Question

• Answer the following questions:
  1. How might the MACRS system be beneficial for tax purposes for individuals and/or businesses?
  2. Why would businesses utilize straight-line depreciation for their financial statements and MACRS for their tax accounting?

Answer 1

1) How might the MACRS system be beneficial for tax purposes for individual and/or businesses?

Answer : Modified accelerated cost recovery system allows the individual or businesses to deduct maximum amount of depreciation in the initial years of investment . Which reduces their tax burden during the initial years of investment . As we know depreciation expense is an income tax deduction. So, if in the initial years higher amount of depreciation expense is allowed as deduction ,then it reduces initial year's tax liability.

The MACRS depreciation method allows greater accelerated depreciation over the life of an asset. This ultimately means the business or individual can take larger tax deductions in the initial years and deduct less in the later years.

2) Why would businesses utilize straight line depreciation for financial statements ?

Answer :

Under straight line method

annual depreciation =[ Original cost + Installation charges - Scrap value ] / Number of working life in years.

It is a very simple method to calculate depreciation expense and allocation of depreciation expenses in each year is fixed and it is really easy to understand. Due to its simplicity straight line method is preferred for financial statements.

3) Why do businesses utilize MACRS for tax accounting?

Answer : During the period of investment in fixed assets, enterprises generally use to have very limited volume of cash and cash equivalents to payoff their tax liability.

So, to reduce the tax liability in initial years , MACRS depreciation method allows the business to deduct greater amount of depreciation expense in the initial years of investment in fixed assets. Which ultimately reduce the net tax liability for the business in the initial years of investment.