. Freestatetax Step Action 1 Figure taxable income without the section 179 expense deduction or the other deduction. Freestatetax 2 Figure a hypothetical section 179 expense deduction using the taxable income figured in Step 1. Freestatetax 3 Subtract the hypothetical section 179 expense deduction figured in Step 2 from the taxable income figured in Step 1. Freestatetax 4 Figure a hypothetical amount for the other deduction using the amount figured in Step 3 as taxable income. Freestatetax 5 Subtract the hypothetical other deduction figured in Step 4 from the taxable income figured in  Step 1. Freestatetax 6 Figure your actual section 179 expense deduction using the taxable income figured in Step 5. Freestatetax 7 Subtract your actual section 179 expense deduction figured in Step 6 from the taxable income figured in Step 1. Freestatetax 8 Figure your actual other deduction using the taxable income figured in Step 7. Freestatetax Example. Freestatetax On February 1, 2013, the XYZ farm corporation purchased and placed in service qualifying section 179 property that cost $500,000. Freestatetax It elects to expense the entire $500,000 cost under section 179. Freestatetax In June, the corporation gave a charitable contribution of $10,000. Freestatetax A corporation's limit on charitable contributions is figured after subtracting any section 179 expense deduction. Freestatetax The business income limit for the section 179 expense deduction is figured after subtracting any allowable charitable contributions. Freestatetax XYZ's taxable income figured without the section 179 expense deduction or the deduction for charitable contributions is $520,000. Freestatetax XYZ figures its section 179 expense deduction and its deduction for charitable contributions as follows. Freestatetax Step 1. Freestatetax Taxable income figured without either deduction is $520,000. Freestatetax Step 2. Freestatetax Using $520,000 as taxable income, XYZ's hypothetical section 179 expense deduction is $500,000. Freestatetax Step 3. Freestatetax $20,000 ($520,000 − $500,000). Freestatetax Step 4. Freestatetax Using $20,000 (from Step 3) as taxable income, XYZ's hypothetical charitable contribution (limited to 10% of taxable income) is $2,000. Freestatetax Step 5. Freestatetax $518,000 ($520,000 − $2,000). Freestatetax Step 6. Freestatetax Using $518,000 (from Step 5) as taxable income, XYZ figures the actual section 179 expense deduction. Freestatetax Because the taxable income is at least $500,000, XYZ can take a $500,000 section 179 expense deduction. Freestatetax Step 7. Freestatetax $20,000 ($520,000 − $500,000). Freestatetax Step 8. Freestatetax Using $20,000 (from Step 7) as taxable income, XYZ's actual charitable contribution (limited to 10% of taxable income) is $2,000. Freestatetax Carryover of disallowed deduction. Freestatetax   You can carry over for an unlimited number of years the cost of any section 179 property you elected to expense but were unable to because of the business income limit. Freestatetax   The amount you carry over is used in determining your section 179 expense deduction in the next year. Freestatetax However, it is subject to the limits in that year. Freestatetax If you place more than one property in service in a year, you can select the properties for which all or a part of the cost will be carried forward. Freestatetax Your selections must be shown in your books and records. Freestatetax Example. Freestatetax Last year, Joyce Jones placed in service a machine that cost $8,000 and elected to deduct all $8,000 under section 179. Freestatetax The taxable income from her business (determined without regard to both a section 179 expense deduction for the cost of the machine and the self-employment tax deduction) was $6,000. Freestatetax Her section 179 expense deduction was limited to $6,000. Freestatetax The $2,000 cost that was not allowed as a section 179 expense deduction (because of the business income limit) is carried to this year. Freestatetax This year, Joyce placed another machine in service that cost $9,000. Freestatetax Her taxable income from business (determined without regard to both a section 179 expense deduction for the cost of the machine and the self-employment tax deduction) is $10,000. Freestatetax Joyce can deduct the full cost of the machine ($9,000) but only $1,000 of the carryover from last year because of the business income limit. Freestatetax She can carry over the balance of $1,000 to next year. Freestatetax Partnerships and S Corporations The section 179 expense deduction limits apply both to the partnership or S corporation and to each partner or shareholder. Freestatetax The partnership or S corporation determines its section 179 expense deduction subject to the limits. Freestatetax It then allocates the deduction among its partners or shareholders. Freestatetax If you are a partner in a partnership or shareholder of an S corporation, you add the amount allocated from the partnership or S corporation to any section 179 costs not related to the partnership or S corporation and then apply the dollar limit to this total. Freestatetax To determine any reduction in the dollar limit for costs over $560,000, you do not include any of the cost of section 179 property placed in service by the partnership or S corporation. Freestatetax After you apply the dollar limit, you apply the business income limit to any remaining section 179 costs. Freestatetax For more information, see chapter 2 of Publication 946. Freestatetax Example. Freestatetax In 2013, Partnership P placed in service section 179 property with a total cost of $2,160,000. Freestatetax P must reduce its dollar limit by $160,000 ($2,160,000 − $2,000,000). Freestatetax Its maximum section 179 expense deduction is $340,000 ($500,000 − $160,000), and it elects to expense that amount. Freestatetax Because P's taxable income from the active conduct of all its trades or businesses for the year was $400,000, it can deduct the full $340,000. Freestatetax P allocates $100,000 of its section 179 expense deduction and $110,000 of its taxable income to John, one of its partners. Freestatetax John also conducts a business as a sole proprietor and in 2013, placed in service in that business, section 179 property costing $28,000. Freestatetax John's taxable income from that business was $10,000. Freestatetax In addition to the $100,000 allocated from P, he elects to expense the $28,000 of his sole proprietorship's section 179 costs. Freestatetax However, John's deduction is limited to his business taxable income of $120,000 ($110,000 from P plus $10,000 from his sole proprietorship). Freestatetax He carries over $8,000 ($128,000 − $120,000) of the elected section 179 costs to 2014. Freestatetax How Do You Elect the Deduction? You elect to take the section 179 expense deduction by completing Part I of Form 4562. Freestatetax If you elect the deduction for listed property, complete Part V of  Form 4562 before completing Part I. Freestatetax   File Form 4562 with either of the following: Your original tax return (whether or not you filed it timely), or An amended return filed within the time