You recover your cost in income producing property through yearly tax deductions. You do this by depreciating the property; that is, by deducting some of your cost on your tax return each year.

Three basic factors determine how much depreciation you can deduct. They are: (1) your basis in the property, (2) the recovery period for the property, and (3) the depreciation method used. You cannot simply deduct your mortgage or principal payments, or the cost of furniture, fixtures and equipment, as an expense.

You can deduct depreciation only on the part of your property used for rental purposes. Depreciation reduces your basis for figuring gain or loss on a later sale or exchange.

You may have to use Form 4562 to figure and report your depreciation. See How To Report Rental Income and Expenses, later. Also see Publication 946.

Claiming the correct amount of depreciation. You should claim the correct amount of depreciation each tax year. If you did not claim depreciation that you were entitled to deduct, you must still reduce your basis in the property by the amount of depreciation that you should have deducted. If you did not deduct the correct amount of depreciation for property in any year, you may be able to make a correction for that year by filing Form 1040X, Amended U.S. Individual Income Tax Return. 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. See Changing your accounting method, later.

Amended return. If you deducted an incorrect amount of depreciation, you can file an amended return to correct the following.

1. A mathematical error made in any year.
2. A posting error made in any year.
3. The amount of depreciation for property for which you have not adopted a method of accounting for depreciation.

If an amended return is allowed, you must file it by the later of the following:

1. 3 years from the date you filed your original return for the year in which you did not deduct the correct amount, or
2. 2 years from the time you paid your tax for that year.

A return filed early is considered filed on the due date.

If you have adopted a method of accounting for depreciation for property, you cannot change the method by filing an amended return. You have adopted a method of accounting if you deducted an incorrect amount of depreciation for the property on two or more consecutively filed tax returns.

Changing your accounting method. To change your accounting method, you must file Form 3115, Application for Change in Accounting Method, to get the consent of the IRS. In some instances, that consent is automatic. For more information, see Changing Your Accounting Method in Publication 946.

What can be depreciated. You can depreciate your property if it meets all the following conditions.

1. It is used in business or held for the production of income (such as rental property).
2. It has a determinable useful life that extends substantially beyond the year it is placed in service.
3. It is something that wears out, gets used up, decays, becomes obsolete, or loses value from natural causes.

You can depreciate both real property, other than land (discussed next), and personal property.

Real property. Real property is land and, generally, anything that is built on, growing on, or attached to land. Buildings, fences, sidewalks, and trees are real property.

Personal property. Personal property is property that is not real property. Furniture, appliances, and lawn mowers are personal property.

Land. You can never depreciate land. The costs of clearing, grading, planting, and landscaping are usually all part of the cost of land and are not depreciable.

Rented property. Generally, if you pay rent on property, you cannot depreciate that property. Usually, only the owner can depreciate it. If you make permanent improvements to the property, you may be able to depreciate the improvements. See Additions or improvements to property, later.

Cooperative apartments. If you rent your cooperative apartment to others, you can deduct your share of the cooperative housing corporation's depreciation.

Figure your depreciation deduction as a tenant-stockholder in a cooperative housing corporation in the following way.

1. Figure the depreciation for all the depreciable real property owned by the corporation. (Depreciation methods are discussed later.) If you bought your cooperative stock after its first offering, figure the depreciable basis of this property as follows.
   1. Multiply your cost per share by the total number of shares outstanding.
   2. Add to the amount figured in (a) any mortgage debt on the property on the date you bought the stock.
   3. Subtract from the amount figured in (b) any mortgage debt that is not for the depreciable real property, such as the part for the land.
2. Subtract from (1) any depreciation for space owned by the corporation that can be rented but cannot be lived in by tenant-stockholders. The result is the yearly depreciation as reduced.
3. Divide the number of your shares of stock by the total number of shares outstanding, including any shares held by the corporation.
4. Multiply the yearly depreciation as reduced (from (2)) by the percentage you figured in (3). This is your share of the depreciation.

Your depreciation deduction for the year cannot be more than the part of your adjusted basis (defined later) in the stock of the corporation that is for your rental property.

See Cooperative apartments under What Can Be Depreciated in chapter 1 of Publication 946 for more information.

