Depreciation is the recovery of the cost of capital assets used in the conduct of a trade or business or to produce income. Farmers depreciate most of their business assets, including machinery and equipment and buildings. Land is not depreciable. Depending on the type of asset, the recovery period ranges from three to 39 years. More resources on depreciation are available on this page.
Depreciation and expensing are flexible tools farmers use for tax management purposes. Under current law the following common methods are allowed:.
- Bonus depreciation is the presumption of tax law and for 2021 and 2022 it is 100 percent of the cost of eligible assets with recovery periods of 3-20 years. Bonus percentages decrease until the amount is zero after January 1, 2027.
- Farmers and ranchers can make an election to not use bonus depreciation. The election is made using an attachment to the tax return and is made on an asset class basis.
- Internal Revenue Code section 179 allows for eligible assets to be treated as an expense subject to limits which are indexed for inflation annually. For 2022, the electable amount is $1,080,000 ($1,050,000 in 2021); the investment limit is $2,700,000 ($2,620,000 in 2021). If the investment limit is exceeded, the electable amount decreases dollar for dollar until zero.
- MACRS GDS is the “regular” depreciation method use to recover various agricultural assets over 3-, 5-, 7-, 10-, 15-, and 20-year periods.
- New agricultural machinery and equipment assets use a 5-year recovery period
- Used agricultural machinery and equipment assets use a 7-year recovery period
- Fences and grain bins use a 7-year recovery period
- MACRS ADS is an alternative method used to lengthen the recovery period if that is in the best long-term interest of the operation. One such reason may be that the farm or ranch is in the early stages of development and income is low, thus, it may be wise to defer depreciation to later years when income is higher.
IRS Form 4562 is used by farmers and ranchers to make elections and report the depreciation of the current tax year. The sum of depreciation and section 179 deductions is the amount reported on Line 14, Schedule F.
Example 1. George operates a diversified crop farm, in 2021 he purchases a new tractor for $175,000. George has $85,000 of depreciation which is the allowable depreciation on assets purchased prior to 2021. Thus, assuming George does not elect out of bonus depreciation, his total depreciation is $260,000 which is reported on Line 14, Schedule F. Had George elected to use section 179 expensing on the new tractor for the entire $175,000, his depreciation amount would be the same.
Example 2. Using the same fact pattern of Example 1, George wants to manage his depreciation of the new tractor over it’s 5-year recovery period. George elects out of bonus depreciation and uses MACRS GDS over 5 years. In this case, the first year’s depreciation value of the tractor is $35,000 ($175,000 x 0.20). His total depreciation for the year is $35,000 plus $85,000, equaling $120,000, which is reported on Line 14, Schedule F.
Example 3. Maria constructs a new greenhouse for her cut-flower business at a cost of $85,000. The greenhouse is a “single-purpose horticultural structure” which has a 10-year recovery period under MACRS GDS or 15-year recovery period under MACRS ADS. Maria elects to use the longer recovery period under the ADS method which uses straight line. In doing so, the greenhouse no longer qualifies for bonus depreciation. Maria makes the election to use ADS on IRS Form 4562, Line 19e. Maria has $24,000 of depreciation from assets purchased in prior years, this year’s depreciation is $26,833.
Snapshot of Maria’s IRS Form 4562 Part III
Snapshot of Maria’s Schedule F, Line 14
By making this election, Maria will recover the cost of the greenhouse over 15 years which is expected to match her income stream as the business grows, thus reducing her income in future years as opposed to creating a potential loss in the year she purchased the greenhouse.
The Center for Agricultural Law and Taxation is a partner of the National Agricultural Law Center (NALC) at the University of Arkansas System Division of Agriculture, which serves as the nation’s leading source of agricultural and food law research and information. This material is provided as part of that partnership and is based upon work supported by the National Agricultural Library, Agricultural Research Service, U.S. Department of Agriculture.