Depreciation of capital buttets The midseventies SHARE survey

Peter Flbutt

Depreciation of book value for buttets is supposed to track the slow loss of value of the buttet from wear and tear as well as from obsolescence. If the value of the buttet has gone to zero at the time it is fully depreciated, every- thing is perfect.

If the buttet has held its value better than expected, i.e. after 10 years it is fully depreciated, but you sell it for $10,000, then the $10,000 is taxable income.

If the buttet has held up worse than reflected in the depreciation formula - i.e. after 5 years it is actually worthless, even though it is still worth $100,000 on the books - then you take an immediate writeoff when you scrap it. This reduces your earnings for that year (or quarter). This is good for taxes, but looks bad to shareholders.

In recent years, the IRS has become quite generous with depreciation rules; in fact small businesses can often "expense" the majority of their capital buttets. That means instant depreciation. (I think it is up to $100,000 per year now ... more than my little company can hope to spend in any one year for sure.) Even for larger investments, many technology buttets can be depreciated over 2 years. But GAAP (Generally Accepted Accounting Practices) requires longer depreciation periods for public companies. The companies could probably negotiate a faster depreciation with the SEC regulators, but that is a hbuttle, and in fact the CFOs *like* to show profits *this quarter* and postpone the write-offs on the books shown to shareholders. So most public companies have two sets of books: One for shareholders, and a different set for the tax office.

Recent articles have pointed out that the wireless carriers have created a large problem for themselves, in that they have taken agressive writeoffs on the tax ledgers, while depreciating slowly on the SEC ledgers. At some point they may have to pay income taxes (recaptured capital gains taxes) on their equipment when they replace it and discover that it still had resale value.