No deduction greater than basis. The total of all your yearly depreciation deductions cannot be more than the cost or other basis of the property. For this purpose, your yearly depreciation deductions include any depreciation that you were allowed to claim, even if you did not claim it.

Table 3

Depreciation systems. There are three ways to figure depreciation. The depreciation system you use depends on the type of property and when it was placed in service. For property used in rental activities you use:

• MACRS (Modified Accelerated Cost Recovery System) for property placed in service after 1986,
• ACRS (Accelerated Cost Recovery System) for property placed in service after 1980 but before 1987, or
• Useful lives and either straight line or an accelerated method of depreciation, such as the declining balance method, for property placed in service before 1981.

This publication discusses MACRS only. If you need information about depreciating property placed in service before 1987, see Publication 534.

If you placed property in service before 2001, continue to use the same method of figuring depreciation that you used in the past.

Section 179 deduction. You cannot claim the section 179 deduction for property held to produce rental income (unless renting property is your trade or business). See chapter 2 of Publication 946.

Alternative minimum tax. If you use accelerated depreciation, you may have to file Form 6251, Alternative Minimum Tax--Individuals. Accelerated depreciation includes MACRS, ACRS, and any other method that allows you to deduct more depreciation than you could deduct using a straight line method.

MACRS

In general, tangible property placed in service during 2001 is depreciated using MACRS.

MACRS consists of two systems that determine how you depreciate your property. The main system is called the General Depreciation System (GDS). The second system is called the Alternative Depreciation System (ADS). GDS is used to figure your depreciation deduction for property used in most rental activities, unless you elect ADS.

To figure your MACRS deduction, you need to know the following information about your property:

1. Its recovery period,
2. Its placed-in-service date, and
3. Its depreciable basis.

Personal home changed to rental use. You must use MACRS to figure the depreciation on property used as your home and changed to rental property in 2001.

Excluded property. You cannot use MACRS for certain personal property placed in service in your rental property in 2001 if it had been previously placed in service before MACRS became effective. Generally, 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. However, the property is not excluded if your 2001 deduction under MACRS (using a half-year convention) is less than the deduction you would have under ACRS. See What Cannot Be Depreciated Under MACRS in Publication 946 for more information.

Recovery Periods Under GDS

Each item of property that can be depreciated is assigned to a property class. The recovery period of the property depends on the class the property is in. The property classes 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.

The class to which property is assigned is determined by its class life. Class lives and recovery periods for most assets are listed in Appendix B in Publication 946.

Under GDS, property that you placed in service during 2001 in your rental activities generally falls into one of the following classes. Also see Table 3.

1. 5-year property. This class includes computers and peripheral equipment, office machinery (typewriters, calculators, copiers, etc.), automobiles, and light trucks.

   This class also includes appliances, carpeting, furniture, etc., used in a rental real estate activity.

   Depreciation on automobiles, certain computers, and cellular telephones is limited. See chapter 4 of Publication 946.

2. 7-year property. This class includes office furniture and equipment (desks, files, etc.). 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.
3. 15-year property. This class includes roads and shrubbery (if depreciable).
4. Residential rental property. 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. 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. 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. Residential rental property is depreciated over 27.5 years.

The other recovery classes do not generally apply to property used in rental activities. These classes are not discussed in this publication. See Publication 946 for more information.

Qualified Indian reservation property. For the applicable recovery period for qualified Indian reservation property, see Publication 946.

Additions or improvements to property. Treat depreciable additions or improvements you make to any property as separate property items for depreciation purposes. The recovery period for an addition or improvement to property begins on the later of:

1. The date the addition or improvement is placed in service, or
2. The date the property to which the addition or improvement was made is placed in service.

The class and recovery period of the addition or improvement is the one that would apply to the underlying property if it were placed in service at the same time as the addition or improvement.

Example. You own a residential rental house that you have been renting since 1986 and that you are depreciating under ACRS. You put an addition onto the house and placed it in service in 2001. You must use MACRS for the addition. Under MACRS, the addition is depreciated as residential rental property over 27.5 years.

Placed-in-Service Date

You can begin to depreciate property when you place it in service in your trade or business or for the production of income. Property is considered placed in service in a rental activity when it is ready and available for a specific use in that activity.