prescribed by law. Freestatetax An election made on an amended return must specify the item of section 179 property to which the election applies and the part of the cost of each such item to be taken into account. Freestatetax The amended return must also include any resulting adjustments to taxable income. Freestatetax Revoking an election. Freestatetax   An election (or any specification made in the election) to take a section 179 expense deduction for 2013 can be revoked without IRS approval by filing an amended return. Freestatetax The amended return must be filed within the time prescribed by law. Freestatetax The amended return must also include any resulting adjustments to taxable income (for example, allowable depreciation in that tax year for the item of section 179 property for which the election pertains. Freestatetax ) Once made, the revocation is irrevocable. Freestatetax When Must You Recapture the Deduction? You may have to recapture the section 179 expense deduction if, in any year during the property's recovery period, the percentage of business use drops to 50% or less. Freestatetax In the year the business use drops to 50% or less, you include the recapture amount as ordinary income. Freestatetax You also increase the basis of the property by the recapture amount. Freestatetax Recovery periods for property are discussed later. Freestatetax If you sell, exchange, or otherwise dispose of the property, do not figure the recapture amount under the rules explained in this discussion. Freestatetax Instead, use the rules for recapturing depreciation explained in  chapter 9 under Section 1245 Property. Freestatetax   If the property is listed property, do not figure the recapture amount under the rules explained in this discussion when the percentage of business use drops to 50% or less. Freestatetax Instead, use the rules for recapturing depreciation explained in chapter 5 of Publication 946 under Recapture of Excess Depreciation. Freestatetax Figuring the recapture amount. Freestatetax   To figure the amount to recapture, take the following steps. Freestatetax Figure the allowable depreciation for the section 179 expense deduction you claimed. Freestatetax Begin with the year you placed the property in service and include the year of recapture. Freestatetax Subtract the depreciation figured in (1) from the section 179 expense deduction you actually claimed. Freestatetax The result is the amount you must recapture. Freestatetax Example. Freestatetax In January 2011, Paul Lamb, a calendar year taxpayer, bought and placed in service section 179 property costing $10,000. Freestatetax The property is not listed property. Freestatetax He elected a $5,000 section 179 expense deduction for the property and also elected not to claim a special depreciation allowance. Freestatetax He used the property only for business in 2011 and 2012. Freestatetax During 2013, he used the property 40% for business and 60% for personal use. Freestatetax He figures his recapture amount as follows. Freestatetax Section 179 expense deduction claimed (2011) $5,000 Minus: Allowable depreciation (instead of section 179 expense deduction):   2011 $1,250   2012 1,875   2013 ($1,250 × 40% (business)) 500 3,625 2013 — Recapture amount $1,375     Paul must include $1,375 in income for 2013. Freestatetax Where to report recapture. Freestatetax   Report any recapture of the section 179 expense deduction as ordinary income in Part IV of Form 4797 and include it in income on Schedule F (Form 1040). Freestatetax Recapture for qualified section 179 GO Zone property. Freestatetax   If any qualified section 179 GO Zone property ceases to be used in the GO Zone in a later year, you must recapture the benefit of the increased section 179 expense deduction as “other income. Freestatetax ” Claiming the Special Depreciation Allowance For qualified property (defined below) placed in service in 2013, you can take an additional 50% special depreciation allowance. Freestatetax The allowance is an additional deduction you can take after any section 179 expense deduction and before you figure regular depreciation under MACRS. Freestatetax Figure the special depreciation allowance by multiplying the depreciable basis of the qualified property by 50%. Freestatetax What is Qualified Property? For farmers, qualified property generally is certain qualified property acquired after December 31, 2007, and placed in service before January 1, 2014. Freestatetax Certain qualified property acquired after December 31, 2007, and placed in service before January 1, 2014. Freestatetax   Certain qualified property (defined below) acquired after December 31, 2007, and before January 1, 2014, is eligible for a 50% special depreciation allowance. Freestatetax   Qualified property includes the following: Tangible property depreciated under the Modified Accelerated Cost Recovery System (MACRS) with a recovery period of 20 years or less. Freestatetax Water utility property. Freestatetax Off-the-shelf computer software. Freestatetax Qualified leasehold improvement property. Freestatetax   Qualified property must also meet all of the following tests: You must have acquired qualified property by purchase after December 31, 2007. Freestatetax If a binding contract to acquire the property existed before January 1, 2008, the property does not qualify. Freestatetax Qualified property must be placed in service after December 31, 2007 and placed in service before January 1, 2014 (before January 1, 2015 for certain property with a long production period and for certain aircraft). Freestatetax The original use of the property must begin with you after December 31, 2007. Freestatetax For more information, see chapter 3 of Publication 946. Freestatetax How Can You Elect Not To Claim the Allowance? You can elect, for any class of property, not to deduct the special depreciation allowance for all property in such class placed in service during the tax year. Freestatetax To make the election, attach a statement to your return indicating the class of property for which you are making the election. Freestatetax Generally, you must make the election on a timely filed tax return (including extensions) for the year in which you place the property in service. Freestatetax However, if you timely filed your return for the year without making the election, you still can make the election by filing an amended return within 6 months of the due date of the original return (not including extensions). Freestatetax Attach the election statement to the amended return. Freestatetax On the amended return, write “Filed pursuant to section 301. Freestatetax 9100-2. Freestatetax ” Once made, the election may not be revoked without IRS consent. Freestatetax If you elect not to have the special depreciation allowance apply, the property may be subject to an alternative minimum tax adjustment for depreciation. Freestatetax When Must You Recapture an Allowance When you dispose of property for which you claimed a special depreciation allowance, any gain on the disposition is generally recaptured (included in income) as ordinary income up to the amount of the special