Assets and depreciation
Depreciating asset
A depreciating asset is an asset with a limited effective life that is expected to lose value through use, such as machinery, vehicles and equipment, and its cost can be deducted over time.
A depreciating asset is an asset that has a limited effective life and can reasonably be expected to decline in value over the time it is used. Typical examples include plant and machinery, tools, computers, office furniture, motor vehicles and fit-out items. The tax system lets you deduct the decline in value over time, which reflects the fact that these assets wear out or become obsolete.
Not everything qualifies. Land is not a depreciating asset, because it does not have a limited life. Trading stock is excluded, since it is dealt with under its own rules. Certain intangible items and buildings are handled differently, and buildings may qualify for the capital works deduction instead. Intangibles such as certain intellectual property and licences can sometimes be depreciating assets, depending on the type.
To claim the decline in value you must use the asset, or have it installed ready for use, for a taxable purpose, such as earning assessable income. If you use it partly for private purposes, the deduction is reduced to reflect the business portion. You calculate the deduction using either the prime cost method or the diminishing value method, based on the asset's cost and its effective life.
Small businesses may have access to simplified options, including the instant asset write-off, which allows an immediate deduction for eligible assets below a threshold, and the small business pool. The threshold changes and is set by legislation, so check ato.gov.au for the current limit. Assets not written off are depreciated over time as usual.
GST links in as well. A business registered for GST can generally claim a credit for the GST in the purchase price of a depreciating asset in full in the BAS for the period of the tax invoice, even though the income tax deduction is spread out. These are capital purchases, reported at G10 on the BAS. Credits on cars are limited by the car limit. When you sell the asset, GST is generally payable on the sale if you are registered.
A common mistake is deducting the full cost immediately when the asset does not qualify for an immediate write-off. Another is forgetting the balancing adjustment on sale or disposal. Keep an asset register with purchase dates, costs and methods. This is general information only, so confirm your situation with the ATO or a registered tax professional.
Worked example
A registered bakery buys a mixer for $4,400 including GST. The GST credit is $4,400 / 11 = $400, reported at G10. The GST-exclusive cost is $4,000. If the effective life is 8 years and the prime cost method applies, the annual deduction is $4,000 / 8 = $500 for a full year of use. Under the diminishing value method the first year would be higher.
Practical tips
- Keep an asset register recording cost, date first used, effective life and method for every depreciating asset.
- Land is never a depreciating asset, so do not include it in your depreciation schedule.
- Claim the GST credit in the period of the tax invoice, even though the income tax deduction is spread across years.