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Freetax usa 4. Freetax usa   Student Loan Interest Deduction Table of Contents Introduction Student Loan Interest DefinedQualified Student Loan Qualified Education Expenses Include As Interest Do Not Include As Interest When Must Interest Be Paid Can You Claim the DeductionNo Double Benefit Allowed Figuring the DeductionEffect of the Amount of Your Income on the Amount of Your Deduction Which Worksheet To Use Claiming the Deduction Introduction Generally, personal interest you pay, other than certain mortgage interest, is not deductible on your tax return. Freetax usa However, if your modified adjusted gross income (MAGI) is less than $75,000 ($155,000 if filing a joint return) there is a special deduction allowed for paying interest on a student loan (also known as an education loan) used for higher education. Freetax usa For most taxpayers, MAGI is the adjusted gross income as figured on their federal income tax return before subtracting any deduction for student loan interest. Freetax usa This deduction can reduce the amount of your income subject to tax by up to $2,500 in 2013. Freetax usa The student loan interest deduction is taken as an adjustment to income. Freetax usa This means you can claim this deduction even if you do not itemize deductions on Schedule A (Form 1040). Freetax usa This chapter explains: What type of loan interest you can deduct, Whether you can claim the deduction, What expenses you must have paid with the student loan, Who is an eligible student, How to figure the deduction, and How to claim the deduction. Freetax usa Table 4-1. Freetax usa Student Loan Interest Deduction at a Glance This table summarizes the features of the student loan interest deduction. Freetax usa Do not rely on this table alone. Freetax usa Refer to the text for complete details. Freetax usa Feature   Description Maximum benefit   You can reduce your income subject to tax by up to $2,500. Freetax usa Loan qualifications   Your student loan: •must have been taken out solely to pay qualified education expenses, and •cannot be from a related person or made under a qualified employer plan. Freetax usa Student qualifications   The student must be: •you, your spouse, or your dependent, and  •enrolled at least half-time in a degree program. Freetax usa Time limit on deduction   You can deduct interest paid during the remaining period of your student loan. Freetax usa Limit on modified adjusted gross income (MAGI)   $155,000 if married filing a joint return; $75,000 if single, head of household, or qualifying widow(er). Freetax usa Student Loan Interest Defined Student loan interest is interest you paid during the year on a qualified student loan. Freetax usa It includes both required and voluntary interest payments. Freetax usa Qualified Student Loan This is a loan you took out solely to pay qualified education expenses (defined later) that were: For you, your spouse, or a person who was your dependent when you took out the loan, Paid or incurred within a reasonable period of time before or after you took out the loan, and For education provided during an academic period for an eligible student. Freetax usa Loans from the following sources are not qualified student loans. Freetax usa A related person. Freetax usa A qualified employer plan. Freetax usa Your dependent. Freetax usa   Generally, your dependent is someone who is either a: Qualifying child, or Qualifying relative. Freetax usa You can find more information about dependents in Publication 501. Freetax usa Exceptions. Freetax usa   For purposes of the student loan interest deduction, there are the following exceptions to the general rules for dependents. Freetax usa An individual can be your dependent even if you are the dependent of another taxpayer. Freetax usa An individual can be your dependent even if the individual files a joint return with a spouse. Freetax usa An individual can be your dependent even if the individual had gross income for the year that was equal to or more than the exemption amount for the year ($3,900 for 2013). Freetax usa Reasonable period of time. Freetax usa   Qualified education expenses are treated as paid or incurred within a reasonable period of time before or after you take out the loan if they are paid with the proceeds of student loans that are part of a federal postsecondary education loan program. Freetax usa   Even if not paid with the proceeds of that type of loan, the expenses are treated as paid or incurred within a reasonable period of time if both of the following requirements are met. Freetax usa The expenses relate to a specific academic period, and The loan proceeds are disbursed within a period that begins 90 days before the start of that academic period and ends 90 days after the end of that academic period. Freetax usa   If neither of the above situations applies, the reasonable period of time usually is determined based on all the relevant facts and circumstances. Freetax usa Academic period. Freetax usa   An academic period includes a semester, trimester, quarter, or other period of study (such as a summer school session) as reasonably determined by an educational institution. Freetax usa In the case of an educational institution that uses credit hours or clock hours and does not have academic terms, each payment period can be treated as an academic period. Freetax usa Eligible student. Freetax usa   This is a student who was enrolled at least half-time in a program leading to a degree, certificate, or other recognized educational credential. Freetax usa Enrolled at least half-time. Freetax usa   A student was enrolled at least half-time if the student was taking at least half the normal full-time work load for his or her course of study. Freetax usa   The standard for what is half of the normal full-time work load is determined by each eligible educational institution. Freetax usa However, the standard may not be lower than any of those established by the U. Freetax usa S. Freetax usa Department of Education under the Higher Education Act of 1965. Freetax usa Related person. Freetax usa   You cannot deduct interest on a loan you get from a related person. Freetax usa Related persons include: Your spouse, Your brothers and sisters, Your half brothers and half sisters, Your ancestors (parents, grandparents, etc. Freetax usa ), Your lineal descendants (children, grandchildren, etc. Freetax usa ), and Certain corporations, partnerships, trusts, and exempt organizations. Freetax usa Qualified employer plan. Freetax usa   You cannot deduct interest on a loan made under a qualified employer plan or under a contract purchased under such a plan. Freetax usa Qualified Education Expenses For purposes of the student loan interest deduction, these expenses are the total costs of attending an eligible educational institution, including graduate school. Freetax usa They include amounts paid for the following items. Freetax usa Tuition and fees. Freetax usa Room and board. Freetax usa Books, supplies, and equipment. Freetax usa Other necessary expenses (such as transportation). Freetax usa The cost of room and board qualifies only to the extent that it is not more than the greater of: The allowance for room and board, as determined by the eligible educational institution, that was included in the cost of attendance (for federal financial aid purposes) for a particular academic period and living arrangement of the student, or The actual amount charged if the student is residing in housing owned or operated by the eligible educational institution. Freetax usa Eligible educational institution. Freetax usa   An eligible educational institution is any college, university, vocational school, or other postsecondary educational institution eligible to participate in a student aid program administered by the U. Freetax usa S. Freetax usa Department of Education. Freetax usa It includes virtually all accredited public, nonprofit, and proprietary (privately owned profit-making) postsecondary institutions. Freetax usa   Certain educational institutions located outside the United States also participate in the U. Freetax usa S. Freetax usa Department of Education's Federal Student Aid (FSA) programs. Freetax usa   For purposes of the student loan interest deduction, an eligible educational institution also includes an institution conducting an internship or residency program leading to a degree or certificate from an institution of higher education, a hospital, or a health care facility that offers postgraduate training. Freetax usa   An educational institution must meet the above criteria only during the academic period(s) for which the student loan was incurred. Freetax usa The deductibility of interest on the loan is not affected by the institution's subsequent loss of eligibility. Freetax usa    The educational institution should be able to tell you if it is an eligible educational institution. Freetax usa Adjustments to Qualified Education Expenses You must reduce your qualified education expenses by the total amount paid for them with the following tax-free items. Freetax usa Employer-provided educational assistance. Freetax usa See chapter 11, Employer-Provided Educational Assistance . Freetax usa Tax-free distribution of earnings from a Coverdell education savings account (ESA). Freetax usa See Tax-Free Distributions in chapter 7, Coverdell Education Savings Account. Freetax usa Tax-free distribution of earnings from a qualified tuition program (QTP). Freetax usa See Figuring the Taxable Portion of a Distribution in chapter 8, Qualified Tuition