depreciation allowance previously allowed or allowable. Freestatetax For more information, see chapter 3 of Publication 946. Freestatetax Figuring Depreciation Under MACRS The Modified Accelerated Cost Recovery System (MACRS) is used to recover the basis of most business and investment property placed in service after 1986. Freestatetax MACRS consists of two depreciation systems, the General Depreciation System (GDS) and the Alternative Depreciation System (ADS). Freestatetax Generally, these systems provide different methods and recovery periods to use in figuring depreciation deductions. Freestatetax To be sure you can use MACRS to figure depreciation for your property, see Can You Use MACRS To Depreciate Your Property, earlier. Freestatetax This part explains how to determine which MACRS depreciation system applies to your property. Freestatetax It also discusses the following information that you need to know before you can figure depreciation under MACRS. Freestatetax Property's recovery class. Freestatetax Placed-in-service date. Freestatetax Basis for depreciation. Freestatetax Recovery period. Freestatetax Convention. Freestatetax Depreciation method. Freestatetax Finally, this part explains how to use this information to figure your depreciation deduction. Freestatetax Which Depreciation System (GDS or ADS) Applies? Your use of either the General Depreciation System (GDS) or the Alternative Depreciation System (ADS) to depreciate property under MACRS determines what depreciation method and recovery period you use. Freestatetax You generally must use GDS unless you are specifically required by law to use ADS or you elect to use ADS. Freestatetax Required use of ADS. Freestatetax   You must use ADS for the following property. Freestatetax All property used predominantly in a farming business and placed in service in any tax year during which an election not to apply the uniform capitalization rules to certain farming costs is in effect. Freestatetax Listed property used 50% or less in a qualified business use. Freestatetax See Additional Rules for Listed Property , later. Freestatetax Any tax-exempt use property. Freestatetax Any tax-exempt bond-financed property. Freestatetax Any property imported from a foreign country for which an Executive Order is in effect because the country maintains trade restrictions or engages in other discriminatory acts. Freestatetax Any tangible property used predominantly outside the United States during the year. Freestatetax If you are required to use ADS to depreciate your property, you cannot claim the special depreciation allowance. Freestatetax Electing ADS. Freestatetax   Although your property may qualify for GDS, you can elect to use ADS. Freestatetax The election generally must cover all property in the same property class you placed in service during the year. Freestatetax However, the election for residential rental property and nonresidential real property can be made on a property-by-property basis. Freestatetax Once you make this election, you can never revoke it. Freestatetax   You make the election by completing line 20 in Part III of Form 4562. Freestatetax Which Property Class Applies Under GDS? The following is a list of the nine property classes under GDS. Freestatetax 3-year property. Freestatetax 5-year property. Freestatetax 7-year property. Freestatetax 10-year property. Freestatetax 15-year property. Freestatetax 20-year property. Freestatetax 25-year property. Freestatetax Residential rental property. Freestatetax Nonresidential real property. Freestatetax See Which Property Class Applies Under GDS in chapter 4 of Publication 946 for examples of the types of property included in each class. Freestatetax What Is the Placed-in-Service Date? You begin to claim depreciation when your property is placed in service for use either in a trade or business or for the production of income. Freestatetax The placed-in-service date for your property is the date the property is ready and available for a specific use. Freestatetax It is therefore not necessarily the date it is first used. Freestatetax If you converted property held for personal use to use in a trade or business or for the production of income, treat the property as being placed in service on the conversion date. Freestatetax See Placed in Service under When Does Depreciation Begin and End , earlier, for examples illustrating when property is placed in service. Freestatetax What Is the Basis for Depreciation? The basis for depreciation of MACRS property is the property's cost or other basis multiplied by the percentage of business/investment use. Freestatetax Reduce that amount by any credits and deductions allocable to the property. Freestatetax The following are examples of some of the credits and deductions that reduce basis. Freestatetax Any deduction for section 179 property. Freestatetax Any deduction for removal of barriers to the disabled and the elderly. Freestatetax Any disabled access credit, enhanced oil recovery credit, and credit for employer-provided childcare facilities and services. Freestatetax Any special depreciation allowance. Freestatetax Basis adjustment for investment credit property under section 50(c) of the Internal Revenue Code. Freestatetax For information about how to determine the cost or other basis of property, see What Is the Basis of Your Depreciable Property , earlier. Freestatetax Also, see chapter 6. Freestatetax For additional credits and deductions that affect basis, see section 1016 of the Internal Revenue Code. Freestatetax Which Recovery Period Applies? The recovery period of property is the number of years over which you recover its cost or other basis. Freestatetax It is determined based on the depreciation system (GDS or ADS) used. Freestatetax See Table 7-1 for recovery periods under both GDS and ADS for some commonly used assets. Freestatetax For a complete list of recovery periods, see the Table of Class Lives and Recovery Periods in Appendix B of Publication 946. Freestatetax House trailers for farm laborers. Freestatetax   To depreciate a house trailer you supply as housing for those who work on your farm, use one of the following recovery periods if the house trailer is mobile (it has wheels and a history of movement). Freestatetax A 7-year recovery period under GDS. Freestatetax A 10-year recovery period under ADS. Freestatetax   However, if the house trailer is not mobile (its wheels have been removed and permanent utilities and pipes attached to it), use one of the following recovery periods. Freestatetax A 20-year recovery period under GDS. Freestatetax A 25-year recovery period under ADS. Freestatetax Water wells. Freestatetax   Water wells used to provide water for raising poultry and livestock are land improvements. Freestatetax If they are depreciable, use one of the following recovery periods. Freestatetax A 15-year recovery period under GDS. Freestatetax A 20-year recovery period under ADS. Freestatetax   The types of water wells that can be depreciated were discussed earlier in Irrigation systems and water wells under Property Having a Determinable Useful Life . Freestatetax Table 