Example 1. On November 22 of last year, you purchased a dishwasher for your rental property. The appliance was delivered on December 7, but was not installed and ready for use until January 3 of this year. Because the dishwasher was not ready for use last year, it is not considered placed in service until this year.

If the appliance had been 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.

Example 2. On April 6, you purchased a house to use as residential rental property. You made extensive repairs to the house and had it ready for rent on July 5. You began to advertise the house for rent in July and actually rented it beginning September 1. The house is considered placed in service in July when it was ready and available for rent. You can begin to depreciate the house in July.

Example 3. You moved from your home in July. During August and September you made several repairs to the house. On October 1, you listed the property for rent with a real estate company, which rented it on December 1. The property is considered placed in service on October 1, the date when it was available for rent.

Depreciable Basis

The depreciable basis of property used in a rental activity is generally its adjusted basis when you place it in service in that activity. 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.

Do not include in your depreciable basis any property placed in service and disposed of during the same tax year.

Basis and adjusted basis are explained in the following discussions.

If you used the property for personal purposes before changing it to rental use, its depreciable basis is the lesser of its adjusted basis or its fair market value when you change it to rental use. See Basis of Property Changed to Rental Use, later.

Cost Basis

The basis of property you buy is usually its cost. The cost is the amount you pay for it in cash, in debt obligation, in other property, or in services. Your cost also includes amounts you pay for:

• Sales tax charged on the purchase,
• Freight charges to obtain the property, and
• Installation and testing charges.

Loans with low or no interest. 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. See Unstated Interest and Original Issue Discount in Publication 537, Installment Sales.

Real property. 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.

Real estate taxes. If you buy real property and agree to pay real estate taxes on it that were owed by the seller and the seller did not reimburse you, the taxes you pay are treated as part of your basis in the property. You cannot deduct them as taxes paid.

If you reimburse the seller for real estate taxes the seller paid for you, you can usually deduct that amount. Do not include that amount in your basis in the property.

Settlement fees and other costs. Settlement fees and closing costs that are for buying the property are part of your basis in the property. These include:

• Abstract fees,
• Charges for installing utility services,
• Legal fees,
• Recording fees,
• Surveys,
• Transfer taxes,
• Title insurance, and
• 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.

Some settlement fees and closing costs you cannot include in your basis in the property are:

1. Fire insurance premiums,
2. Rent or other charges relating to occupancy of the property before closing, and
3. Charges connected with getting or refinancing a loan, such as:
1. Points (discount points, loan origination fees),
2. Mortgage insurance premiums,
3. Loan assumption fees,
4. Cost of a credit report, and
5. Fees for an appraisal required by a lender.

Also, do not include amounts placed in escrow for the future payment of items such as taxes and insurance.

Assumption of a mortgage. 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 that still must be paid on the mortgage.

Example. You buy a building for $60,000 cash and assume a mortgage of $240,000 on it. Your basis is $300,000.

Land and buildings. 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. 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.

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 the assessed values for real estate tax purposes.

Example. You buy a house and land for $100,000. The purchase contract does not specify how much of the purchase price is for the house and how much is for the land.

The latest real estate tax assessment on the property was based on an assessed value of $80,000, of which $68,000 is for the house and $12,000 is for the land.

You can allocate 85% ($68,000 × $80,000) of the purchase price to the house and 15% ($12,000 × $80,000) of the purchase price to the land.

Your basis in the house is $85,000 (85% of $100,000) and your basis in the land is $15,000 (15% of $100,000).

Basis Other Than Cost

There are many times when you cannot use cost as a basis. 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.

If you received property in one of these ways, see Publication 551 for information on how to figure your basis.

Adjusted Basis

Before you can figure allowable depreciation, you may have to make certain adjustments (increases and decreases) to the basis of the property. The result of these adjustments to the basis is the adjusted basis.

Increases to basis. You must increase the basis of any property by the cost of all items properly added to a capital account. This includes:

• The cost of any additions or improvements having a useful life of more than one year,
• Amounts spent after a casualty to restore the damaged property,
• The cost of extending utility service lines to the property, and
• Legal fees, such as the cost of defending and perfecting title.

Additions or improvements. 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. This includes all direct costs, such as material and labor, but not your own labor. It also includes all expenses related to the addition or improvement.