Program. Freetax usa U. Freetax usa S. Freetax usa savings bond interest that you exclude from income because it is used to pay qualified education expenses. Freetax usa See chapter 10, Education Savings Bond Program . Freetax usa The tax-free part of scholarships and fellowships. Freetax usa See Tax-Free Scholarships and Fellowships in chapter 1, Scholarships, Fellowships, Grants, and Tuition Reductions. Freetax usa Veterans' educational assistance. Freetax usa See Veterans' Benefits in chapter 1, Scholarships, Fellowships, Grants, and Tuition Reductions. Freetax usa Any other nontaxable (tax-free) payments (other than gifts or inheritances) received as educational assistance. Freetax usa Include As Interest In addition to simple interest on the loan, if all other requirements are met, the items discussed below can be student loan interest. Freetax usa Loan origination fee. Freetax usa   In general, this is a one-time fee charged by the lender when a loan is made. Freetax usa To be deductible as interest, a loan origination fee must be for the use of money rather than for property or services (such as commitment fees or processing costs) provided by the lender. Freetax usa A loan origination fee treated as interest accrues over the term of the loan. Freetax usa   Loan origination fees were not required to be reported on Form 1098-E, Student Loan Interest Statement, for loans made before September 1, 2004. Freetax usa If loan origination fees are not included in the amount reported on your Form 1098-E, you can use any reasonable method to allocate the loan origination fees over the term of the loan. Freetax usa The method shown in the example below allocates equal portions of the loan origination fee to each payment required under the terms of the loan. Freetax usa A method that results in the double deduction of the same portion of a loan origination fee would not be reasonable. Freetax usa Example. Freetax usa In August 2004, Bill took out a student loan for $16,000 to pay the tuition for his senior year of college. Freetax usa The lender charged a 3% loan origination fee ($480) that was withheld from the funds Bill received. Freetax usa Bill began making payments on his student loan in 2013. Freetax usa Because the loan origination fee was not included in his 2013 Form 1098-E, Bill can use any reasonable method to allocate that fee over the term of the loan. Freetax usa Bill's loan is payable in 120 equal monthly payments. Freetax usa He allocates the $480 fee equally over the total number of payments ($480 ÷ 120 months = $4 per month). Freetax usa Bill made 7 payments in 2013, so he paid $28 ($4 × 7) of interest attributable to the loan origination fee. Freetax usa To determine his student loan interest deduction, he will add the $28 to the amount of other interest reported to him on Form 1098-E. Freetax usa Capitalized interest. Freetax usa   This is unpaid interest on a student loan that is added by the lender to the outstanding principal balance of the loan. Freetax usa Capitalized interest is treated as interest for tax purposes and is deductible as payments of principal are made on the loan. Freetax usa No deduction for capitalized interest is allowed in a year in which no loan payments were made. Freetax usa Interest on revolving lines of credit. Freetax usa   This interest, which includes interest on credit card debt, is student loan interest if the borrower uses the line of credit (credit card) only to pay qualified education expenses. Freetax usa See Qualified Education Expenses , earlier. Freetax usa Interest on refinanced student loans. Freetax usa   This includes interest on both: Consolidated loans—loans used to refinance more than one student loan of the same borrower, and Collapsed loans—two or more loans of the same borrower that are treated by both the lender and the borrower as one loan. Freetax usa    If you refinance a qualified student loan for more than your original loan and you use the additional amount for any purpose other than qualified education expenses, you cannot deduct any interest paid on the refinanced loan. Freetax usa Voluntary interest payments. Freetax usa   These are payments made on a qualified student loan during a period when interest payments are not required, such as when the borrower has been granted a deferment or the loan has not yet entered repayment status. Freetax usa Example. Freetax usa The payments on Roger's student loan were scheduled to begin in June 2012, 6 months after he graduated from college. Freetax usa He began making payments as required. Freetax usa In September 2013, Roger enrolled in graduate school on a full-time basis. Freetax usa He applied for and was granted deferment of his loan payments while in graduate school. Freetax usa Wanting to pay down his student loan as much as possible, he made loan payments in October and November 2013. Freetax usa Even though these were voluntary (not required) payments, Roger can deduct the interest paid in October and November. Freetax usa Allocating Payments Between Interest and Principal The allocation of payments between interest and principal for tax purposes might not be the same as the allocation shown on the Form 1098-E or other statement you receive from the lender or loan servicer. Freetax usa To make the allocation for tax purposes, a payment generally applies first to stated interest that remains unpaid as of the date the payment is due, second to any loan origination fees allocable to the payment, third to any capitalized interest that remains unpaid as of the date the payment is due, and fourth to the outstanding principal. Freetax usa Example. Freetax usa In August 2012, Peg took out a $10,000 student loan to pay the tuition for her senior year of college. Freetax usa The lender charged a 3% loan origination fee ($300) that was withheld from the funds Peg received. Freetax usa The interest (5% simple) on this loan accrued while she completed her senior year and for 6 months after she graduated. Freetax usa At the end of that period, the lender determined the amount to be repaid by capitalizing all accrued but unpaid interest ($625 interest accrued from August 2012 through October 2013) and adding it to the outstanding principal balance of the loan. Freetax usa The loan is payable over 60 months, with a payment of $200. Freetax usa 51 due on the first of each month, beginning November 2013. Freetax usa Peg did not receive a Form 1098-E for 2013 from her lender because the amount of interest she paid did not require the lender to issue an information return. Freetax usa However, she did receive an account statement from the lender that showed the following 2013 payments on her outstanding loan of $10,625 ($10,000 principal + $625 accrued but unpaid interest). Freetax usa Payment Date   Payment   Stated Interest   Principal November 2013   $200. Freetax usa 51   $44. Freetax usa 27   $156. Freetax usa 24 December 2013   $200. Freetax usa 51   $43. Freetax usa 62   $156. Freetax usa 89 Totals   $401. Freetax usa 02   $87. Freetax usa 89   $313. Freetax usa 13 To determine the amount of interest that could be deducted on the loan for 2013, Peg starts with the total amount of stated interest she paid, $87. Freetax usa 89. Freetax usa Next, she allocates the loan origination fee over the term of the loan ($300 ÷ 60 months = $5 per month). Freetax usa A total of $10 ($5 of each of the two principal payments) should be treated as interest for tax purposes. Freetax usa Peg then applies the unpaid capitalized interest ($625) to the two principal payments in the order in which they were made, and determines that the remaining amount of principal of both payments is treated as interest for tax purposes. Freetax usa Assuming that Peg qualifies to take the student loan interest deduction, she can deduct $401. Freetax usa 02 ($87. Freetax usa 89 + $10 + $303. Freetax usa 13). Freetax usa For 2014, Peg will continue to allocate $5 of the loan origination fee to the principal portion of each monthly payment she makes and treat that amount as interest for tax purposes. Freetax usa She also will apply the remaining amount of capitalized interest ($625 − $303. Freetax usa 13 = $321. Freetax usa 87) to the principal payments in the order in which they are made until the balance is zero, and treat those amounts as interest for tax purposes. Freetax usa Do Not Include As Interest You cannot claim a student loan interest deduction for any of the following items. Freetax usa Interest you paid on a loan if, under the terms of the loan, you are not legally obligated to make interest payments. Freetax usa Loan origination fees that are payments for property or services provided by the lender, such as commitment fees or processing costs. Freetax usa Interest you paid on a loan to the extent payments were made through your participation in the National Health Service Corps Loan Repayment Program (the “NHSC Loan Repayment Program”) or certain other loan repayment assistance programs. Freetax usa For more information, see Student Loan Repayment Assistance in chapter 5, Student Loan Cancellations and Repayment Assistance. Freetax usa When Must Interest Be Paid You can deduct all interest you paid during the year on your student loan, including voluntary payments, until the loan is paid off. Freetax usa Can You Claim the Deduction Generally, you can claim the deduction if all of the following requirements are met. Freetax usa Your filing status is any filing status except married filing separately. Freetax usa No one else is claiming an exemption for you on his or her tax return. Freetax usa You are