7-1. Freestatetax Farm Property Recovery Periods   Recovery Period in Years Assets GDS ADS Agricultural structures (single purpose) 10 15 Automobiles 5 5 Calculators and copiers 5 6 Cattle (dairy or breeding) 5 7 Communication equipment1 7 10 Computer and peripheral equipment 5 5 Drainage facilities 15 20 Farm buildings2 20 25 Farm machinery and equipment 7 10 Fences (agricultural) 7 10 Goats and sheep (breeding) 5 5 Grain bin 7 10 Hogs (breeding) 3 3 Horses (age when placed in service)     Breeding and working (12 years or less) 7 10 Breeding and working (more than 12 years) 3 10 Racing horses 3 12 Horticultural structures (single purpose) 10 15 Logging machinery and equipment3 5 6 Nonresidential real property 394 40 Office furniture, fixtures, and equipment (not calculators, copiers, or typewriters) 7 10 Paved lots 15 20 Residential rental property 27. Freestatetax 5 40 Tractor units (over-the-road) 3 4 Trees or vines bearing fruit or nuts 10 20 Truck (heavy duty, unloaded weight 13,000 lbs. Freestatetax or more) 5 6 Truck (actual weight less than 13,000 lbs) 5 5 Water wells 15 20 1 Not including communication equipment listed in other classes. Freestatetax 2 Not including single purpose agricultural or horticultural structures. Freestatetax 3 Used by logging and sawmill operators for cutting of timber. Freestatetax 4 For property placed in service after May 12, 1993; for property placed in service before May 13, 1993,  the recovery period is 31. Freestatetax 5 years. Freestatetax Which Convention Applies? Under MACRS, averaging conventions establish when the recovery period begins and ends. Freestatetax The convention you use determines the number of months for which you can claim depreciation in the year you place property in service and in the year you dispose of the property. Freestatetax Use one of the following conventions. Freestatetax The half-year convention. Freestatetax The mid-month convention. Freestatetax The mid-quarter convention. Freestatetax For a detailed explanation of each convention, see Which Convention Applies in chapter 4 of Publication 946. Freestatetax Also, see the Instructions for Form 4562. Freestatetax Which Depreciation Method Applies? MACRS provides three depreciation methods under GDS and one depreciation method under ADS. Freestatetax The 200% declining balance method over a GDS recovery period. Freestatetax The 150% declining balance method over a GDS recovery period. Freestatetax The straight line method over a GDS recovery period. Freestatetax The straight line method over an ADS recovery period. Freestatetax Depreciation Table. Freestatetax   The following table lists the types of property you can depreciate under each method. Freestatetax The declining balance method is abbreviated as DB and the straight line method is abbreviated as SL. Freestatetax Depreciation Table System/Method   Type of Property GDS using  150% DB • All property used in a farming business (except real property)   • All 15- and 20-year property   • Nonfarm 3-, 5-, 7-, and 10-year property1 GDS using SL • Nonresidential real property   • Residential rental property   • Trees or vines bearing fruit or nuts   • All 3-, 5-, 7-, 10-, 15-, and 20-year property1 ADS using SL • Property used predomi- nantly outside the United States   • Farm property used when an election not to apply the uniform capitalization rules is in effect   • Tax-exempt property   • Tax-exempt bond-financed property   • Imported property2   • Any property for which you elect to use this method1 GDS using  200% DB • Nonfarm 3-, 5-, 7-, and 10-year property 1Elective method 2See section 168(g)(6) of the Internal Revenue  Code Property used in farming business. Freestatetax   For personal property placed in service after 1988 in a farming business, you must use the 150% declining balance method over a GDS recovery period or you can elect one of the following methods. Freestatetax The straight line method over a GDS recovery period. Freestatetax The straight line method over an ADS recovery period. Freestatetax For property placed in service before 1999, you could have elected to use the 150% declining balance method using the ADS recovery periods for certain property classes. Freestatetax If you made this election, continue to use the same method and recovery period for that property. Freestatetax Real property. Freestatetax   You can depreciate real property using the straight line method under either GDS or ADS. Freestatetax Switching to straight line. Freestatetax   If you use a declining balance method, you switch to the straight line method in the year it provides an equal or greater deduction. Freestatetax If you use the MACRS percentage tables, discussed later under How Is the Depreciation Deduction Figured , you do not need to determine in which year your deduction is greater using the straight line method. Freestatetax The tables have the switch to the straight line method built into their rates. Freestatetax Fruit or nut trees and vines. Freestatetax   Depreciate trees and vines bearing fruit or nuts under GDS using the straight line method over a 10-year recovery period. Freestatetax ADS required for some farmers. Freestatetax   If you elect not to apply the uniform capitalization rules to any plant shown in Table 6-1 of chapter 6 and produced in your farming business, you must use ADS for all property you place in service in any year the election is in effect. Freestatetax See chapter 6 for a discussion of the application of the uniform capitalization rules to farm property. Freestatetax Electing a different method. Freestatetax   As shown in the Depreciation Table , you can elect a different method for depreciation for certain types of property. Freestatetax You must make the election by the due date of the return (including extensions) for the year you placed the property in service. Freestatetax However, if you timely filed your return for the year without making the election, you can still make the election by filing an amended return within 6 months of the due date of your return (excluding extensions). Freestatetax Attach the election to the amended return and write “Filed pursuant to section 301. Freestatetax 9100-2” on the election statement. Freestatetax File the amended return at the same address you filed the original return. Freestatetax Once you make the election, you cannot change it. Freestatetax    If you elect to use a different method for one item in a property class, you must apply the same method to all property in that class placed in service during the year of the election. Freestatetax However, you can make the election on a property-by-property basis for residential rental and nonresidential real property. Freestatetax Straight line election. Freestatetax   Instead of using the declining balance method, you can elect to use the straight line method over the GDS recovery period. Freestatetax Make the election by entering “S/L” under column (f) in Part III of Form 4562. Freestatetax ADS election. Freestatetax   As explained earlier under Which Depreciation System (GDS or ADS) Applies , you can elect to use ADS even though your property may come