How to Calculate Depreciation

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Calculating depreciation is necessary when a business buys an expensive asset that it expects to use for several years, such as a building, vehicle or piece of equipment. Depreciation spreads the reporting of the asset’s cost over the period of its estimated useful life, making profits smoother and easier to analyze. Depreciation is also reported on your tax return and affects your tax payments.

There are several methods for calculating depreciation, depending on the type of asset and whether you are calculating the depreciation for financial reports or for tax returns.

Key takeaways

The IRS requires businesses to use a depreciation method called Modified Accelerated Cost Recovery System (MACRS) to calculate the depreciation of tangible assets for tax returns.
Other depreciation methods, including straight-line depreciation and double declining balance depreciation, can be used for financial reporting purposes.
Most types of intangible assets cannot be depreciated, but are instead amortized, which uses a different equation.

What is depreciation?

Depreciation reflects the “matching principle” of accounting, meaning that expenses should be recorded in the period they are used for running your business and helping you create sales. For example, if you buy a piece of equipment this year but don’t start using it until next year and then continue using it for ten years, the matching principle says you should spread the recorded cost over the ten year period you’re using it. This is called depreciation.

Calculating depreciation helps you understand how profitable your business decisions are. If you had recorded the entire cost of the equipment in the year you bought it, your income statement would look terrible that year and terrific the next year. In reality, you needed that equipment to generate the next ten years of profits, so spreading the reported cost over that time gives you a more meaningful picture of financial performance.

Understanding depreciation schedules

If a business owns multiple assets, there will be a lot of data that needs to be tracked each year to calculate depreciation on those assets. A depreciation schedule is a list of every asset a business owns, including its:

Cost
Date of initial use
Estimated useful life
Depreciation method used
Amount of depreciation you need to record each year.

Key terms to understand

Instructions for calculating depreciation frequently include the following vocabulary:

Tangible asset: A physical item you expect to use for several years to help generate sales. Tangible assets typically include buildings, vehicles and equipment, but can be as diverse as fruit trees and racehorses.
Intangible asset: A tool that helps generate sales but is not a physical item, like computer software, patents or creative content like a piece of music.
Useful life: The number of years you estimate the asset will help generate sales. The IRS has established estimated useful life standards for most types of assets.
Salvage value: The estimated amount you could sell the asset for when you are no longer using it. Assets like vehicles and buildings often have a significant salvage value.
Depreciable value: The total amount you can depreciate over time. This normally equals the asset’s original cost, including sales tax, shipping and installation. Remaining depreciable value will be reduced by accumulated depreciation and salvage value.
Accumulated depreciation: The sum of all the depreciation you’ve recorded so far for the asset.

How to calculate depreciation of tangible assets for taxes

The Internal Revenue Service (IRS) requires businesses to use a depreciation method called Modified Accelerated Cost Recovery System (MACRS) to calculate the depreciation of tangible assets for tax returns. MACRS assumes that most of the revenue-generating value of an asset occurs in the early years of its use. This assumption is advantageous to taxpayers because it accelerates tax deductions.

Calculating MACRS depreciation for all the assets a company owns can be complicated, and the IRS provides MACRS Percentage Tables to help with this. Alternatively, business accounting software with a fixed asset module will automatically calculate MACRS depreciation to use in your tax preparation. For most business owners, using IRS tables or software is going to be a more reliable option than trying to calculate depreciation manually.

How to calculate depreciation of intangible assets for taxes

Most types of intangible assets cannot be depreciated: They are subject to a different accounting calculation called amortization. Two types of intangible assets that can be depreciated are non-customized computer software, which is depreciated over 36 months, and the cost of filing patents for intellectual property you created yourself, which are depreciated over the life of the patent protection.

For most types of depreciable intangibles, the straight-line depreciation calculation is used. It is calculated by dividing the cost of the asset by the number of months of its useful life. This becomes its monthly depreciation expense.

A special alternative is available for depreciating the cost of creative works like films, books and music recordings: These may be depreciated over 10 years using the Income Forecast Method. It is calculated by estimating the total income the asset will generate over the first ten years of its use and depreciating the fraction of the asset cost equal to that year’s income divided by the total expected income.

Section 179 vs. bonus depreciation

Depreciation rules have been modified several times by Congressional acts:

In 1958 a tax code provision called Section 179 became available that allows businesses to write off the full cost of qualifying assets in the year they are bought and put into use, up to a set annual amount which is currently $2.5 million per year. Section 179 can only be used by companies that spend less than $6.5 million per year on assets, so it’s most useful to small businesses.