legally obligated to pay interest on a qualified student loan. Freetax usa You paid interest on a qualified student loan. Freetax usa Claiming an exemption for you. Freetax usa   Another taxpayer is claiming an exemption for you if he or she lists your name and other required information on his or her Form 1040 (or Form 1040A), line 6c, or Form 1040NR, line 7c. Freetax usa Example 1. Freetax usa During 2013, Josh paid $600 interest on his qualified student loan. Freetax usa Only he is legally obligated to make the payments. Freetax usa No one claimed an exemption for Josh for 2013. Freetax usa Assuming all other requirements are met, Josh can deduct the $600 of interest he paid on his 2013 Form 1040 or 1040A. Freetax usa Example 2. Freetax usa During 2013, Jo paid $1,100 interest on her qualified student loan. Freetax usa Only she is legally obligated to make the payments. Freetax usa Jo's parents claimed an exemption for her on their 2013 tax return. Freetax usa In this case, neither Jo nor her parents may deduct the student loan interest Jo paid in 2013. Freetax usa Interest paid by others. Freetax usa   If you are the person legally obligated to make interest payments and someone else makes a payment of interest on your behalf, you are treated as receiving the payments from the other person and, in turn, paying the interest. Freetax usa Example 1. Freetax usa Darla obtained a qualified student loan to attend college. Freetax usa After Darla's graduation from college, she worked as an intern for a nonprofit organization. Freetax usa As part of the internship program, the nonprofit organization made an interest payment on behalf of Darla. Freetax usa This payment was treated as additional compensation and reported in box 1 of her Form W-2. Freetax usa Assuming all other qualifications are met, Darla can deduct this payment of interest on her tax return. Freetax usa Example 2. Freetax usa Ethan obtained a qualified student loan to attend college. Freetax usa After graduating from college, the first monthly payment on his loan was due in December. Freetax usa As a gift, Ethan's mother made this payment for him. Freetax usa No one is claiming a dependency exemption for Ethan on his or her tax return. Freetax usa Assuming all other qualifications are met, Ethan can deduct this payment of interest on his tax return. Freetax usa No Double Benefit Allowed You cannot deduct as interest on a student loan any amount that is an allowable deduction under any other provision of the tax law (for example, as home mortgage interest). Freetax usa Figuring the Deduction Your student loan interest deduction for 2013 is generally the smaller of: $2,500, or The interest you paid in 2013. Freetax usa However, the amount determined above may be gradually reduced (phased out) or eliminated based on your filing status and MAGI as explained below. Freetax usa You can use Worksheet 4-1. Freetax usa Student Loan Interest Deduction Worksheet (at the end of this chapter) to figure both your MAGI and your deduction. Freetax usa Form 1098-E. Freetax usa   To help you figure your student loan interest deduction, you should receive Form 1098-E. Freetax usa Generally, an institution (such as a bank or governmental agency) that received interest payments of $600 or more during 2013 on one or more qualified student loans must send Form 1098-E (or acceptable substitute) to each borrower by January 31, 2014. Freetax usa   For qualified student loans taken out before September 1, 2004, the institution is required to include on Form 1098-E only payments of stated interest. Freetax usa Other interest payments, such as certain loan origination fees and capitalized interest, may not appear on the form you receive. Freetax usa However, if you pay qualifying interest that is not included on Form 1098-E, you can also deduct those amounts. Freetax usa See Allocating Payments Between Interest and Principal , earlier. Freetax usa    The lender may ask for a completed Form W-9S, or similar statement to obtain the borrower's name, address, and taxpayer identification number. Freetax usa The form may also be used by the borrower to certify that the student loan was incurred solely to pay for qualified education expenses. Freetax usa Effect of the Amount of Your Income on the Amount of Your Deduction The amount of your student loan interest deduction is phased out (gradually reduced) if your MAGI is between $60,000 and $75,000 ($125,000 and $155,000 if you file a joint return). Freetax usa You cannot take a student loan interest deduction if your MAGI is $75,000 or more ($155,000 or more if you file a joint return). Freetax usa Modified adjusted gross income (MAGI). Freetax usa   For most taxpayers, MAGI is adjusted gross income (AGI) as figured on their federal income tax return before subtracting any deduction for student loan interest. Freetax usa However, as discussed below, there may be other modifications. Freetax usa Table 4-2 shows how the amount of your MAGI can affect your student loan interest deduction. Freetax usa Table 4-2. Freetax usa Effect of MAGI on Student Loan Interest Deduction IF your filing status is. Freetax usa . Freetax usa . Freetax usa AND your MAGI is. Freetax usa . Freetax usa . Freetax usa THEN your student loan interest deduction is. Freetax usa . Freetax usa . Freetax usa single,  head of household, or qualifying widow(er) not more than $60,000 not affected by the phaseout. Freetax usa more than $60,000  but less than $75,000 reduced because of the phaseout. Freetax usa $75,000 or more eliminated by the phaseout. Freetax usa married filing joint return not more than $125,000 not affected by the phaseout. Freetax usa more than $125,000 but less than $155,000 reduced because of the phaseout. Freetax usa $155,000 or more eliminated by the phaseout. Freetax usa MAGI when using Form 1040A. Freetax usa   If you file Form 1040A, your MAGI is the AGI on line 22 of that form figured without taking into account any amount on line 18 (student loan interest deduction) and line 19 (tuition and fees deduction). Freetax usa MAGI when using Form 1040. Freetax usa   If you file Form 1040, your MAGI is the AGI on line 38 of that form figured without taking into account any amount on line 33 (student loan interest deduction), line 34 (tuition and fees deduction), or line 35 (domestic production activities deduction), and modified by adding back any: Foreign earned income exclusion, Foreign housing exclusion, Foreign housing deduction, Exclusion of income by bona fide residents of American Samoa, and Exclusion of income by bona fide residents of Puerto Rico. Freetax usa MAGI when using Form 1040NR. Freetax usa   If you file Form 1040NR, your MAGI is the AGI on line 36 of that form figured without taking into account any amount on line 33 (student loan interest deduction) and line 34 (domestic production activities deduction). Freetax usa MAGI when using Form 1040NR-EZ. Freetax usa   If you file Form 1040NR-EZ, your MAGI is the AGI on line 10 of that form figured without taking into account any amount on line 9 (student loan interest deduction). Freetax usa Phaseout. Freetax usa   If your MAGI is within the range of incomes where the credit must be reduced, you must figure your reduced deduction. Freetax usa To figure the phaseout, multiply your interest deduction (before the phaseout) by a fraction. Freetax usa The numerator is your MAGI minus $60,000 ($125,000 in the case of a joint return). Freetax usa The denominator is $15,000 ($30,000 in the case of a joint return). Freetax usa Subtract the result from your deduction (before the phaseout) to give you the amount you can deduct. Freetax usa Example 1. Freetax usa During 2013 you paid $800 interest on a qualified student loan. Freetax usa Your 2013 MAGI is $145,000 and you are filing a joint return. Freetax usa You must reduce your deduction by $533, figured as follows. Freetax usa   $800 × $145,000 − $125,000  $30,000 = $533   Your reduced student loan interest deduction is $267 ($800 − $533). Freetax usa Example 2. Freetax usa The facts are the same as in Example 1 except that you paid $2,750 interest. Freetax usa Your maximum deduction for 2013 is $2,500. Freetax usa You must reduce your maximum deduction by $1,667, figured as follows. Freetax usa   $2,500 × $145,000 − $125,000  $30,000 = $1,667   In this example, your reduced student loan interest deduction is $833 ($2,500 − $1,667). Freetax usa Which Worksheet To Use Generally, you figure the deduction using the Student Loan Interest Deduction Worksheet in the instructions for Form 1040, Form 1040A, or Form 1040NR. Freetax usa However, if you are filing Form 2555, Foreign Earned Income, Form 2555-EZ, Foreign Earned Income Exclusion, or Form 4563, Exclusion of Income for Bona Fide Residents of American Samoa, or you are excluding income from sources within Puerto Rico, you must complete Worksheet 4-1. Freetax usa Student Loan Interest Deduction Worksheet at the end of this chapter. Freetax usa Claiming the Deduction The student loan interest deduction is an adjustment to income. Freetax usa To claim the deduction, enter the allowable amount on line 33 (Form 1040), line 18 (Form 1040A), line 33 (Form 1040NR), or line 9 (Form 1040NR-EZ). Freetax usa Worksheet 4-1. Freetax usa Student Loan Interest Deduction Worksheet Use this worksheet instead of the worksheet in the Form 1040 instructions if you are filing Form 2555, 2555-EZ, or 4563, or you are excluding income from sources within Puerto Rico. Freetax usa Before using this worksheet, you must complete Form 1040, lines 7 through 32, plus any amount to be entered on the dotted