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. 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.

Keep separate accounts for depreciable additions or improvements made after you place the property in service in your rental activity. For information on depreciating additions or improvements, see Additions or improvements to property, earlier, under Recovery Periods Under GDS.

The cost of landscaping improvements is usually treated as an addition to the basis of the land, which is not depreciable. See What can be depreciated, earlier.

Assessments for local improvements. 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. For example, if your city installs curbing on the street in front of your house, and assesses you and your neighbors for the cost of curbing, you must add the assessment to the basis of your property. Also add the cost of legal fees paid to obtain a decrease in an assessment levied against property to pay for local improvements. You cannot deduct these items as taxes or depreciate them.

Assessments for maintenance or repair or meeting interest charges are deductible as taxes. Do not add them to your basis in the property.

Deducting vs. capitalizing costs. You cannot add to your basis costs that are deductible as current expenses. However, there are certain costs you can choose either to deduct or to capitalize. If you capitalize these costs, include them in your basis. If you deduct them, do not include them in your basis.

The costs you may be able to choose to deduct or to capitalize include carrying charges, such as interest and taxes, that you must pay to own property.

For more information about deducting or capitalizing costs, see chapter 8 in Publication 535.

Decreases to basis. You must decrease the basis of your property by any items that represent a return of your cost. These include:

• The amount of any insurance or other payment you receive as the result of a casualty or theft loss,
• Any deductible casualty loss not covered by insurance,
• Any amount you receive for granting an easement,
• Any residential energy credit you were allowed before 1986, if you added the cost of the energy items to the basis of your home, and
• The amount of depreciation you could have deducted on your tax returns under the method of depreciation you selected. If you took less depreciation than you could have under the method you selected, you must decrease the basis by the amount you could have taken under that method.

  If you deducted more depreciation than you should have, you must decrease your basis by the amount you should have deducted, plus the part of the excess you deducted that actually lowered your tax liability for any year.

Basis of Property Changed to Rental Use

When you change property you held for personal use to rental use (for example, you rent your former home), you figure the basis for depreciation using the lesser of fair market value or adjusted basis.

Fair market value. This is the price at which the property would change hands between a buyer and a seller, neither having to buy or sell, and both having reasonable knowledge of all the relevant facts. Sales of similar property, on or about the same date, may be helpful in figuring the fair market value of the property.

Figuring the basis. The basis for depreciation is the lesser of:

• The fair market value of the property on the date you changed it to rental use, or
• Your adjusted basis on the date of the change--that is, your original cost or other basis of the property, plus the cost of permanent improvements or additions since you acquired it, minus deductions for any casualty or theft losses claimed on earlier years' income tax returns and other decreases to basis.

Example. Several years ago you built your home for $140,000 on a lot that cost you $14,000. Before changing the property to rental use last year, you added $28,000 of permanent improvements to the house and claimed a $3,500 deduction for a casualty loss to the house. Because land is not depreciable, you can only include the cost of the house when figuring the basis for depreciation.

The adjusted basis of the house at the time of the change in use was $164,500 ($140,000 + $28,000 - $3,500).

On the date of the change in use, your property had a fair market value of $168,000, of which $21,000 was for the land and $147,000 was for the house.

The basis for depreciation on the house is the fair market value at the date of the change ($147,000), because it is less than your adjusted basis ($164,500).

MACRS Depreciation Under GDS

You can figure your MACRS depreciation deduction under GDS in one of two ways. The deduction is substantially the same both ways. (The difference, if any, is slight.) You can either:

1. Actually compute the deduction using the depreciation method and convention that apply over the recovery period of the property, or
2. Use the percentage from the optional MACRS tables, shown later.

If you actually compute the deduction, the depreciation method you use depends on the class of the property.

5-, 7-, or 15-year property. For property in the 5- or 7-year class, use the double (200%) declining balance method and a half-year convention. However, in limited cases you must use the mid-quarter convention, if it applies. These conventions are explained later. For property in the 15-year class, use the 150% declining balance method and a half-year convention.

You can also choose to use the 150% declining balance method for property in the 5- or 7-year class. 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. You make this election on Form 4562. In column (f), Part II, enter "150 DB."

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 a larger deduction.

