Mid-Quarter Convention: 40% Test, Basis, and First-Year Depreciation

The mid-quarter convention is a mandatory MACRS rule that applies whenever more than 40% of the depreciable basis of the personal property you placed in service during the year came in during the last three months of your tax year. When it applies, every MACRS asset placed in service that year, not just the fourth-quarter ones, is treated as if it went into service at the midpoint of the quarter it actually arrived. This is not an election. Failing the 40% test can dramatically shrink first-year depreciation on late-year purchases while slightly increasing it for assets placed in service earlier.

When the 40% Test Triggers It

The trigger is a single calculation. Add up the depreciable basis of all MACRS personal property placed in service during the last three months of your tax year, then compare that total to the depreciable basis of everything placed in service during the entire year. If the last-three-months figure exceeds 40% of the full-year figure, the mid-quarter convention applies to all of it.¹

A quick illustration. Your calendar-year business places $120,000 of MACRS equipment in service across the year. In November, you buy a $55,000 truck. The 40% threshold is $48,000. Because $55,000 exceeds $48,000, the mid-quarter convention applies to every MACRS asset placed in service that year, including the ones from January and June.

One point that trips people up: “placed in service” is not the same as “purchased.” An asset is placed in service when it is ready and available for use in the business. A machine ordered in September but not installed and operational until January belongs to the following tax year entirely.

What Counts in the Test Basis

The “depreciable basis” for the 40% test is not simply the purchase price. You reduce each asset’s cost by any Section 179 expense you elected for it and by the portion attributable to personal use. Assets fully expensed under Section 179 drop out of the calculation because their remaining depreciable basis is zero.²

Bonus depreciation is different. The test basis is not reduced by the special depreciation allowance, so an asset you plan to fully expense with bonus depreciation still shows up in the calculation at its full cost.

Two categories of property are excluded from the test entirely:¹

Real property subject to the mid-month convention: nonresidential real property, residential rental property, and railroad grading or tunnel bores.
Property placed in service and disposed of in the same tax year. No depreciation is allowed on these assets in any event.²

Property depreciated under the Alternative Depreciation System is not excluded. If the 40% test is triggered, ADS property placed in service that year uses the mid-quarter convention as well.³

How It Changes First-Year Depreciation

Each asset is treated as though placed in service at the midpoint of the quarter it actually arrived. For a 12-month tax year, the first-year depreciation percentages by quarter of placement are:²

Q1: 87.5% of the full annual depreciation (10.5 months of service)
Q2: 62.5% (7.5 months)
Q3: 37.5% (4.5 months)
Q4: 12.5% (1.5 months)

The Q4 figure is the sting. An asset placed in service in the last quarter picks up barely any depreciation in year one.

Worked Example

Take a $100,000 piece of five-year MACRS property. Under the 200% declining balance method, the full first-year rate is 40% of cost, or $40,000 before any convention adjustment.

Placed in service in Q1, the deduction is $35,000 ($40,000 × 87.5%). Placed in service in Q4, the deduction is $5,000 ($40,000 × 12.5%). Same asset, same cost, same recovery period. Quarter of placement alone creates a $30,000 swing in the first year.²

Comparison to the Half-Year Convention

When the 40% test is not triggered, the default for MACRS personal property is the half-year convention. Every asset is treated as placed in service at the midpoint of the tax year regardless of when it actually arrived, so you get six months of depreciation in year one whether the equipment arrived on January 2 or December 30.²

For businesses that concentrate purchases in the fourth quarter, the half-year convention is meaningfully better: six months beats 1.5 months. The mid-quarter convention can actually be slightly better for Q1 assets, where 87.5% exceeds the flat 50%.

Using Section 179 to Stay Under the Threshold

Because Section 179 expense reduces the depreciable basis for purposes of the 40% test, you can use it to keep the ratio below the trigger. If a large fourth-quarter purchase would push you over 40%, electing Section 179 on that asset shrinks its basis in the calculation. Expense the entire cost and the asset drops out of the test.²

For 2025 tax years the Section 179 limit is $2,500,000, adjusted annually for inflation. This planning works best when you are close to the line. Before year-end, total the depreciable bases of everything placed in service, figure out what share the fourth-quarter assets represent, and decide whether a Section 179 election brings the ratio under 40%.

Interaction With Bonus Depreciation

The One Big Beautiful Bill permanently reinstated 100% bonus depreciation for qualified property acquired after January 19, 2025.⁴ Bonus depreciation does not reduce basis for the 40% test. Even if you claim 100% bonus depreciation on a fourth-quarter asset, its full cost still counts.²

In practice, when 100% bonus depreciation absorbs the full cost, the mid-quarter convention has little impact because there is no remaining basis to spread over the recovery period. The convention matters more when you elect out of bonus depreciation, or elect a reduced rate for certain property, because then the MACRS tables and their convention adjustments determine a meaningful part of the deduction.

Depreciation in the Year of Sale

The mid-quarter convention also controls how much depreciation you claim in the year you sell or dispose of the asset. The disposition-year percentages essentially reverse the first-year ones:²

Disposed in Q1: 12.5%
Disposed in Q2: 37.5%
Disposed in Q3: 62.5%
Disposed in Q4: 87.5%

A Q1 sale gives you only 1.5 months of depreciation in the year of disposition; a Q4 sale gives you 10.5 months.

Short Tax Years and Fiscal Years

The rules still apply if your tax year is shorter than 12 months, with modifications. The 40% test works the same way, comparing last-three-months basis to full-year basis. But if the short tax year is three months or less, the mid-quarter convention applies automatically to all applicable property and no 40% test is needed.⁵

For short-year depreciation under the mid-quarter convention, figure depreciation as if you had a full 12-month year, then multiply by a fraction: the number of months (including partial months) the asset is treated as in service during the short year, divided by 12.²

Fiscal-year filers apply the same quarterly percentages, but the quarters are keyed to the fiscal year rather than the calendar. A business with a fiscal year ending June 30 measures the “last three months” as April, May, and June.

Reporting on Form 4562

Report all MACRS depreciation, including any mid-quarter convention calculations, on Form 4562 (Depreciation and Amortization). The instructions walk through the convention determination and require you to indicate which convention applies to each asset or group of assets.⁶ Publication 946 includes MACRS percentage tables that already incorporate the mid-quarter adjustments, so you can use the table for the applicable quarter rather than calculating the adjustment by hand.

1
Office of the Law Revision Counsel. 26 USC 168 – Accelerated Cost Recovery System
2
Internal Revenue Service. Publication 946 (2025), How To Depreciate Property
3
Office of the Law Revision Counsel. 26 US Code 168 – Accelerated Cost Recovery System
4
Internal Revenue Service. Treasury, IRS Issue Guidance on the Additional First Year Depreciation Deduction Amended as Part of the One Big Beautiful Bill
5
eCFR. 26 CFR 1.168(d)-1 – Applicable Conventions, Half-Year and Mid-Quarter Conventions
6
IRS. 2025 Instructions for Form 4562 – Depreciation and Amortization