line next to line 36. Freetax usa 1. Freetax usa Enter the total interest you paid in 2013 on qualified student loans. Freetax usa Do not enter  more than $2,500 1. Freetax usa   2. Freetax usa Enter the amount from Form 1040, line 22 2. Freetax usa       3. Freetax usa Enter the total of the amounts from Form 1040,  lines 23 through 32 3. Freetax usa           4. Freetax usa Enter the total of any amounts entered on the dotted line next to Form 1040, line 36 4. Freetax usa           5. Freetax usa Add lines 3 and 4 5. Freetax usa       6. Freetax usa Subtract line 5 from line 2 6. Freetax usa       7. Freetax usa Enter any foreign earned income exclusion and/or housing  exclusion (Form 2555, line 45, or Form 2555-EZ, line 18) 7. Freetax usa       8. Freetax usa Enter any foreign housing deduction (Form 2555, line 50) 8. Freetax usa       9. Freetax usa Enter the amount of income from Puerto Rico you are excluding 9. Freetax usa       10. Freetax usa Enter the amount of income from American Samoa  you are excluding (Form 4563, line 15) 10. Freetax usa       11. Freetax usa Add lines 6 through 10. Freetax usa This is your modified adjusted gross income 11. Freetax usa   12. Freetax usa Enter the amount shown below for your filing status 12. Freetax usa     •Single, head of household, or qualifying widow(er)—$60,000       •Married filing jointly—$125,000     13. Freetax usa Is the amount on line 11 more than the amount on line 12?       □ No. Freetax usa Skip lines 13 and 14, enter -0- on line 15, and go to line 16. Freetax usa       □ Yes. Freetax usa Subtract line 12 from line 11 13. Freetax usa   14. Freetax usa Divide line 13 by $15,000 ($30,000 if married filing jointly). Freetax usa Enter the result as a decimal  (rounded to at least three places). Freetax usa If the result is 1. Freetax usa 000 or more, enter 1. Freetax usa 000 14. Freetax usa . Freetax usa 15. Freetax usa Multiply line 1 by line 14 15. Freetax usa   16. Freetax usa Student loan interest deduction. Freetax usa Subtract line 15 from line 1. Freetax usa Enter the result here  and on Form 1040, line 33. Freetax usa Do not include this amount in figuring any other  deduction on your return (such as on Schedule A, C, E, etc. Freetax usa ) 16. Freetax usa   Prev  Up  Next   Home   More Online Publications
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Freetax usa 2. Freetax usa   Depreciation of Rental Property Table of Contents The BasicsWhat Rental Property Can Be Depreciated? When Does Depreciation Begin and End? Depreciation Methods Basis of Depreciable Property Claiming the Special Depreciation Allowance MACRS DepreciationDepreciation Systems Property Classes Under GDS Recovery Periods Under GDS Conventions Figuring Your Depreciation Deduction Figuring MACRS Depreciation Under ADS Claiming the Correct Amount of Depreciation You recover the cost of income producing property through yearly tax deductions. Freetax usa You do this by depreciating the property; that is, by deducting some of the cost each year on your tax return. Freetax usa Three factors determine how much depreciation you can deduct each year: (1) your basis in the property, (2) the recovery period for the property, and (3) the depreciation method used. Freetax usa You cannot simply deduct your mortgage or principal payments, or the cost of furniture, fixtures and equipment, as an expense. Freetax usa You can deduct depreciation only on the part of your property used for rental purposes. Freetax usa Depreciation reduces your basis for figuring gain or loss on a later sale or exchange. Freetax usa You may have to use Form 4562 to figure and report your depreciation. Freetax usa See Which Forms To Use in chapter 3. Freetax usa Also see Publication 946. Freetax usa Section 179 deduction. Freetax usa   The section 179 deduction is a means of recovering part or all of the cost of certain qualifying property in the year you place the property in service. Freetax usa This deduction is not allowed for property used in connection with residential rental property. Freetax usa See chapter 2 of Publication 946. Freetax usa Alternative minimum tax (AMT). Freetax usa   If you use accelerated depreciation, you may be subject to the AMT. Freetax usa Accelerated depreciation allows you to deduct more depreciation earlier in the recovery period than you could deduct using a straight line method (same deduction each year). Freetax usa   The prescribed depreciation methods for rental real estate are not accelerated, so the depreciation deduction is not adjusted for the AMT. Freetax usa However, accelerated methods are generally used for other property connected with rental activities (for example, appliances and wall-to-wall carpeting). Freetax usa   To find out if you are subject to the AMT, see the Instructions for Form 6251. Freetax usa The Basics The following section discusses the information you will need to have about the rental property and the decisions to be made before figuring your depreciation deduction. Freetax usa What Rental Property Can Be Depreciated? You can depreciate your property if it meets all the following requirements. Freetax usa You own the property. Freetax usa You use the property in your business or income-producing activity (such as rental property). Freetax usa The property has a determinable useful life. Freetax usa The property is expected to last more than one year. Freetax usa Property you own. Freetax usa   To claim depreciation, you usually must be the owner of the property. Freetax usa You are considered as owning property even if it is subject to a debt. Freetax usa Rented property. Freetax usa   Generally, if you pay rent for property, you cannot depreciate that property. Freetax usa Usually, only the owner can depreciate it. Freetax usa However, if you make permanent improvements to leased property, you may be able to depreciate the improvements. Freetax usa See Additions or improvements to property , later in this chapter, under Recovery Periods Under GDS. Freetax usa Cooperative apartments. Freetax usa   If you are a tenant-stockholder in a cooperative housing corporation and rent your cooperative apartment to others, you can deduct depreciation on your stock in the corporation. Freetax usa See chapter 4, Special Situations. Freetax usa Property having a determinable useful life. Freetax usa   To be depreciable, your property must have a determinable useful life. Freetax usa This means that it must be something that wears out, decays, gets used up, becomes obsolete, or loses its value from natural causes. Freetax usa What Rental Property Cannot Be Depreciated? Certain property cannot be depreciated. Freetax usa This includes land and certain excepted property. Freetax usa Land. Freetax usa   You cannot depreciate the cost of land because land generally does not wear out, become obsolete, or get used up. Freetax usa But if it does, the loss is accounted for upon disposition. Freetax usa The costs of clearing, grading, planting, and landscaping are usually all part of the cost of land and cannot be depreciated. Freetax usa   Although you cannot depreciate land, you can depreciate certain land preparation costs, such as landscaping costs, incurred in preparing land for business use. Freetax usa These costs must be so closely associated with other depreciable property that you can determine a life for them along with the life of the associated property. Freetax usa Example. Freetax usa You built a new house to use as a rental and paid for grading, clearing, seeding, and planting bushes and trees. Freetax usa Some of the bushes and trees were planted right next to the house, while others were planted around the outer border of the lot. Freetax usa If you replace the house, you would have to destroy the bushes and trees right next to it. Freetax usa These bushes and trees are closely associated with the house, so they have a determinable useful life. Freetax usa Therefore, you can depreciate them. Freetax usa Add your other land preparation costs to the basis of your land because they have no determinable life and you cannot depreciate them. Freetax usa Excepted property. Freetax usa   Even if the property meets all the requirements listed earlier under What Rental Property Can Be Depreciated , you cannot depreciate the following property. Freetax usa Property placed in service and disposed of (or taken out of business use) in the same year. Freetax usa Equipment used to build capital improvements. Freetax usa You must add otherwise allowable depreciation on the equipment during the period of construction to the basis of your improvements. Freetax usa For more information, see chapter 1 of Publication 946. Freetax usa When Does Depreciation Begin and End? You begin to depreciate your rental property when you place it in service for the production of income. Freetax usa You stop depreciating it either when you have fully recovered your cost or other basis, or when you retire it from service, whichever happens first. Freetax usa Placed in Service You place property in service in a rental activity when it is ready and available for a specific use in that activity. Freetax usa Even if you are not using the property, it is in service when it is ready and available for its specific use. Freetax usa Example 1. Freetax usa On November 22 of last year, you purchased a dishwasher for your rental property. Freetax usa The appliance was delivered on December 7, but was not installed and ready for use until January 3 of this year. Freetax usa Because the dishwasher was not ready for use last year, it is not considered placed in service