What Is Depreciation & Amortization Used for?
Depreciation and amortization both allow you to write off certain business costs, such as vehicles, buildings and lab research, on your taxes. Unlike a straight deduction, where you write off a business cost in the year that you spend the money, depreciation and amortization require you to deduct the expense over several years.
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Uses
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Depreciation is an annual allowance that covers the wear and tear, deterioration and obsolescence of capital property -- property that you keep for more than one year -- according to the Internal Revenue Service. That includes buildings, machinery, furniture, vehicles and equipment. Amortization allows you to deduct non-material business expenses over time. For example, the cost of research and development, advertising or boosting circulation for a magazine could all be amortized. Patents and copyrights may be amortized or depreciated, depending on your situation.
Rules
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You cannot usually depreciate property unless you own it, though in some cases leased property can be depreciated. Even if you're still paying a mortgage or vehicle loan, if you have title and use of the property, you can claim depreciation. The IRS sets the time frame for depreciation and amortization. Depending on the asset, you may be able to claim a deduction over 15 years or five, taking the same amount every year or claiming an extra percentage of depreciation in the first year.
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Alternatives
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In some cases, business expenses you would normally amortize or depreciate can be written off in a single year. Office furniture and computers, for example, can be depreciated over seven years or claimed as a business expense in the year you buy them. If you have the option, decide which alternative works better with your finances: If you anticipate profits increasing over the next few years, depreciation might cut your taxes more than taking the entire cost immediately.
Considerations
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Don't assume your business costs can be amortized or depreciated without checking first. If you're just opening a business, for example, many start-up expenses can't be deducted at all; the IRS assumes you'll recover the expense if you sell the business later. If your costs do qualify, you use IRS form 4562 for both amortization and depreciation. If you own income-producing rental property, you may be able to depreciate it, even if you don't think of yourself as in business.
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