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. 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. You elect the straight line method on Form 4562. In column (f), Part II, enter "S/L." Once you make this election, you cannot change to another method.

Residential rental property. You must use the straight line method and a mid-month convention for residential rental property.

Declining Balance Method

To figure your MACRS deduction, first determine your declining balance rate from the table below. However, if you elect to use the 150% declining balance method for 5- or 7-year property, figure the declining balance rate by dividing 1.5 (150%) by the recovery period for the property.

In the first tax year, multiply the adjusted basis of the property by the declining balance rate and apply the appropriate convention to figure your depreciation. In later years, use the following steps to figure your depreciation.

1. Adjust your basis by subtracting the amount of depreciation allowable for the earlier years.
2. Multiply your adjusted basis in (1) by the same rate used in the first year.

See Conventions, later, for information on depreciation in the year you dispose of property.

Declining balance rates. The following table shows the declining balance rate that applies for each class of property and the first year for which the straight line method will give a greater deduction. (The rates for 5- and 7-year property are based on the 200% declining balance method. The rate for 15-year property is based on the 150% declining balance method.)

Class	Declining Balance Rate	Year
5	40%	4th
7	28.57%	5th
15	10%	7th

Straight Line Method

To figure your MACRS deduction under the straight line method, you must figure a new depreciation rate for each tax year in the recovery period.

For any tax year, figure the straight line rate by dividing the number 1 by the years remaining in the recovery period at the beginning of the tax year. When figuring the number of years remaining, you must take into account the convention used in the first year. If the remaining recovery period at the beginning of the tax year is less than one year, the straight line rate for that tax year is 100%.

Multiply the adjusted basis of the property by the straight line rate. You must figure the depreciation for the first year using the convention that applies. (See Conventions, later.)

Example. For property with a 5-year recovery period, the straight line rate is 20% (1 divided by 5) for the first tax year. After you apply the half-year convention, the first year rate is 10% (20% divided by 2).

At the beginning of the second year, the remaining recovery period is 4 1/2 years because of the half-year convention. The straight line rate for the second year is 22.22% (1 divided by 4.5).

To figure your depreciation deduction for the second year:

1. Subtract the depreciation taken in the first year from the basis of the property, and
2. Multiply the remaining basis in (1) by 22.22%.

Residential rental property. In the first year that you claim depreciation for residential rental property, you can only claim depreciation for the number of months the property is in use, and you must use the mid-month convention (explained under Conventions, next).

Conventions

To figure your depreciation deduction for both the year in which you place property in service and the year in which you dispose of the property, you use one of the following conventions.

1. Mid-month convention.
2. Half-year convention.
3. Mid-quarter convention.

Mid-month convention. A mid-month convention is used for residential rental property in all situations. Under a mid-month convention, residential rental property placed in service, or disposed of, during any month is treated as placed in service, or disposed of, in the middle of that month.

Half-year convention. The half-year convention is used for property other than residential rental property. The half-year convention treats all property placed in service, or disposed of, during a tax year as placed in service, or disposed of, in the middle of that tax year.

A half year of depreciation is allowable for the first year the property is placed in service, regardless of when the property is placed in service during the tax year. For each of the remaining years of the recovery period, you will take a full year of depreciation. If you hold the property for the entire recovery period, a half year of depreciation is allowable for the year in which the recovery period ends. If you dispose of the property before the end of the recovery period, a half year of depreciation is allowable for the year of disposition.

Mid-quarter convention. A mid-quarter convention must be used in certain circumstances for property other than residential rental property. This convention applies if the total basis of such property that is placed in service in the last 3 months of a tax year is more than 40% of the total basis of all such property you place in service during the year.

Under a mid-quarter convention, all property placed in service, or disposed of, during any quarter of a tax year is treated as placed in service, or disposed of, in the middle of the quarter.

Exception. If the third quarter of your 2001 tax year includes September 11, 2001, you may elect to apply the half-year convention, as discussed earlier, to all property (other than nonresidential real property and residential rental property) placed in service during your 2001 tax year. The third quarter begins on the first day of the seventh month of the tax year.

To make the election, print "Election Pursuant to Notice 2001-70" across the top of Form 4562.

Example. During the tax year, Tom Martin purchased the following items to use in his rental property.

