Class life depreciation

Chlorinated polyether, 436, 443 Chlorobenzene, reactor design for production of 718-726 Chloroprene, 435 Chutes, cost of 569 CLADR, 273-275,286-288 Class life depreciation, 270-276, 286-290... 

Rather than explain the complicated rationale behind the allowable rates of depreciation for those classes, Table B.5 just lists the rates for what is called accelerated depreciation (MACRS). Note that for each class you deduct some depreciation after the useful life (class life) expires. You can find other tables for accelerated depreciation for various circumstances in any guide to federal income taxes. If you do not want to choose accelerated rates of depreciation, you can choose straight-line depreciation (SL) using the rates listed in Table B.6. The specific... 

Solution. Assume the equipment falls into the 3-year class life schedule. The depreciation allowances are as follows ... 

Suppose you are asked to evaluate the purchase of the multicone cyclone referred to in Example 3.4. The capital investment is 35,000 (see Example 3.4), and the equipment has a class life of 5 years, after which it will be sold for the salvage value of 4000. The income stream generated by the machine is on line A in Tables EB.5A and EB.5B. As the equipment ages, its operating and maintenance costs increase, and line B lists the expense profile. Assume a tax rate of 35 percent with no investment tax credit. Evaluate two possible scenarios (a) 100 percent use of equity and (b) 100 percent debt financing. Use straight-line depreciation for debt financing, for simplicity assume equal annual payments (principal plus interest) to the lender for the 5 years at a rate of 10.5%. 

Land for the project is available at 300,000. The fixed capital investment was estimated to be 12,000,000. A working capital of 1,800,000 is needed initially for the venture. Start-up expenses based upon past experience are estimated to be 750,000. The project qualifies under IRS guidelines as a 5-year class life investment. The company uses MACRS depreciation with the half-year convention. At the conclusion of the prmect, the land and working capital are returned to management. Develop a cash flow analysis for this project, using a cumulative cash position table (Table 9-25). 

Tax-law changes put into effect with the 1981 Economic Recovery Act and modified in 1986 have instituted a new system of depreciation known as the Accelerated Cost Recovery System (ACRS). The latter has replaced the former ADR system for most tangible depreciable property used in a trade or business placed in service on or after January 1, 1981. In the ACRS [or Modified Accelerated Cost Recovery System (MACRS) which went into effect for property put into service on or after January 1, 19871, the recovery of capital costs as depreciation was determined over statutory periods of time using statutory percentages depending on the class life of the property and the number of years since the property was placed in service. The statutory periods of time were generally shorter than the useful life of the asset or the period for which it was used to produce income. 

Class life asset depreciation range (Continued)... 

For both ACRS and MACRS, the statutory percentages have been calculated for each of a group of class years, and these, in turn, have been related to values of the Class Life Accelerated Depreciation Range (CLADR) as noted earlier. Results are given in Table 3 for ACRS and Table 4 for MACRS. 

Applicable recovery percentage to give annual depreciation for class life of... 

Recovery System (MACRS). Note that MACRS is based on a 200 percent declining balance for this class life with a switch to straight-line depreciation at the time appropriate to maximize the deduction. It is also based on salvage value being zero. The half-year convention in the first and last years applies. Use an initial property value of 22,000 to permit comparison of results to Fig. 9-4. 

Description of class life asset Asset depreciation range (ADR) (in years) Asset guideline Lower period Dppcr limit (Midpoint) limit Annual asset guideline repair allowance, percentage of cost... 

Under MACRS depreciation, different recovery periods are assigned to different kinds of assets, based on a usable life ( class life ) designated by the U.S. Internal Revenue Service (IRS). For chemical plants and most other processing equipment, the class life is 10 to 16 years and the recovery period is 7 years. It should be noted, however, that for roads, docks, and other civil infrastructure, a 15-year recovery period is used, so some offsite investments are depreciated on a different schedule from that used for the ISBL investment. 

Other details of MACRS depreciation are not discussed here, and at the time of writing, the tax law also allows assets to be depreciated by the straight-line method (over the class life, not the recovery period and still following the half-year convention). The tax law is revised frequently and the most recent version of IRS publication... 

Table 17.9 CDS Class Life for Use with the MACRS Depreciation Method...

These results show for the three cases the same total depreciation of 90,000,000, which equals the basis, and the same total income tax savings of 33,300,000 because of depreciation. However, when the present values of the tax savings for each year are computed from Eq. (17.14) and summed for each of the three cases, the results are different, with the shorter class life favored, as shown below for a nominal interest rate of 10% compounded annually. 

For the process considered in Example 17.14, but with MACRS depreciation for a 5-yr class life as determined in Example 17.27, calculate, over an estimated life of 15 yr, including years 1997-1999 when the plant is being constructed (a) the NPV for a nominal interest rate of 15% compounded annually and (b) the nominal interest rate for the IRR method (i.e., for NPV = 0). For the first 2 yr of plant operation, when at 45 and 67.5% of capacity, the cost of production, exclusive of depreciation, is 55 million and 78 million, respectively. 

Using an MACRS depreciation schedule having a class life of 5 yr. 

Life of the Equipment, n This is specified by the U.S. Internal Revenue Service (IRS). It does not reflect the actual working life of the equipment but rather the time allowed by the IRS for equipment depreciation. Chemical process equipment currendy has a depreciation class life of 9.5 years fll. Total Capital for Depreciation The total amount of depreciation allowed is the difference between the fixed capital investment and the salvage value. 

The current federal tax law is based on MACRS, using a half-year convention. All equipment is assigned a class life, which is the period over which the depreciable portion of the investment may be discounted. 

Most equipment in a chemical plant has a class life of 9.5 years [1] with no salvage value. This means that the capital investment maybe depreciated using a straight-line method over 9.5 years. Alternatively, a MACRS method over a shorter period of time may be used, which is five years for this class life. In general, it is better to depreciate an investment as soon as possible. This is because the more the depreciation is in a given year, the less taxes paid. As shown earlier in this chapter, money now is worth more than the same amount in the future therefore, it is better to pay less in taxes at the beginning of a project than at the end. 

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