until this year. Freetax usa If the appliance had been installed and ready for use when it was delivered in December of last year, it would have been considered placed in service in December, even if it was not actually used until this year. Freetax usa Example 2. Freetax usa On April 6, you purchased a house to use as residential rental property. Freetax usa You made extensive repairs to the house and had it ready for rent on July 5. Freetax usa You began to advertise the house for rent in July and actually rented it beginning September 1. Freetax usa The house is considered placed in service in July when it was ready and available for rent. Freetax usa You can begin to depreciate the house in July. Freetax usa Example 3. Freetax usa You moved from your home in July. Freetax usa During August and September you made several repairs to the house. Freetax usa On October 1, you listed the property for rent with a real estate company, which rented it on December 1. Freetax usa The property is considered placed in service on October 1, the date when it was available for rent. Freetax usa Conversion to business use. Freetax usa   If you place property in service in a personal activity, you cannot claim depreciation. Freetax usa However, if you change the property's use to business or the production of income, you can begin to depreciate it at the time of the change. Freetax usa You place the property in service for business or income-producing use on the date of the change. Freetax usa Example. Freetax usa You bought a house and used it as your personal home several years before you converted it to rental property. Freetax usa Although its specific use was personal and no depreciation was allowable, you placed the home in service when you began using it as your home. Freetax usa You can begin to claim depreciation in the year you converted it to rental property because at that time its use changed to the production of income. Freetax usa Idle Property Continue to claim a deduction for depreciation on property used in your rental activity even if it is temporarily idle (not in use). Freetax usa For example, if you must make repairs after a tenant moves out, you still depreciate the rental property during the time it is not available for rent. Freetax usa Cost or Other Basis Fully Recovered You must stop depreciating property when the total of your yearly depreciation deductions equals your cost or other basis of your property. Freetax usa For this purpose, your yearly depreciation deductions include any depreciation that you were allowed to claim, even if you did not claim it. Freetax usa See Basis of Depreciable Property , later. Freetax usa 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. Freetax usa 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. Freetax usa You sell or exchange the property. Freetax usa You convert the property to personal use. Freetax usa You abandon the property. Freetax usa The property is destroyed. Freetax usa Depreciation Methods Generally, you must use the Modified Accelerated Cost Recovery System (MACRS) to depreciate residential rental property placed in service after 1986. Freetax usa If you placed rental property in service before 1987, you are using one of the following methods. Freetax usa ACRS (Accelerated Cost Recovery System) for property placed in service after 1980 but before 1987. Freetax usa Straight line or declining balance method over the useful life of property placed in service before 1981. Freetax usa See MACRS Depreciation , later, for more information. Freetax usa Rental property placed in service before 2013. Freetax usa   Continue to use the same method of figuring depreciation that you used in the past. Freetax usa Use of real property changed. Freetax usa   Generally, you must use MACRS to depreciate real property that you acquired for personal use before 1987 and changed to business or income-producing use after 1986. Freetax usa This includes your residence that you changed to rental use. Freetax usa See Property Owned or Used in 1986 in Publication 946, chapter 1, for those situations in which MACRS is not allowed. Freetax usa Improvements made after 1986. Freetax usa   Treat an improvement made after 1986 to property you placed in service before 1987 as separate depreciable property. Freetax usa As a result, you can depreciate that improvement as separate property under MACRS if it is the type of property that otherwise qualifies for MACRS depreciation. Freetax usa For more information about improvements, see Additions or improvements to property , later in this chapter under Recovery Periods Under GDS. Freetax usa This publication discusses MACRS depreciation only. Freetax usa If you need information about depreciating property placed in service before 1987, see Publication 534. Freetax usa Basis of Depreciable Property The basis of property used in a rental activity is generally its adjusted basis when you place it in service in that activity. Freetax usa This is its cost or other basis when you acquired it, adjusted for certain items occurring before you place it in service in the rental activity. Freetax usa If you depreciate your property under MACRS, you may also have to reduce your basis by certain deductions and credits with respect to the property. Freetax usa Basis and adjusted basis are explained in the following discussions. Freetax usa If you used the property for personal purposes before changing it to rental use, its basis for depreciation is the lesser of its adjusted basis or its fair market value when you change it to rental use. Freetax usa See Basis of Property Changed to Rental Use in chapter 4. Freetax usa Cost Basis The basis of property you buy is usually its cost. Freetax usa The cost is the amount you pay for it in cash, in debt obligation, in other property, or in services. Freetax usa Your cost also includes amounts you pay for: Sales tax charged on the purchase (but see Exception next), Freight charges to obtain the property, and Installation and testing charges. Freetax usa Exception. Freetax usa   If you deducted state and local general sales taxes as an itemized deduction on Schedule A (Form 1040), do not include those sales taxes as part of your cost basis. Freetax usa Such taxes were deductible before 1987 and after 2003. Freetax usa Loans with low or no interest. Freetax usa   If you buy property on any time-payment plan that charges little or no interest, the basis of your property is your stated purchase price, less the amount considered to be unstated interest. Freetax usa See Unstated Interest and Original Issue Discount (OID) in Publication 537, Installment Sales. Freetax usa Real property. Freetax usa   If you buy real property, such as a building and land, certain fees and other expenses you pay are part of your cost basis in the property. Freetax usa Real estate taxes. Freetax usa   If you buy real property and agree to pay real estate taxes on it that were owed by the seller and the seller does not reimburse you, the taxes you pay are treated as part of your basis in the property. Freetax usa You cannot deduct them as taxes paid. Freetax usa   If you reimburse the seller for real estate taxes the seller paid for you, you can usually deduct that amount. Freetax usa Do not include that amount in your basis in the property. Freetax usa Settlement fees and other costs. Freetax usa   The following settlement fees and closing costs for buying the property are part of your basis in the property. Freetax usa Abstract fees. Freetax usa Charges for installing utility services. Freetax usa Legal fees. Freetax usa Recording fees. Freetax usa Surveys. Freetax usa Transfer taxes. Freetax usa Title insurance. Freetax usa Any amounts the seller owes that you agree to pay, such as back taxes or interest, recording or mortgage fees, charges for improvements or repairs, and sales commissions. Freetax usa   The following are settlement fees and closing costs you cannot include in your basis in the property. Freetax usa Fire insurance premiums. Freetax usa Rent or other charges relating to occupancy of the property before closing. Freetax usa Charges connected with getting or refinancing a loan, such as: Points (discount points, loan origination fees), Mortgage insurance premiums, Loan assumption fees, Cost of a credit report, and Fees for an appraisal required by a lender. Freetax usa   Also, do not include amounts placed in escrow for the future payment of items such as taxes and insurance. Freetax usa Assumption of a mortgage. Freetax usa   If you buy property and become liable for an existing mortgage on the property, your basis is the amount you pay for the property plus the amount remaining to be paid on the mortgage. Freetax usa Example. Freetax usa You buy a building for $60,000 cash and assume a mortgage of $240,000 on it. Freetax usa Your basis is $300,000. Freetax usa Separating cost of land and buildings. Freetax usa   If you buy buildings and your cost includes the cost of the land on which they stand, you must divide the cost between the land and the buildings to figure the basis for depreciation of the buildings. Freetax usa The part of the cost that you allocate to each asset is the ratio of the fair market value of that asset to the fair market value of the whole property at the time you buy it. Freetax usa   If you are not certain of the fair market values of the land and the buildings, you can divide the cost between them based on their assessed values for real estate tax purposes. Freetax usa Example. Freetax usa You buy a house and land for $200,000. Freetax usa The purchase contract