• A dishwasher for $400 that he placed in service in January.
• Used furniture for $100 that he placed in service in September.
• A refrigerator for $500 that he placed in service in October.

Tom uses the calendar year as his tax year. The total basis of all property placed in service that year is $1,000. The $500 basis of the refrigerator placed in service during the last 3 months of his tax year exceeds $400 (40% × $1,000).

Ordinarily, Tom must use the mid-quarter convention instead of the half-year convention for all three items. However, for 2001 he can use the half-year convention for all three items if he makes the election as discussed under Exception above.

Optional Tables

You can use the tables in Table 4 to compute annual depreciation under MACRS. The tables show the percentages for the first 6 years. See Appendix A of Publication 946 for complete tables. The percentages in Tables 4-A, 4-B, and 4-C make the change from declining balance to straight line in the year that straight line will yield a larger deduction. See Declining Balance Method, earlier.

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.

How to use the tables. The following section explains how to use the optional tables.

Figure the depreciation deduction by multiplying your unadjusted basis in the property by the percentage shown in the appropriate table. Your unadjusted basis is your depreciable basis without reduction for depreciation previously claimed.

Once you begin using an optional 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:

1. Depreciation allowed or allowable, or
2. An addition or improvement that is depreciated as a separate item of property.

If there is an adjustment for any other reason (for example, because of a deductible casualty loss) you can no longer use the table. 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 MACRS Depreciation Under GDS.

Tables 4-A, 4-B, and 4-C. The percentages in these tables take into account the half-year and mid-quarter conventions. Use Table 4-A for 5-year property, Table 4-B for 7-year property, and Table 4-C for 15-year property. Use the percentage in the second column (half-year convention) unless you must use the mid-quarter convention (explained earlier). 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.

Example 1. You purchased a stove and refrigerator and placed them in service in February. Your basis in the stove is $300 and your basis in the refrigerator is $500. Both are 5-year property. Using the half-year convention column in Table 4-A, you find the depreciation percentage for year 1 is 20%. For that year your depreciation deduction is $60 ($300 × .20) for the stove and $100 ($500 × .20) for the refrigerator.

For year 2, you find your depreciation percentage is 32%. That year's depreciation deduction will be $96 ($300 × .32) for the stove and $160 ($500 × .32) for the refrigerator.

Example 2. Assume the same facts as in Example 1, except you buy the refrigerator in October instead of February. You must use the mid-quarter convention to figure depreciation on the stove and refrigerator. The refrigerator was placed in service in the last 3 months of the tax year, and its basis ($500) is more than 40% of the total basis of all property placed in service during the year ($800 × .40 = $320).

Because you placed the refrigerator in service in October, you use the fourth quarter column of Table 4-A and find that the depreciation percentage for year 1 is 5%. Your depreciation deduction for the refrigerator is $25 ($500 × .05).

Because you placed the stove in service in February, you use the first quarter column of Table 4-A and find that the depreciation percentage for year 1 is 35%. For that year, your depreciation deduction for the stove is $105 ($300 × .35).

However, see Exception earlier for making an election to apply the half-year convention for certain property placed in service during 2001.

Table 4-D. Use this table for residential rental property. Find the row for the month that you placed the property in service. Use the percentages listed for that month to figure your depreciation deduction. The mid-month convention is taken into account in the percentages shown in the table.

Example. You purchased a single family rental house and placed it in service in February. Your basis in the house is $80,000. Using Table 4-D, you find that the percentage for property placed in service in February of year 1 is 3.182%. That year's depreciation deduction is $2,546 ($80,000 × .03182).

Table 4

MACRS Depreciation Under ADS

If you choose, you can use the ADS method for most property. Under ADS, you use the straight line method of depreciation.

Table 3 shows the recovery periods for property used in rental activities that you depreciate under ADS.

See Appendix B in Publication 946 for other property. If your property is not listed, it is considered to have no class life. Under ADS, personal property with no class life is depreciated using a recovery period of 12 years.

Use the mid-month convention for residential rental property. For all other property, use the half-year or mid-quarter convention.

Election. You choose to use ADS by entering the depreciation on line 16, Part II of Form 4562.

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. However, the election applies on a property-by-property basis for residential rental property.

Once you choose to use ADS, you cannot change your election.

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