In 2017 the Tax Cuts and Jobs Act established a “bonus depreciation” provision allowing businesses of all sizes to write off the cost of qualifying assets in the year purchased. The bonus depreciation provision was designed as a temporary economic incentive that would be phased out over time.

However, in 2025, H.R. 1 (the “One Big Beautiful Bill” act) made bonus depreciation permanent and also broadened the definition of qualifying assets acquired after January 19, 2025.

What can I depreciate on my taxes?

The IRS allows business owners to take tax deductions for depreciation on assets that meet the following criteria:

Owned by the business (not rented or leased)
Used for business activities
Have an estimable useful life, which is greater than one year.

Other methods of calculating depreciation

MACRS depreciation is only approved for tax returns, not for GAAP financial reporting. For use in financial statements, businesses have a choice of straight-line depreciation or these other methods:

Double declining balance (DDB) depreciation

Like MACRS, the DDB depreciation calculation assumes an asset contributes the most value in the early years of its use. However, unlike MACRS, DDB can set a salvage value for the asset. This improves balance sheet accuracy for assets like buildings and vehicles with substantial salvage values.

Example: Double declining balance method:

To calculate depreciation for a $10,000 asset with a five-year life and a $1,000 salvage value using the DDB method:

Calculate the straight-line depreciation rate, which equals (1 / years of useful life):
(1 / 5 years) = 20%
Multiple it by 2 to get the DDB depreciation rate:
(20% x 2) = 40%
Multiply the cost of the asset by the DDB depreciation rate to calculate the first year’s depreciation:
($10,000 x 40%) = $4,000
The second year, recalculate the remaining depreciable value, which equals (cost – accumulated depreciation):
($10,000 – $4,000) = $6,000
Multiply the remaining depreciable value by the same DDB depreciation rate to calculate the second year’s depreciation:
($6,000 x 40%) = $2,400

Repeat steps 4 and 5 each year until the remaining depreciable value reaches the salvage value; then stop depreciating it.

Sum-of-the-years’-digits (SYD)

SYD depreciation is another accelerated depreciation method that assumes an asset provides the most value in its early years. It can also incorporate a salvage value.

Example: Sum-of-the-years’-digits method:

To calculate depreciation for a $10,000 asset with a five-year life and a $1,000 salvage value using the SYD method:

Calculate the depreciable value, which equals (cost – salvage value):
($10,000 – $1,000) = $9,000
Calculate the sum of the years’ digits:
1 + 2 + 3 + 4 + 5 = 15
Calculate the first year’s depreciation rate, which equals (highest year digit / sum of the years’ digits ):
(5 / 15) = 33%
Multiply the depreciable value by the depreciation rate to calculate the first year’s depreciation:
($9,000 x 33%) = $2,970
Calculate the next year’s depreciation rate, which equals (next highest digit / sum of the years’ digits):
(4 / 15) = 27%
Multiply the same depreciable value by the new depreciation rate to calculate the next year’s depreciation:
($9,000 x 27%) = $2,430

Repeat steps 5 and 6 for each remaining year in the life of the asset.

Units of production

The units of production depreciation calculation matches the cost of an asset with its actual productivity in helping generate sales. The units of production depreciation calculation is especially suited to equipment for which you can measure units of output.

Example: Units of production method

To calculate depreciation for a $10,000 asset with a five-year life and a $1,000 salvage value using the units of production method:

Calculate the depreciable value, which equals (cost – salvage value):
($10,000 – $1,000) = $9,000
Estimate the number of units the equipment will produce over its useful life:
For this example, we’ll assume one million units.
Divide the depreciable value by estimated total production units to calculate depreciation per unit:
($9,000 / 1,000,000) = $0.009 per unit
Multiply the depreciation per unit by the number of units produced in each accounting period, for example, if 250,000 units were produced the first year, deprecation would be:
(250,000 x $.009) = $2,250

Repeat step 4 each year the asset is in use until remaining depreciable value equals zero.

Frequently asked questions

No, land cannot be depreciated because its useful life is assumed to be infinite. If you purchase a building including the land under it, you can only depreciate the estimated value of the building itself.

Yes, if you are self-employed and your home is your primary place of business, you can depreciate the cost of the proportions of your home, building improvements, furniture and equipment which are solely dedicated to business use.

No, inexpensive assets can be written off in the year they’re purchased. Under current rules the IRS considers an asset inexpensive if it costs less than $2,500.

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