does not specify how much of the purchase price is for the house and how much is for the land. Freetax usa The latest real estate tax assessment on the property was based on an assessed value of $160,000, of which $136,000 was for the house and $24,000 was for the land. Freetax usa You can allocate 85% ($136,000 ÷ $160,000) of the purchase price to the house and 15% ($24,000 ÷ $160,000) of the purchase price to the land. Freetax usa Your basis in the house is $170,000 (85% of $200,000) and your basis in the land is $30,000 (15% of $200,000). Freetax usa Basis Other Than Cost You cannot use cost as a basis for property that you received: In return for services you performed; In an exchange for other property; As a gift; From your spouse, or from your former spouse as the result of a divorce; or As an inheritance. Freetax usa If you received property in one of these ways, see Publication 551 for information on how to figure your basis. Freetax usa Adjusted Basis To figure 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 for business or the production of income. Freetax usa The result of these adjustments to the basis is the adjusted basis. Freetax usa Increases to basis. Freetax usa   You must increase the basis of any property by the cost of all items properly added to a capital account. Freetax usa These include the following. Freetax usa The cost of any additions or improvements made before placing your property into service as a rental that have a useful life of more than 1 year. Freetax usa Amounts spent after a casualty to restore the damaged property. Freetax usa The cost of extending utility service lines to the property. Freetax usa Legal fees, such as the cost of defending and perfecting title, or settling zoning issues. Freetax usa Additions or improvements. Freetax usa   Add to the basis of your property the amount an addition or improvement actually cost you, including any amount you borrowed to make the addition or improvement. Freetax usa This includes all direct costs, such as material and labor, but does not include your own labor. Freetax usa It also includes all expenses related to the addition or improvement. Freetax usa   For example, if you had an architect draw up plans for remodeling your property, the architect's fee is a part of the cost of the remodeling. Freetax usa Or, if you had your lot surveyed to put up a fence, the cost of the survey is a part of the cost of the fence. Freetax usa   Keep separate accounts for depreciable additions or improvements made after you place the property in service in your rental activity. Freetax usa For information on depreciating additions or improvements, see Additions or improvements to property , later in this chapter, under Recovery Periods Under GDS. Freetax usa    The cost of landscaping improvements is usually treated as an addition to the basis of the land, which is not depreciable. Freetax usa However, see What Rental Property Cannot Be Depreciated, earlier. Freetax usa Assessments for local improvements. Freetax usa   Assessments for items which tend to increase the value of property, such as streets and sidewalks, must be added to the basis of the property. Freetax usa For example, if your city installs curbing on the street in front of your house, and assesses you and your neighbors for its cost, you must add the assessment to the basis of your property. Freetax usa Also add the cost of legal fees paid to obtain a decrease in an assessment levied against property to pay for local improvements. Freetax usa You cannot deduct these items as taxes or depreciate them. Freetax usa    However, you can deduct as taxes, charges or assessments for maintenance, repairs, or interest charges related to the improvements. Freetax usa Do not add them to your basis in the property. Freetax usa Deducting vs. Freetax usa capitalizing costs. Freetax usa   Do not add to your basis costs you can deduct as current expenses. Freetax usa However, there are certain costs you can choose either to deduct or to capitalize. Freetax usa If you capitalize these costs, include them in your basis. Freetax usa If you deduct them, do not include them in your basis. Freetax usa   The costs you may choose to deduct or capitalize include carrying charges, such as interest and taxes, that you must pay to own property. Freetax usa   For more information about deducting or capitalizing costs and how to make the election, see Carrying Charges in Publication 535, chapter 7. Freetax usa Decreases to basis. Freetax usa   You must decrease the basis of your property by any items that represent a return of your cost. Freetax usa These include the following. Freetax usa Insurance or other payment you receive as the result of a casualty or theft loss. Freetax usa Casualty loss not covered by insurance for which you took a deduction. Freetax usa Amount(s) you receive for granting an easement. Freetax usa Residential energy credits you were allowed before 1986, or after 2005, if you added the cost of the energy items to the basis of your home. Freetax usa Exclusion from income of subsidies for energy conservation measures. Freetax usa Special depreciation allowance claimed on qualified property. Freetax usa Depreciation you deducted, or could have deducted, on your tax returns under the method of depreciation you chose. Freetax usa If you did not deduct enough or deducted too much in any year, see Depreciation under Decreases to Basis in Publication 551. Freetax usa   If your rental property was previously used as your main home, you must also decrease the basis by the following. Freetax usa Gain you postponed from the sale of your main home before May 7, 1997, if the replacement home was converted to your rental property. Freetax usa District of Columbia first-time homebuyer credit allowed on the purchase of your main home after August 4, 1997 and before January 1, 2012. Freetax usa Amount of qualified principal residence indebtedness discharged on or after January 1, 2007. Freetax usa Claiming the Special Depreciation Allowance For 2013, your residential rental property may qualify for a special depreciation allowance. Freetax usa This allowance is figured before you figure your regular depreciation deduction. Freetax usa See Publication 946, chapter 3, for details. Freetax usa Also see the Instructions for Form 4562, Line 14. Freetax usa If you qualify for, but choose not to take, a special depreciation allowance, you must attach a statement to your return. Freetax usa The details of this election are in Publication 946, chapter 3, and the Instructions for Form 4562, Line 14. Freetax usa MACRS Depreciation Most business and investment property placed in service after 1986 is depreciated using MACRS. Freetax usa This section explains how to determine which MACRS depreciation system applies to your property. Freetax usa It also discusses other information you need to know before you can figure depreciation under MACRS. Freetax usa This information includes the property's: Recovery class, Applicable recovery period, Convention, Placed-in-service date, Basis for depreciation, and Depreciation method. Freetax usa Depreciation Systems MACRS consists of two systems that determine how you depreciate your property—the General Depreciation System (GDS) and the Alternative Depreciation System (ADS). Freetax usa You must use GDS unless you are specifically required by law to use ADS or you elect to use ADS. Freetax usa Excluded Property You cannot use MACRS for certain personal property (such as furniture or appliances) placed in service in your rental property in 2013 if it had been previously placed in service before 1987 when MACRS became effective. Freetax usa In most cases, personal property is excluded from MACRS if you (or a person related to you) owned or used it in 1986 or if your tenant is a person (or someone related to the person) who owned or used it in 1986. Freetax usa However, the property is not excluded if your 2013 deduction under MACRS (using a half-year convention) is less than the deduction you would have under ACRS. Freetax usa For more information, see What Method Can You Use To Depreciate Your Property? in Publication 946, chapter 1. Freetax usa Electing ADS If you choose, you can use the ADS method for most property. Freetax usa Under ADS, you use the straight line method of depreciation. Freetax usa The election of ADS for one item in a class of property generally applies to all property in that class that is placed in service during the tax year of the election. Freetax usa However, the election applies on a property-by-property basis for residential rental property and nonresidential real property. Freetax usa If you choose to use ADS for your residential rental property, the election must be made in the first year the property is placed in service. Freetax usa Once you make this election, you can never revoke it. Freetax usa For property placed in service during 2013, you make the election to use ADS by entering the depreciation on Form 4562, Part III, Section C, line 20c. Freetax usa Property Classes Under GDS Each item of property that can be depreciated under MACRS is assigned to a property class, determined by its class life. Freetax usa The property class generally determines the depreciation method, recovery period, and convention. Freetax usa The property classes under GDS are: 3-year property, 5-year property, 7-year property, 10-year property, 15-year property, 20-year property, Nonresidential real property, and Residential rental property. Freetax usa Under MACRS, property that you placed in service during 2013 in your rental