For sole traders, calculating depreciation is an important aspect of managing your business finances and can significantly reduce your tax bill. Assets, such as vehicles, computers or machinery, lose value over time as they get older. This loss of value is called depreciation. Sole traders can claim depreciation as an expense each tax year. This guide will walk you through everything you need to know about depreciating your assets, making the process approachable and straightforward.
How are assets different to expenses?
Assets are items costing over $1,000 that a business keeps for longer than a year. Also called capital assets or fixed assets, they can include computers, vehicles and machinery. You claim depreciation on assets instead of claiming them as expenses.
Items costing under $1,000 or that you intend to use in your business for less than a year should be claimed as an expense.
You can claim a deduction for depreciation on assets you own, lease or buy under a hire purchase agreement and use, or intend to use, in your business.
How do I claim depreciation?
Claiming depreciation is a three step process, this article will take you though each step:
- Calculate depreciation for the tax year (1 April – 31 March)
- Include depreciation in your tax return
- Keep records
1. How to calculate depreciation
Before you can begin calculating depreciation, there are a few things you need to know about your asset:
- Purchase price: This is the value of the asset when you started using it in your business. It’s usually the amount you paid for the asset. If you’ve owned the asset for a while and are now starting to use it for business, then enter the value the asset is currently worth (what you would get for it if you sold it). If you’re not registered for GST, use the GST inclusive value of the asset. And if you’re GST registered, use the GST exclusive value.
- Purchase date: The date that you purchased the asset or started using it in your business.
- Percentage of business use: If the asset is not used 100% for business, what is the percentage that you use the asset in your business? E.g. a laptop that you use 60% for business and 40% for personal use.
- Depreciation rate: The depreciation rate determines how quickly the asset is claimed. Each asset has a specific rate depending on which depreciation method you use. E.g. the rate for a laptop is 50% when using the diminishing value method and 40% for the straight line method. To find the specific rate for your asset, use the IRD’s depreciation rate guide.
You also need to decide which depreciation method you’re going to use. Both will depreciate your asset, but at different speeds:
- Select depreciation method: There are two depreciation methods to choose from; Diminishing value (DV) and Straight line (SL). The total depreciation you can claim over an asset’s life is the same for both methods. DV depreciates at a high rate for the start of an asset’s life and has a reducing rate each year. SL depreciates at the same rate each year. Use DV if you want to claim the asset depreciation quickly and use SL if you would prefer to spread the depreciation over a longer period of time. The most commonly used method is DV.
For more detail on how Diminishing value (DV) and Straight line (SL) depreciation is calculated refer to the IRDs website:
Once you have the information about your asset and have chosen a depreciation method, there are two tools for calculating depreciation:
- IRD Depreciation rate calculator: The IRD depreciation rate calculator will give calculate the yearly depreciation of your asset that you can then add to your end of year tax return.
- Solo Tax App: Solo automatically calculates depreciation on your assets live during the year, simply set and forget, and generates a ready-to-file income tax return for you.
How do I claim GST on an asset?
When you’re registered for GST you can claim the GST portion of the assets purchase price in your GST return. The full amount of GST should be claimed at the date you purchased the asset.
For example, if you purchased a laptop on February 8 for $2,750 (GST inc) then the GST amount of $358.70 should be added to you February GST return and the remaining $2,391.30 should be depreciated.
2. Including depreciation in your tax return
When the time comes for actually claiming asset depreciation in your tax returns, here’s what you need to do. If you’re self-employed you will need to file an Income tax return (IR3), with a Financial Statement (IR10), at the end of the year. And if you’re registered for GST you will need to include the GST portion of the asset price in your GST return. The following instructions relate to online tax returns which can be accessed through your myIR account.
At the purchase date, take the GST portion of the purchase price and combine it with any GST you’ve paid on other expenses during the same period. Add the total to the ‘Total GST paid’ box in your online GST return.
Income tax return (IR3)
If you earn self-employed income – subtract your total depreciation for the financial year (along with any other expenses) from your total self-employed income to get your self-employed net income. Enter this figure in the ‘Self-employed net income’ box on the income page of your online return.
E.g. if you have $67,000 self-employed income for the year, your asset depreciation is $8,500 and you have $5,000 of other expenses for the year then 67,000 – 8,500 – 5,000 = $53,500 self-employed net income.
If you earn schedular payments – total up your depreciation for the financial year (along with any other expenses) and enter this figure in the ‘Expenses related to schedular payments’ box on the income page of your online return. If you earn both schedular payments and self-employed income make sure you only claim your depreciation and expenses for one type of income.
Financial statement (IR10)
The IR10 Financial Statement is part of your income tax return and is required for statistical purposes. The figures you enter in the IR10 will not effect how much tax you pay. Enter all you expenses for the year, including your vehicle expenses, into the relevant boxes.
Balance sheet (IR10)
In the Balance sheet section of the IR10, enter the closing/book value of the asset. This is the original cost of the asset minus the accumulated depreciation.
3. Keeping records
Like you do for any other business expenses you are claiming, you need to keep records of all asset purchases, including cost and purchase date.
Records of assets should include:
- tax invoices for purchases if you want to claim these in your GST return.
- evidence of payment, for example invoices, cash sale dockets or till receipts.
- bank statements for your business related accounts.
You need to keep these records for at least 7 years. Records must be in English or Māori.
Selling or disposing of an asset
When you sell or dispose of a business asset, you need to account for any profit or loss from the sale in your tax return.
How to calculate a gain or loss on sale:
- Determine the asset’s book value at the time of the sale (original cost minus the accumulated depreciation).
- Subtract the book value from the sale price to find the gain or loss.
- If the sale price is higher than the book value, it’s a gain. If it’s lower, it’s a loss.
- Report the gain or loss on your tax return. A gain will increase your self-employed net income, while a loss will decrease it.
- Keep records of the sale, including the original purchase details, depreciation records, and sale documents.
Mastering the concept of depreciation is an empowering step for new sole traders. By effectively managing your asset depreciation, you not only ensure compliance with tax regulations but also gain a realistic view of your business’s financial health. Remember, depreciation is not just a tax tool; it’s an integral part of sound financial management for your business. With this guide, you should now be equipped to confidently handle the depreciation of your business assets.
This is article 5 of 6 in our Self-employed Tax in New Zealand: A Beginner’s Guide.
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