under GDS. Freestatetax ADS uses the straight line method of depreciation over the ADS recovery periods, which are generally longer than the GDS recovery periods. Freestatetax The ADS recovery periods for many assets used in the business of farming are listed in Table 7–1. Freestatetax Additional ADS recovery periods for other classes of property may be found in the Table of Class Lives and Recovery Periods in Appendix B of Publication 946. Freestatetax How Is the Depreciation Deduction Figured? To figure your depreciation deduction under MACRS, you first determine the depreciation system, property class, placed-in-service date, basis amount, recovery period, convention, and depreciation method that applies to your property. Freestatetax Then you are ready to figure your depreciation deduction. Freestatetax You can figure it in one of two ways. Freestatetax You can use the percentage tables provided by the IRS. Freestatetax You can figure your own deduction without using the tables. Freestatetax Figuring your own MACRS deduction will generally result in a slightly different amount than using the tables. Freestatetax Using the MACRS Percentage Tables To help you figure your deduction under MACRS, the IRS has established percentage tables that incorporate the applicable convention and depreciation method. Freestatetax These percentage tables are in Appendix A of Publication 946. Freestatetax Rules for using the tables. Freestatetax   The following rules cover the use of the percentage tables. Freestatetax You must apply the rates in the percentage tables to your property's unadjusted basis. Freestatetax Unadjusted basis is the same basis amount you would use to figure gain on a sale but figured without reducing your original basis by any MACRS depreciation taken in earlier years. Freestatetax You cannot use the percentage tables for a short tax year. Freestatetax See chapter 4 of Publication 946 for information on how to figure the deduction for a short tax year. Freestatetax You generally must continue to use them for the entire recovery period of the property. Freestatetax You must stop using the tables if you adjust the basis of the property for any reason other than— Depreciation allowed or allowable, or An addition or improvement to the property, which is depreciated as a separate property. Freestatetax Basis adjustment due to casualty loss. Freestatetax   If you reduce the basis of your property because of a casualty, you cannot continue to use the percentage tables. Freestatetax For the year of the adjustment and the remaining recovery period, you must figure the depreciation yourself using the property's adjusted basis at the end of the year. Freestatetax See Figuring the Deduction Without Using the Tables in chapter 4 of Publication 946. Freestatetax Figuring depreciation using the 150% DB method and half-year convention. Freestatetax    Table 7-2 has the percentages for 3-, 5-, 7-, and 20-year property. Freestatetax The percentages are based on the 150% declining balance method with a change to the straight line method. Freestatetax This table covers only the half-year convention and the first 8 years for 20-year property. Freestatetax See Appendix A in Publication 946 for complete MACRS tables, including tables for the mid-quarter and mid-month convention. Freestatetax   The following examples show how to figure depreciation under MACRS using the percentages in Table 7-2 . Freestatetax Example 1. Freestatetax During the year, you bought an item of 7-year property for $10,000 and placed it in service. Freestatetax You do not elect a section 179 expense deduction for this property. Freestatetax In addition, the property is not qualified property for purposes of the special depreciation allowance. Freestatetax The unadjusted basis of the property is $10,000. Freestatetax You use the percentages in Table 7-2 to figure your deduction. Freestatetax Since this is 7-year property, you multiply $10,000 by 10. Freestatetax 71% to get this year's depreciation of $1,071. Freestatetax For next year, your depreciation will be $1,913 ($10,000 × 19. Freestatetax 13%). Freestatetax Example 2. Freestatetax You had a barn constructed on your farm at a cost of $20,000. Freestatetax You placed the barn in service this year. Freestatetax You elect not to claim the special depreciation allowance. Freestatetax The barn is 20-year property and you use the table percentages to figure your deduction. Freestatetax You figure this year's depreciation by multiplying $20,000 (unadjusted basis) by 3. Freestatetax 75% to get $750. Freestatetax For next year, your depreciation will be $1,443. Freestatetax 80 ($20,000 × 7. Freestatetax 219%). Freestatetax Table 7-2. Freestatetax 150% Declining Balance Method (Half-Year Convention) Year 3-Year 5-Year 7-Year 20-Year 1 25. Freestatetax 0 % 15. Freestatetax 00 % 10. Freestatetax 71 % 3. Freestatetax 750 % 2 37. Freestatetax 5   25. Freestatetax 50   19. Freestatetax 13   7. Freestatetax 219   3 25. Freestatetax 0   17. Freestatetax 85   15. Freestatetax 03   6. Freestatetax 677   4 12. Freestatetax 5   16. Freestatetax 66   12. Freestatetax 25   6. Freestatetax 177   5     16. Freestatetax 66   12. Freestatetax 25   5. Freestatetax 713   6     8. Freestatetax 33   12. Freestatetax 25   5. Freestatetax 285   7         12. Freestatetax 25   4. Freestatetax 888   8         6. Freestatetax 13   4. Freestatetax 522   Figuring depreciation using the straight line method and half-year convention. Freestatetax   The following table has the straight line percentages for 3-, 5-, 7-, and 20-year property using the half-year convention. Freestatetax The table covers only the first 8 years for 20-year property. Freestatetax See Appendix A in Publication 946 for complete MACRS tables, including tables for the mid-quarter and mid-month convention. Freestatetax Table 7-3. Freestatetax Straight Line Method (Half-Year Convention) Year 3-Year 5-Year 7-Year 20-Year 1 16. Freestatetax 67 % 10 % 7. Freestatetax 14 % 2. Freestatetax 5 % 2 33. Freestatetax 33   20   14. Freestatetax 29   5. Freestatetax 0   3 33. Freestatetax 33   20   14. Freestatetax 29   5. Freestatetax 0   4 16. Freestatetax 67   20   14. Freestatetax 28   5. Freestatetax 0   5     20   14. Freestatetax 29   5. Freestatetax 0   6     10   14. Freestatetax 28   5. Freestatetax 0   7         14. Freestatetax 29   5. Freestatetax 0   8         7. Freestatetax 14   5. Freestatetax 0    
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Understanding Your CP516 Notice

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Page Last Reviewed or Updated: 19-Dec-2013

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The Freestatetax