activities generally falls into one of the following classes. Freetax usa 5-year property. Freetax usa This class includes computers and peripheral equipment, office machinery (typewriters, calculators, copiers, etc. Freetax usa ), automobiles, and light trucks. Freetax usa This class also includes appliances, carpeting, furniture, etc. Freetax usa , used in a residential rental real estate activity. Freetax usa Depreciation on automobiles, other property used for transportation, computers and related peripheral equipment, and property of a type generally used for entertainment, recreation, or amusement is limited. Freetax usa See chapter 5 of Publication 946. Freetax usa 7-year property. Freetax usa This class includes office furniture and equipment (desks, file cabinets, etc. Freetax usa ). Freetax usa This class also includes any property that does not have a class life and that has not been designated by law as being in any other class. Freetax usa 15-year property. Freetax usa This class includes roads, fences, and shrubbery (if depreciable). Freetax usa Residential rental property. Freetax usa This class includes any real property that is a rental building or structure (including a mobile home) for which 80% or more of the gross rental income for the tax year is from dwelling units. Freetax usa It does not include a unit in a hotel, motel, inn, or other establishment where more than half of the units are used on a transient basis. Freetax usa If you live in any part of the building or structure, the gross rental income includes the fair rental value of the part you live in. Freetax usa The other property classes do not generally apply to property used in rental activities. Freetax usa These classes are not discussed in this publication. Freetax usa See Publication 946 for more information. Freetax usa Recovery Periods Under GDS The recovery period of property is the number of years over which you recover its cost or other basis. Freetax usa The recovery periods are generally longer under ADS than GDS. Freetax usa The recovery period of property depends on its property class. Freetax usa Under GDS, the recovery period of an asset is generally the same as its property class. Freetax usa Class lives and recovery periods for most assets are listed in Appendix B of Publication 946. Freetax usa See Table 2-1 for recovery periods of property commonly used in residential rental activities. Freetax usa Qualified Indian reservation property. Freetax usa   Shorter recovery periods are provided under MACRS for qualified Indian reservation property placed in service on Indian reservations. Freetax usa For more information, see chapter 4 of Publication 946. Freetax usa Additions or improvements to property. Freetax usa   Treat additions or improvements you make to your depreciable rental property as separate property items for depreciation purposes. Freetax usa   The property class and recovery period of the addition or improvement is the one that would apply to the original property if you had placed it in service at the same time as the addition or improvement. Freetax usa   The recovery period for an addition or improvement to property begins on the later of: The date the addition or improvement is placed in service, or The date the property to which the addition or improvement was made is placed in service. Freetax usa Example. Freetax usa You own a residential rental house that you have been renting since 1986 and depreciating under ACRS. Freetax usa You built an addition onto the house and placed it in service in 2013. Freetax usa You must use MACRS for the addition. Freetax usa Under GDS, the addition is depreciated as residential rental property over 27. Freetax usa 5 years. Freetax usa Table 2-1. Freetax usa MACRS Recovery Periods for Property Used in Rental Activities   MACRS Recovery Period   Type of Property General Depreciation System Alternative Depreciation System   Computers and their peripheral equipment 5 years 5 years   Office machinery, such as: Typewriters Calculators Copiers 5 years 6 years   Automobiles 5 years 5 years   Light trucks 5 years 5 years   Appliances, such as: Stoves Refrigerators 5 years 9 years   Carpets 5 years 9 years   Furniture used in rental property 5 years 9 years   Office furniture and equipment, such as: Desks Files 7 years 10 years   Any property that does not have a class life and that has not been designated by law as being in any other class 7 years 12 years   Roads 15 years 20 years   Shrubbery 15 years 20 years   Fences 15 years 20 years   Residential rental property (buildings or structures) and structural components such as furnaces, waterpipes, venting, etc. Freetax usa 27. Freetax usa 5 years 40 years   Additions and improvements, such as a new roof The same recovery period as that of the property to which the addition or improvement is made, determined as if the property were placed in service at the same time as the addition or improvement. Freetax usa   Conventions A convention is a method established under MACRS to set the beginning and end of the recovery period. Freetax usa 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. Freetax usa Mid-month convention. Freetax usa    A mid-month convention is used for all residential rental property and nonresidential real property. Freetax usa Under this convention, you treat all property placed in service, or disposed of, during any month as placed in service, or disposed of, at the midpoint of that month. Freetax usa Mid-quarter convention. Freetax usa   A mid-quarter convention must be used if the mid-month convention does not apply and the total depreciable basis of MACRS property placed in service in the last 3 months of a tax year (excluding nonresidential real property, residential rental property, and property placed in service and disposed of in the same year) is more than 40% of the total basis of all such property you place in service during the year. Freetax usa   Under this convention, you treat all property placed in service, or disposed of, during any quarter of a tax year as placed in service, or disposed of, at the midpoint of the quarter. Freetax usa Example. Freetax usa During the tax year, Tom Martin purchased the following items to use in his rental property. Freetax usa He elects not to claim the special depreciation allowance discussed earlier. Freetax usa A dishwasher for $400 that he placed in service in January. Freetax usa Used furniture for $100 that he placed in service in September. Freetax usa A refrigerator for $800 that he placed in service in October. Freetax usa Tom uses the calendar year as his tax year. Freetax usa The total basis of all property placed in service that year is $1,300. Freetax usa The $800 basis of the refrigerator placed in service during the last 3 months of his tax year exceeds $520 (40% × $1,300). Freetax usa Tom must use the mid-quarter convention instead of the half-year convention for all three items. Freetax usa Half-year convention. Freetax usa    The half-year convention is used if neither the mid-quarter convention nor the mid-month convention applies. Freetax usa Under this convention, you treat all property placed in service, or disposed of, during a tax year as placed in service, or disposed of, at the midpoint of that tax year. Freetax usa   If this convention applies, you deduct a half year of depreciation for the first year and the last year that you depreciate the property. Freetax usa You deduct a full year of depreciation for any other year during the recovery period. Freetax usa Figuring Your Depreciation Deduction You can figure your MACRS depreciation deduction in one of two ways. Freetax usa The deduction is substantially the same both ways. Freetax usa You can either: Actually compute the deduction using the depreciation method and convention that apply over the recovery period of the property, or Use the percentage from the MACRS percentage tables. Freetax usa In this publication we will use the percentage tables. Freetax usa For instructions on how to compute the deduction, see chapter 4 of Publication 946. Freetax usa Residential rental property. Freetax usa   You must use the straight line method and a mid-month convention for residential rental property. Freetax usa In the first year that you claim depreciation for residential rental property, you can claim depreciation only for the number of months the property is in use, and you must use the mid-month convention (explained under Conventions , earlier). Freetax usa 5-, 7-, or 15-year property. Freetax usa   For property in the 5- or 7-year class, use the 200% declining balance method and a half-year convention. Freetax usa However, in limited cases you must use the mid-quarter convention, if it applies. Freetax usa For property in the 15-year class, use the 150% declining balance method and a half-year convention. Freetax usa   You can also choose to use the 150% declining balance method for property in the 5- or 7-year class. Freetax usa The choice to use the 150% method for one item in a class of property applies to all property in that class that is placed in service during the tax year of the election. Freetax usa You make this election on Form 4562. Freetax usa In Part III, column (f), enter “150 DB. Freetax usa ” Once you make this election, you cannot change to another method. Freetax usa   If you use either the 200% or 150% declining balance method, you figure your deduction using the straight line method in the first tax year that the straight line method gives you an equal or larger deduction. Freetax usa   You can also choose to use the straight line