5 Year Property Depreciation Calculation

Depreciation is a tax deduction allowing a business to recover an asset’s cost over time as it generates income. The Internal Revenue Service (IRS) groups property into classes, each with a designated recovery period that dictates how many years the asset can be depreciated. This article focuses on the rules and calculation methods for assets in the 5-year property class.

Identifying 5 Year Property

The IRS defines 5-year property to include a range of assets used in business operations. This category includes:

• Computers and peripheral equipment, such as printers, scanners, and monitors.
• Office machinery like copiers, fax machines, and calculators.
• Automobiles and light-duty trucks.
• Certain appliances and property used in residential rental activities, such as refrigerators or stoves.
• Qualified technological equipment and property used for research and experimentation.

Calculating Depreciation for 5 Year Property

The standard method for depreciating business property is the Modified Accelerated Cost Recovery System (MACRS), with the General Depreciation System (GDS) being the most common approach. For 5-year property, GDS uses the 200% declining balance method, which allows for larger deductions in the earlier years of an asset’s life. The IRS provides percentage tables that simplify this calculation.

Two conventions determine how first-year depreciation is calculated: the half-year and mid-quarter conventions. The half-year convention is the default, treating all property as placed in service in the middle of the year, allowing for a half-year of depreciation. The mid-quarter convention is required if more than 40% of the total basis of all personal property is placed in service during the final three months of the tax year.

To illustrate the calculation, consider a business that purchases a computer for $10,000 and uses the half-year convention. Using the IRS-provided percentage table for 5-year GDS property, the depreciation rates are applied to the original cost basis. The deductions are: Year 1 (20% for $2,000), Year 2 (32% for $3,200), Year 3 (19.20% for $1,920), Year 4 (11.52% for $1,152), Year 5 (11.52% for $1,152), and a final deduction in Year 6 (5.76% for $576).

Special Depreciation Allowances

The Section 179 deduction allows a business to elect to treat the cost of qualifying property as an expense and deduct it in the year the property is placed in service. For 2025, the maximum deduction is $1,250,000, but this amount begins to phase out if the total cost of property placed in service exceeds $3,130,000. This election provides an immediate benefit by reducing taxable income.

Bonus depreciation allows for an additional first-year deduction for qualified new and used property. This deduction is taken after any Section 179 expense but before the regular MACRS depreciation calculation. For property placed in service in 2025, the bonus depreciation rate is 40%. The rate is scheduled to continue decreasing in subsequent years, and bonus depreciation is mandatory for applicable property unless the taxpayer elects out of it.

Section 179 is an election that offers flexibility, allowing a business to choose how much of an asset’s cost to expense, up to the annual limit. Bonus depreciation, on the other hand, applies more broadly and automatically to entire classes of property. A business might use Section 179 to expense specific assets fully while applying bonus depreciation to the remaining cost of other qualifying assets before starting the regular MACRS schedule.

Reporting Depreciation and Asset Disposal

All depreciation deductions, including standard MACRS, Section 179 expensing, and bonus depreciation, are calculated and reported on IRS Form 4562, Depreciation and Amortization. Part I of the form is used to make the Section 179 election, Part II is for the bonus depreciation allowance, and Part III is where the regular MACRS depreciation is calculated. This form consolidates all depreciation claims and accompanies the business’s main tax return.

If a depreciated asset is sold for more than its adjusted basis (original cost minus accumulated depreciation), the gain is subject to depreciation recapture. This rule requires that the portion of the gain attributable to the depreciation deductions taken must be reported as ordinary income, which is taxed at higher rates than long-term capital gains. For example, if a computer purchased for $10,000 was depreciated down to an adjusted basis of $3,000 and then sold for $12,000, the first $7,000 of the gain would be taxed as ordinary income, with the remaining $2,000 treated as a capital gain.