Freestatetax 3. Freestatetax   Exclusions From Gross Income Table of Contents Introduction Topics - This chapter discusses: Useful Items - You may want to see: Resident AliensForeign Earned Income and Housing Amount Nonresident AliensInterest Income Dividend Income Services Performed for Foreign Employer Gambling Winnings From Dog or Horse Racing Gain From the Sale of Your Main Home Scholarships and Fellowship GrantsExpenses that do not qualify. Freestatetax Introduction Resident and nonresident aliens are allowed exclusions from gross income if they meet certain conditions. Freestatetax An exclusion from gross income is generally income you receive that is not included in your U. Freestatetax S. Freestatetax income and is not subject to U. Freestatetax S. Freestatetax tax. Freestatetax This chapter covers some of the more common exclusions allowed to resident and nonresident aliens. Freestatetax Topics - This chapter discusses: Nontaxable interest, Nontaxable dividends, Certain compensation paid by a foreign employer, Gain from sale of home, and Scholarships and fellowship grants. Freestatetax Useful Items - You may want to see: Publication 54 Tax Guide for U. Freestatetax S. Freestatetax Citizens and Resident Aliens Abroad 523 Selling Your Home See chapter 12 for information about getting these publications. Freestatetax Resident Aliens Resident aliens may be able to exclude the following items from their gross income. Freestatetax Foreign Earned Income and Housing Amount If you are physically present in a foreign country or countries for at least 330 full days during any period of 12 consecutive months, you may qualify for the foreign earned income exclusion. Freestatetax The exclusion is $97,600 in 2013. Freestatetax In addition, you may be able to exclude or deduct certain foreign housing amounts. Freestatetax You may also qualify if you are a bona fide resident of a foreign country and you are a citizen or national of a country with which the United States has an income tax treaty. Freestatetax For more information, see Publication 54. Freestatetax Foreign country. Freestatetax    A foreign country is any territory under the sovereignty of a government other than that of the United States. Freestatetax   The term “foreign country” includes the country's territorial waters and airspace, but not international waters and the airspace above them. Freestatetax It also includes the seabed and subsoil of those submarine areas adjacent to the country's territorial waters over which it has exclusive rights under international law to explore and exploit the natural resources. Freestatetax   The term “foreign country” does not include U. Freestatetax S. Freestatetax possessions or territories. Freestatetax It does not include the Antarctic region. Freestatetax Nonresident Aliens Nonresident aliens can exclude the following items from their gross income. Freestatetax Interest Income Interest income that is not connected with a U. Freestatetax S. Freestatetax trade or business is excluded from income if it is from: Deposits (including certificates of deposit) with persons in the banking business, Deposits or withdrawable accounts with mutual savings banks, cooperative banks, credit unions, domestic building and loan associations, and other savings institutions chartered and supervised as savings and loan or similar associations under federal or state law (if the interest paid or credited can be deducted by the association), and Amounts held by an insurance company under an agreement to pay interest on them. Freestatetax State and local government obligations. Freestatetax   Interest on obligations of a state or political subdivision, the District of Columbia, or a U. Freestatetax S. Freestatetax possession, generally is not included in income. Freestatetax However, interest on certain private activity bonds, arbitrage bonds, and certain bonds not in registered form is included in income. Freestatetax Portfolio interest. Freestatetax   Interest and original issue discount that qualifies as portfolio interest is not subject to NRA withholding. Freestatetax To qualify as portfolio interest, the interest must be paid on obligations issued after July 18, 1984, and otherwise subject to NRA withholding. Freestatetax Note. Freestatetax For obligations issued after March 18, 2012, portfolio interest does not include interest paid on debt that is not in registered form. Freestatetax Before March 19, 2012, portfolio interest included interest on certain registered and nonregistered (bearer) bonds if the obligations meet the requirements described below. Freestatetax Obligations in registered form. Freestatetax   Portfolio interest includes interest paid on an obligation that is in registered form, and for which you have received documentation that the beneficial owner of the obligation is not a United States person. Freestatetax   Generally, an obligation is in registered form if: (i) the obligation is registered as to both principal and any stated interest with the issuer (or its agent) and any transfer of the obligation may be effected only by surrender of the old obligation and reissuance to the new holder; (ii) the right to principal and stated interest with respect to the obligation may be transferred only through a book entry system maintained by the issuer or its agent; or (iii) the obligation is registered as to both principal and stated interest with the issuer or its agent and can be transferred both by surrender and reissuance and through a book entry system. Freestatetax   An obligation that would otherwise be considered to be in registered form is not considered to be in registered form as of a particular time if it can be converted at any time in the future into an obligation that is not in registered form. Freestatetax For more information on whether obligations are considered to be in registered form, see Portfolio interest in Publication 515. Freestatetax Obligations not in registered form. Freestatetax    For obligations issued before March 19, 2012, interest on an obligation that is not in registered form (bearer obligation) is portfolio interest if the obligation is foreign-targeted. Freestatetax A bearer obligation is foreign-targeted if: There are arrangements to ensure that the obligation will be sold, or resold in connection with the original issue, only to a person who is not a United States person, Interest on the obligation is payable only outside the United States and its possessions, and The face of the obligation contains a statement that any United States person who holds the obligation will be subject to limits under the United States income tax laws. Freestatetax   Documentation is not required for interest on bearer obligations to qualify as portfolio interest. Freestatetax In some cases, however, you may need documentation for purposes of Form 1099 reporting and backup withholding. Freestatetax Interest that does not qualify as portfolio interest. Freestatetax   Payments to certain persons and payments of contingent interest do not qualify as portfolio interest. Freestatetax You must withhold at the statutory rate on such payments unless some other exception, such as a treaty provision, applies. Freestatetax Contingent interest. Freestatetax   Portfolio interest does not include contingent interest. Freestatetax Contingent interest is either of the following: Interest that is determined by reference to: Any receipts, sales, or other cash flow of the debtor or related person, Income or profits of the debtor or related person, Any change in value of any property of the debtor or a related person, or