method with a half-year or mid-quarter convention for 5-, 7-, or 15-year property. Freetax usa The choice to use the straight line method for one item in a class of property applies to all property in that class that is placed in service during the tax year of the election. Freetax usa You elect the straight line method on Form 4562. Freetax usa In Part III, column (f), enter “S/L. Freetax usa ” Once you make this election, you cannot change to another method. Freetax usa MACRS Percentage Tables You can use the percentages in Table 2-2, earlier, to compute annual depreciation under MACRS. Freetax usa The tables show the percentages for the first few years or until the change to the straight line method is made. Freetax usa See Appendix A of Publication 946 for complete tables. Freetax usa The percentages in Tables 2-2a, 2-2b, and 2-2c make the change from declining balance to straight line in the year that straight line will give a larger deduction. Freetax usa If you elect to use the straight line method for 5-, 7-, or 15-year property, or the 150% declining balance method for 5- or 7-year property, use the tables in Appendix A of Publication 946. Freetax usa How to use the percentage tables. Freetax usa   You must apply the table rates to your property's unadjusted basis (defined below) each year of the recovery period. Freetax usa   Once you begin using a percentage table to figure depreciation, you must continue to use it for the entire recovery period unless there is an adjustment to the basis of your property for a reason other than: Depreciation allowed or allowable, or An addition or improvement that is depreciated as a separate item of property. Freetax usa   If there is an adjustment for any reason other than (1) or (2), for example, because of a deductible casualty loss, you can no longer use the table. Freetax usa For the year of the adjustment and for the remaining recovery period, figure depreciation using the property's adjusted basis at the end of the year and the appropriate depreciation method, as explained earlier under Figuring Your Depreciation Deduction . Freetax usa See Figuring the Deduction Without Using the Tables in Publication 946, chapter 4. Freetax usa Unadjusted basis. Freetax usa   This is the same basis you would use to figure gain on a sale (see Basis of Depreciable Property , earlier), but without reducing your original basis by any MACRS depreciation taken in earlier years. Freetax usa   However, you do reduce your original basis by other amounts claimed on the property, including: Any amortization, Any section 179 deduction, and Any special depreciation allowance. Freetax usa For more information, see chapter 4 of Publication 946. Freetax usa Please click here for the text description of the image. Freetax usa Table 2-2 Tables 2-2a, 2-2b, and 2-2c. Freetax usa   The percentages in these tables take into account the half-year and mid-quarter conventions. Freetax usa Use Table 2-2a for 5-year property, Table 2-2b for 7-year property, and Table 2-2c for 15-year property. Freetax usa Use the percentage in the second column (half-year convention) unless you are required to use the mid-quarter convention (explained earlier). Freetax usa If you must use the mid-quarter convention, use the column that corresponds to the calendar year quarter in which you placed the property in service. Freetax usa Example 1. Freetax usa You purchased a stove and refrigerator and placed them in service in June. Freetax usa Your basis in the stove is $600 and your basis in the refrigerator is $1,000. Freetax usa Both are 5-year property. Freetax usa Using the half-year convention column in Table 2-2a, the depreciation percentage for Year 1 is 20%. Freetax usa For that year your depreciation deduction is $120 ($600 × . Freetax usa 20) for the stove and $200 ($1,000 × . Freetax usa 20) for the refrigerator. Freetax usa For Year 2, the depreciation percentage is 32%. Freetax usa That year's depreciation deduction will be $192 ($600 × . Freetax usa 32) for the stove and $320 ($1,000 × . Freetax usa 32) for the refrigerator. Freetax usa Example 2. Freetax usa Assume the same facts as in Example 1, except you buy the refrigerator in October instead of June. Freetax usa Since the refrigerator was placed in service in the last 3 months of the tax year, and its basis ($1,000) is more than 40% of the total basis of all property placed in service during the year ($1,600 × . Freetax usa 40 = $640), you are required to use the mid-quarter convention to figure depreciation on both the stove and refrigerator. Freetax usa Because you placed the refrigerator in service in October, you use the fourth quarter column of Table 2-2a and find the depreciation percentage for Year 1 is 5%. Freetax usa Your depreciation deduction for the refrigerator is $50 ($1,000 x . Freetax usa 05). Freetax usa Because you placed the stove in service in June, you use the second quarter column of Table 2-2a and find the depreciation percentage for Year 1 is 25%. Freetax usa For that year, your depreciation deduction for the stove is $150 ($600 x . Freetax usa 25). Freetax usa Table 2-2d. Freetax usa    Use this table when you are using the GDS 27. Freetax usa 5 year option for residential rental property. Freetax usa Find the row for the month that you placed the property in service. Freetax usa Use the percentages listed for that month to figure your depreciation deduction. Freetax usa The mid-month convention is taken into account in the percentages shown in the table. Freetax usa Continue to use the same row (month) under the column for the appropriate year. Freetax usa Example. Freetax usa You purchased a single family rental house for $185,000 and placed it in service on February 8. Freetax usa The sales contract showed that the building cost $160,000 and the land cost $25,000. Freetax usa Your basis for depreciation is its original cost, $160,000. Freetax usa This is the first year of service for your residential rental property and you decide to use GDS which has a recovery period of 27. Freetax usa 5 years. Freetax usa Using Table 2-2d, you find that the percentage for property placed in service in February of Year 1 is 3. Freetax usa 182%. Freetax usa That year's depreciation deduction is $5,091 ($160,000 x . Freetax usa 03182). Freetax usa Figuring MACRS Depreciation Under ADS Table 2–1, earlier, shows the ADS recovery periods for property used in rental activities. Freetax usa See Appendix B in Publication 946 for other property. Freetax usa If your property is not listed in Appendix B, it is considered to have no class life. Freetax usa Under ADS, personal property with no class life is depreciated using a recovery period of 12 years. Freetax usa Use the mid-month convention for residential rental property and nonresidential real property. Freetax usa For all other property, use the half-year or mid-quarter convention, as appropriate. Freetax usa See Publication 946 for ADS depreciation tables. Freetax usa Claiming the Correct Amount of Depreciation You should claim the correct amount of depreciation each tax year. Freetax usa If you did not claim all the depreciation you were entitled to deduct, you must still reduce your basis in the property by the full amount of depreciation that you could have deducted. Freetax usa For more information, see Depreciation under Decreases to Basis in Publication 551. Freetax usa If you deducted an incorrect amount of depreciation for property in any year, you may be able to make a correction by filing Form 1040X, Amended U. Freetax usa S. Freetax usa Individual Income Tax Return. Freetax usa If you are not allowed to make the correction on an amended return, you can change your accounting method to claim the correct amount of depreciation. Freetax usa Filing an amended return. Freetax usa   You can file an amended return to correct the amount of depreciation claimed for any property in any of the following situations. Freetax usa You claimed the incorrect amount because of a mathematical error made in any year. Freetax usa You claimed the incorrect amount because of a posting error made in any year. Freetax usa You have not adopted a method of accounting for property placed in service by you in tax years ending after December 29, 2003. Freetax usa You claimed the incorrect amount on property placed in service by you in tax years ending before December 30, 2003. Freetax usa   Generally, you adopt a method of accounting for depreciation by using a permissible method of determining depreciation when you file your first tax return for the property used in your rental activity. Freetax usa This also occurs when you use the same impermissible method of determining depreciation (for example, using the wrong MACRS recovery period) in two or more consecutively filed tax returns. Freetax usa   If an amended return is allowed, you must file it by the later of the following dates. Freetax usa 3 years from the date you filed your original return for the year in which you did not deduct the correct amount. Freetax usa A return filed before an unextended due date is considered filed on that due date. Freetax usa 2 years from the time you paid your tax for that year. Freetax usa Changing your accounting method. Freetax usa   To change your accounting method, you generally must file Form 3115, Application for Change in Accounting Method, to get the consent of the IRS. Freetax usa In some instances, that consent is automatic. Freetax usa For more information, see Changing Your Accounting Method in Publication 946,  chapter 1. Freetax usa Prev  Up  Next   Home   More Online Publications