Straight line depreciation is the method that spreads the cost of a depreciable asset, less its estimated salvage value, in equal amounts across the years of its estimated useful life, so the charge is the same in every full year the asset is in service. It is the method the Internal Revenue Code requires for nonresidential real property and residential rental property. Depreciation in general is the periodic charge that spreads a tangible long-lived asset’s cost across the periods it is used.
The Formula and Its Three Terms
The regulation that defines the method gives the arithmetic in one sentence. Under the straight line method the cost or other basis of the property less its estimated salvage value is deductible in equal annual amounts over the period of the estimated useful life of the property, and the allowance for a taxable year is determined by dividing the adjusted basis of the property at the beginning of that year, less salvage value, by the remaining useful life at that time (26 CFR 1.167(b)-1(a)).
annual charge = (cost or other basis less salvage value) / useful lifeTwo of the three terms are estimates, and each has its own definition. Salvage value is the amount, determined at the time of acquisition, that is estimated will be realizable on sale or other disposition of the asset when it is no longer useful in the taxpayer’s trade or business or in the production of income and is to be retired from service. It is not changed afterwards merely because price levels have moved (26 CFR 1.167(a)-1(c)).
Useful life is not the life inherent in the asset. It is the period over which the asset may reasonably be expected to be useful to the taxpayer in the trade or business or in the production of income, determined by reference to the taxpayer’s experience with similar property, and redetermined only when the change in the useful life is significant and there is a clear and convincing basis for the redetermination (26 CFR 1.167(a)-1(b)).
Cost or other basis is the third term, and it is the one the client’s records have to support. The regulation works from adjusted basis at the beginning of the year, so an improvement already capitalized into the asset, or depreciation already allowed, sits inside the number before the division happens.
A Worked Example
Say a firm capitalizes a piece of equipment on its books, estimates what it will fetch when it comes out of service, and expects to use it for a set number of years. On those inputs the method produces this.
Cost capitalized 48,000
Estimated salvage value 6,000
Amount to be depreciated 42,000
Estimated useful life, in years 6
Charge for each full year 7,000Six equal charges recover everything above the salvage estimate and leave that estimate sitting in the asset’s carrying amount at the end of the sixth year. Set the salvage estimate to zero and the same six years each carry a larger charge, because the whole capitalized cost now has to come out. On the tax side that zero is not an estimate at all, because the deduction for equipment runs under section 168, which treats salvage value as zero and fixes the method and the recovery period itself rather than leaving either to the firm (26 U.S.C. 168(a) and (b)(4)).
Where the Charge Lands in a Firm’s Work
The same amount posts in two places. On the fixed-asset rollforward it adds to accumulated depreciation, the contra account that sits beside the asset and is described in fixed assets, so the schedule runs from opening balances, through additions and disposals, to closing balances that tie to the balance sheet. On the income statement it is an expense of the period, and it is one of the non-cash charges added back in EBITDA.
For tax the deduction is claimed on Form 4562, Depreciation and Amortization, and the form prints the method on its face. In Part III, Section B, the row for residential rental property at 27.5 yrs. and the row for nonresidential real property at 39 yrs. already carry MM and S/L in the convention and method columns, and every row of Section C, for assets placed in service under the alternative depreciation system, carries S/L (IRS, Form 4562, 2025).
What Is the Difference Between MACRS and Straight Line Depreciation?
They are not alternatives. MACRS, the Modified Accelerated Cost Recovery System (IRS, Publication 946, How To Depreciate Property), is the system that determines the depreciation deduction for tangible property by fixing three things: the applicable depreciation method, the applicable recovery period and the applicable convention (26 U.S.C. 168(a)). Straight line is one of the methods that system uses, so the question is not which of the two applies, but which method MACRS assigns to the asset in front of you.
The default is the 200 percent declining balance method, switching to the straight line method for the first taxable year in which the switch yields a larger allowance, and 150 percent is substituted for 200 percent for 15-year and 20-year property that is not required to use straight line, for certain smart electric meters and grid systems, and for property the taxpayer elects in (26 U.S.C. 168(b)(1) and (b)(2)).
For other property straight line is mandatory. The statute names nonresidential real property, residential rental property and qualified improvement property, meaning an improvement the taxpayer makes to an interior portion of a building that is nonresidential real property, placed in service after the date the building itself was first placed in service. It also reaches any railroad grading or tunnel bore, and water utility property, and a taxpayer may elect the method for one or more classes of property, irrevocably once made (26 U.S.C. 168(b)(3), (b)(5) and (e)(6)).
The alternative depreciation system, which the statute imposes on tangible property used predominantly outside the United States and on tax-exempt use property, among others, also uses the straight line method, without regard to salvage value (26 U.S.C. 168(g)(1) and (g)(2)).
The tax deduction then departs from the book charge on both estimates, and neither is the firm’s to make. Salvage value is treated as zero, so the whole basis comes out over the period. The period itself is read off a statutory table rather than estimated, at 27.5 years for residential rental property and 39 years for nonresidential real property (26 U.S.C. 168(b)(4) and (c)).
The last difference is presentational. Under MACRS the charge is expressed as a rate rather than as a single division: the straight line rate for a tax year is the number 1 divided by the years remaining in the recovery period at the beginning of that year, with the convention used in the year the property was placed in service taken into account (IRS, Publication 946, How To Depreciate Property).
Is 39-Year Property Straight Line?
Yes. The applicable method for nonresidential real property is the straight line method, over a 39-year recovery period (26 U.S.C. 168(b)(3)(A) and (c)). The first and last years are still partial ones, because real property takes the mid-month convention rather than the half-year one (26 U.S.C. 168(d)(2)), and how each convention divides those years is set out in prorated. What the 39-year clock does to an actual building, including the cost segregation work that moves parts of it off that clock, is worked through in commercial real estate accounting.
If fixed-asset schedules and depreciation rollforwards are the client work that slips to the end of every close, a trial task puts a block of that work through Accountably’s review chain before your own reviewer depends on it.