Any dividend, partnership distributions, or similar payments made by the debtor or a related person. Freestatetax For exceptions, see Internal Revenue Code section 871(h)(4)(C). Freestatetax Any other type of contingent interest that is identified by the Secretary of the Treasury in regulations. Freestatetax Related persons. Freestatetax   Related persons include the following. Freestatetax Members of a family, including only brothers, sisters, half-brothers, half-sisters, spouse, ancestors (parents, grandparents, etc. Freestatetax ), and lineal descendants (children, grandchildren, etc. Freestatetax ). Freestatetax Any person who is a party to any arrangement undertaken for the purpose of avoiding the contingent interest rules. Freestatetax Certain corporations, partnerships, and other entities. Freestatetax For details, see Nondeductible Loss in chapter 2 of Publication 544. Freestatetax Exception for existing debt. Freestatetax   Contingent interest does not include interest paid or accrued on any debt with a fixed term that was issued: On or before April 7, 1993, or After April 7, 1993, pursuant to a written binding contract in effect on that date and at all times thereafter before that debt was issued. Freestatetax Dividend Income The following dividend income is exempt from the 30% tax. Freestatetax Certain dividends paid by foreign corporations. Freestatetax   There is no 30% tax on U. Freestatetax S. Freestatetax source dividends you receive from a foreign corporation. Freestatetax See Second exception under Dividends in chapter 2 for how to figure the amount of U. Freestatetax S. Freestatetax source dividends. Freestatetax Certain interest-related dividends. Freestatetax   There is no 30% tax on interest-related dividends from sources within the United States that you receive from a mutual fund or other regulated investment company in 2013. Freestatetax The mutual fund will designate in writing which dividends are interest-related dividends. Freestatetax Certain short-term capital gain dividends. Freestatetax   There may not be any 30% tax on certain short-term capital gain dividends from sources within the United States that you receive from a mutual fund or other regulated investment company. Freestatetax The mutual fund will designate in writing which dividends are short-term capital gain dividends. Freestatetax This tax relief will not apply to you if you are present in the United States for 183 days or more during your tax year. Freestatetax Services Performed for Foreign Employer If you were paid by a foreign employer, your U. Freestatetax S. Freestatetax source income may be exempt from U. Freestatetax S. Freestatetax tax, but only if you meet one of the situations discussed next. Freestatetax Employees of foreign persons, organizations, or offices. Freestatetax   Income for personal services performed in the United States as a nonresident alien is not considered to be from U. Freestatetax S. Freestatetax sources and is tax exempt if you meet all three of the following conditions. Freestatetax You perform personal services as an employee of or under a contract with a nonresident alien individual, foreign partnership, or foreign corporation, not engaged in a trade or business in the United States; or you work for an office or place of business maintained in a foreign country or possession of the United States by a U. Freestatetax S. Freestatetax corporation, a U. Freestatetax S. Freestatetax partnership, or a U. Freestatetax S. Freestatetax citizen or resident. Freestatetax You perform these services while you are a nonresident alien temporarily present in the United States for a period or periods of not more than a total of 90 days during the tax year. Freestatetax Your pay for these services is not more than $3,000. Freestatetax If you do not meet all three conditions, your income from personal services performed in the United States is U. Freestatetax S. Freestatetax source income and is taxed according to the rules in chapter 4. Freestatetax   If your pay for these services is more than $3,000, the entire amount is income from a trade or business within the United States. Freestatetax To find if your pay is more than $3,000, do not include any amounts you get from your employer for advances or reimbursements of business travel expenses, if you were required to and did account to your employer for those expenses. Freestatetax If the advances or reimbursements are more than your expenses, include the excess in your pay for these services. Freestatetax   A day means a calendar day during any part of which you are physically present in the United States. Freestatetax Example 1. Freestatetax During 2013, Henry Smythe, a nonresident alien from a nontreaty country, worked for an overseas office of a U. Freestatetax S. Freestatetax partnership. Freestatetax Henry, who uses the calendar year as his tax year, was temporarily present in the United States for 60 days during 2013 performing personal services for the overseas office of the partnership. Freestatetax That office paid him a total gross salary of $2,800 for those services. Freestatetax During 2013, he was not engaged in a trade or business in the United States. Freestatetax The salary is not considered U. Freestatetax S. Freestatetax source income and is exempt from U. Freestatetax S. Freestatetax tax. Freestatetax Example 2. Freestatetax The facts are the same as in Example 1, except that Henry's total gross salary for the services performed in the United States during 2013 was $4,500. Freestatetax He received $2,875 in 2013, and $1,625 in 2014. Freestatetax During 2013, he was engaged in a trade or business in the United States because the compensation for his personal services in the United States was more than $3,000. Freestatetax Henry's salary is U. Freestatetax S. Freestatetax source income and is taxed under the rules in chapter 4. Freestatetax Crew members. Freestatetax   Compensation for services performed by a nonresident alien in connection with the individual's temporary presence in the United States as a regular crew member of a foreign vessel (for example, a boat or ship) engaged in transportation between the United States and a foreign country or U. Freestatetax S. Freestatetax possession is not U. Freestatetax S. Freestatetax source income and is exempt from U. Freestatetax S. Freestatetax tax. Freestatetax This exemption does not apply to compensation for services performed on foreign aircraft. Freestatetax Students and exchange visitors. Freestatetax   Nonresident alien students and exchange visitors present in the United States under “F,” “J,” or “Q” visas can exclude from gross income pay received from a foreign employer. Freestatetax   This group includes bona fide students, scholars, trainees, teachers, professors, research assistants, specialists, or leaders in a field of specialized knowledge or skill, or persons of similar description. Freestatetax It also includes the alien's spouse and minor children if they come with the alien or come later to join the alien. Freestatetax   A nonresident alien temporarily present in the United States under a “J” visa includes