Calculate Annual Depreciation Deduction with a Short Tax Year

Slide1In IRS Pub 946, chapter 4 is titled “Figuring Depreciation Under MACRS”. In this part of the publication there is a section on “Figuring the Deduction for a Short Tax Year”. They explain that a short tax year is any tax year with less than 12 full months. There are then very detailed rules for determining the depreciation amounts for property placed in service or disposed in a short tax year. They break down short year calculations into the following topics:

  • Using the Applicable Convention in a Short Tax Year
    • Mid-month convention
    • Half-year convention
    • Mid-quarter convention
  • Property Placed in Service in a Short Tax Year
  • Property Placed in Service before a Short Tax Year
  • Depreciation after a Short Tax Year
  • Disposal Rules

There is too much detail on each of these variables to cover here so if you have questions please refer to the document. One of the basic rules for short tax years is that normal full year depreciation is allocated by the ratio of number of months is short tax year. The remaining full year depreciation is allocated to the following tax year. Here is our earlier post on the topic of short years:

Calculating Depreciation with a Short Tax Year

The simple rules for calculating depreciation of an asset placed in service during a short tax year are:

  1. Determine the depreciation for a full tax year
  2. Multiply he depreciation in step 1 by a fraction
      1. The numerator (top number) of the fraction is the number of months the property is in service
      2. The denominator (bottom number) is 12

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More information about Bassets eDepreciation software can be found at Bassets.net. While there you can register for our live webinar, download a free evaluation copy and get a personalized pricing estimate.

Calculating Depreciation with a Short Tax Year

A short tax year is defined as one that is less than one year (12 months) in length. These can occur during mergers, when a business is first started or if there is a change to the method of accounting.

If a business wants to file on a calendar-year basis, but the business is started during the middle of the year, then they will need to account for the short tax year. The short year will be for the remaining months in the first year, so if the business begins in June, then the short year would be 7 months long. The same holds true for a business that uses a fiscal year and the short year is determined by the number of periods between the first month and the fiscal year end. So if the business again begins in June, but the fiscal year end is September then the short tax year would only be 4 months long.

Short tax years also occur during mergers and acquisitions when the two companies have different tax year ends. If the company being acquired has a different year end, then a short year can be used to change them to the same year end as the new parent company. Let’s say company A has a March year end and they acquire company B that files on a calendar-year basis. Company B could utilize a three month short year (Jan – Mar) to get in synch with company A.

Bassets eDepreciation is designed to handle one or more short tax years. This can occur if you had a short year when you started the business and then needed one or more in the future to account for a merger or accounting change.

Also note that there are specific rules to deal with calculations in a short year. The selected first year convention will impact the depreciation numbers in the first year of an asset’s life and also any disposals.

Questions or comments about this post? We invite you to respond in the space below.

More information about Bassets eDepreciation software can be found at Bassets.net. While there you can set up a demonstration, download a free evaluation copy and get a personalized pricing estimate.