an alien individual entering the United States as an exchange visitor under the Mutual Educational and Cultural Exchange Act of 1961. Freestatetax Foreign employer. Freestatetax   A foreign employer is: A nonresident alien individual, foreign partnership, or foreign corporation, or An office or place of business maintained in a foreign country or in a U. Freestatetax S. Freestatetax possession by a U. Freestatetax S. Freestatetax corporation, a U. Freestatetax S. Freestatetax partnership, or an individual who is a U. Freestatetax S. Freestatetax citizen or resident. Freestatetax   The term “foreign employer” does not include a foreign government. Freestatetax Pay from a foreign government that is exempt from U. Freestatetax S. Freestatetax income tax is discussed in chapter 10. Freestatetax Income from certain annuities. Freestatetax   Do not include in income any annuity received under a qualified annuity plan or from a qualified trust exempt from U. Freestatetax S. Freestatetax income tax if you meet both of the following conditions. Freestatetax You receive the annuity only because: You performed personal services outside the United States while you were a nonresident alien, or You performed personal services inside the United States while you were a nonresident alien and you met the three conditions, described earlier, under Employees of foreign persons, organizations, or offices . Freestatetax At the time the first amount is paid as an annuity under the plan (or by the trust), 90% or more of the employees for whom contributions or benefits are provided under the annuity plan (or under the plan of which the trust is a part) are U. Freestatetax S. Freestatetax citizens or residents. Freestatetax   If the annuity qualifies under condition (1) but not condition (2) above, you do not have to include the amount in income if: You are a resident of a country that gives a substantially equal exclusion to U. Freestatetax S. Freestatetax citizens and residents, or You are a resident of a beneficiary developing country under Title V of the Trade Act of 1974. Freestatetax   If you are not sure whether the annuity is from a qualified annuity plan or qualified trust, ask the person who made the payment. Freestatetax Income affected by treaties. Freestatetax   Income of any kind that is exempt from U. Freestatetax S. Freestatetax tax under a treaty to which the United States is a party is excluded from your gross income. Freestatetax Income on which the tax is only limited by treaty, however, is included in gross income. Freestatetax See chapter 9. Freestatetax Gambling Winnings From Dog or Horse Racing You can exclude from your gross income winnings from legal wagers initiated outside the United States in a parimutuel pool with respect to a live horse or dog race in the United States. Freestatetax Gain From the Sale of Your Main Home If you sold your main home, you may be able to exclude up to $250,000 of the gain on the sale of your home. Freestatetax If you are married and file a joint return, you may be able to exclude up to $500,000. Freestatetax For information on the requirements for this exclusion, see Publication 523. Freestatetax This exclusion does not apply to nonresident aliens who are subject to the expatriation tax rules discussed in chapter 4. Freestatetax Scholarships and Fellowship Grants If you are a candidate for a degree, you may be able to exclude from your income part or all of the amounts you receive as a qualified scholarship. Freestatetax The rules discussed here apply to both resident and nonresident aliens. Freestatetax If a nonresident alien receives a grant that is not from U. Freestatetax S. Freestatetax sources, it is not subject to U. Freestatetax S. Freestatetax tax. Freestatetax See Scholarships, Grants, Prizes, and Awards in chapter 2 to determine whether your grant is from U. Freestatetax S. Freestatetax sources. Freestatetax A scholarship or fellowship is excludable from income only if: You are a candidate for a degree at an eligible educational institution, and You use the scholarship or fellowship to pay qualified education expenses. Freestatetax Candidate for a degree. Freestatetax   You are a candidate for a degree if you: Attend a primary or secondary school or are pursuing a degree at a college or university, or Attend an accredited educational institution that is authorized to provide: A program that is acceptable for full credit toward a bachelor's or higher degree, or A program of training to prepare students for gainful employment in a recognized occupation. Freestatetax Eligible educational institution. Freestatetax   An eligible educational institution is one that maintains a regular faculty and curriculum and normally has a regularly enrolled body of students in attendance at the place where it carries on its educational activities. Freestatetax Qualified education expenses. Freestatetax   These are expenses for: Tuition and fees required to enroll at or attend an eligible educational institution, and Course-related expenses, such as fees, books, supplies, and equipment that are required for the courses at the eligible educational institution. Freestatetax These items must be required of all students in your course of instruction. Freestatetax However, in order for these to be qualified education expenses, the terms of the scholarship or fellowship cannot require that it be used for other purposes, such as room and board, or specify that it cannot be used for tuition or course-related expenses. Freestatetax Expenses that do not qualify. Freestatetax   Qualified education expenses do not include the cost of: Room and board, Travel, Research, Clerical help, or Equipment and other expenses that are not required for enrollment in or attendance at an eligible educational institution. Freestatetax This is true even if the fee must be paid to the institution as a condition of enrollment or attendance. Freestatetax Scholarship or fellowship amounts used to pay these costs are taxable. Freestatetax Amounts used to pay expenses that do not qualify. Freestatetax   A scholarship amount used to pay any expense that does not qualify is taxable, even if the expense is a fee that must be paid to the institution as a condition of enrollment or attendance. Freestatetax Payment for services. Freestatetax   You cannot exclude from income the portion of any scholarship, fellowship, or tuition reduction that represents payment for past, present, or future teaching, research, or other services. Freestatetax This is true even if all candidates for a degree are required to perform the services as a condition for receiving the degree. Freestatetax Example. Freestatetax On January 7, Maria Gomez is notified of a scholarship of $2,500 for the spring semester. Freestatetax As a condition for receiving the scholarship, Maria must serve as a part-time teaching assistant. Freestatetax Of the $2,500 scholarship, $1,000 represents payment for her services. Freestatetax Assuming that Maria meets all other conditions, she can exclude no more than $1,500 from income as a qualified scholarship. Freestatetax Prev  Up  Next   Home   More Online Publications