not resulting from exhaustion, wear and tear or obsolescence. The proper allowance for such depreciation of any property used in the trade or business is that amount which should be set aside for the taxable year in accordance with a consistent plan by which the aggregate of such amounts for the useful life of the property in the business will suffice, with the salvage value, at the end of such useful life to provide in place of the property its cost, or its value as of March 1, 1913, if acquired by the taxpayer before that date. .. (Art. 161.)

It is proper that taxpayers should adopt a consistent plan and they should adhere to it until actual conditions call for a change. If it is calculated that machinery depreciates a given percentage under certain conditions, it is not inconsistent to change the percentage when conditions change.

Property depreciated must not be for personal use.

REGULATION. . . . . The deduction of an allowance for depreciation is limited to property used in the taxpayer's trade or business. . . . . (Art. 162.)

To quote the language of the Primer," "depreciation in the value of a home or any article of property, such as automobiles, used for personal pleasure or convenience, cannot be claimed; the property must be used for the purpose of producing income." In the case of the farmer the regulations expressly permit depreciation on all farm buildings "other than a dwelling occupied by the owner."

Depreciation of residence.-When a residence is used part of the year by the owner and is rented for part of the year, depreciation will be an allowable deduction for the period of the year when used for income-producing purposes. The depreciation is not necessarily based on the proportion of time during which the property is rented, as the actual depreciation during such time may be greater than during the time of occupancy by the owner. If the taxpayer owns a summer cottage and rents it for three months during the summer and

"Income Tax Primer, 1918, question 99,

Art. 171, see Chapter XXXVI,

occupies it personally during one month, it may be that the entire annual depreciation should be deducted as the facts would indicate that the property as a whole is held for income-producing purposes and the occupancy by the owner for a short period is merely incidental. The test, however, would be the actual circumstances in each case.

REGULATION.

No such allowance may be made in respect of . . . . building used by the taxpayer solely as his residence, nor in respect of furniture or furnishings therein, personal effects, or clothing; . . . . (Art. 162.)

Property which may be depreciated."—

REGULATION. The necessity for a depreciation allowance arises from the fact that certain property used in the business gradually approaches a point where its usefulness is exhausted. The allowance should be confined to property of this nature. In the case of tangible property, it applies to that which is subject to wear and tear, to decay or decline from natural causes, to exhaustion, and to obsolescence due to the normal progress of the art or to becoming inadequate to the growing needs of the business. It does not apply to inventories or to stock in trade; nor to land apart from the improvements or physical development added to it. It does not apply to bodies of minerals which through the process of removal suffer depletion, other provision for this being made in the statute. . . . . (Art. 162.)

Replacements and renewals must not be twice deducted." -Expenditures for the upkeep of property range by imperceptible gradations from the most insignificant repairs to the

'For depreciation of land, see page 719.

For depreciation of farm buildings, equipment and livestock, see Chapter XXXVI, "Farmers."

[British Practice] The following general instructions governing replacements and renewals have been issued by the Inland Revenue Department of Great Britain:

"In all cases where depreciation allowances are granted, renewals, if charged against revenue, shall be carefully distinguished and notified to the surveyor in order that they may be added back to profits for the purpose of arriving at the income tax liability.

"If new works are erected, wholly or partially, on a new site, in place of old works abandoned or demolished, a reasonable allowance shall be granted for renewals in respect of the displaced plant, so far as it is actually renewed, such allowance to have regard to the original cost of the displaced plant, less any depreciation that may have been

replacement of the largest and most costly units. The law, of course, intends that all such expenditures shall be deducted, but the necessity arises of distinguishing between those which shall be deducted annually as expenses and those for which provision shall be made through cumulative depreciation allowances. In making this distinction, care must be taken to avoid the double deduction of expenses. The problem is complicated by the fact that, minor repairs are made upon the most expensive machines. While theoretically it may be conceivable that depreciation rates might under some conditions be so delicately adjusted as to provide completely and perfectly for the entire upkeep of a machine or other piece of property, as a practical matter it is so difficult as to be impossible. The accountant's solution is to draw a somewhat arbitrary line between the small incidental items of repair, replacement and maintenance and the heavy items of renewal and replacement, charging the first group to expense and the second to depreciation reserves. The depreciation rates are calculated with this assumption in mind and consequently depreciation reserves should be kept free from charges except those for unquestioned renewals or replacements of major parts. The regulations satisfactorily cover this point in the following

statement.

REGULATIONS.

....

Property kept in repair may, nevertheless, be the subject of a depreciation allowance. (Art. 162.)

granted, but such allowance shall not include the cost of preparing the new site or erecting foundations for the new plant.

"All renewals of parts which do not destroy the identity of the original article shall be allowed as repairs, except so far as they constitute an extension, enlargement, or other similar improvement in value.

"Where renewals are allowable under this scheme in lieu of depreciation, they shall be allowed notwithstanding that the cost thereof may not have been debited in the company's accounts against

revenue.

"Written down value means original prime cost, plus subsequent additions (including renewals which have not been allowed for income tax purposes) less all allowances actually granted for income tax purposes in past years in respect of depreciation.

"Expenditure includes the sum expended on materials, labor, and incidentals."

The cost of incidental repairs which neither materially add to the value of the property nor appreciably prolong its life, but keep it in an ordinarily efficient operating condition, may be deducted as expense, provided the plant or property account is not increased by the amount of such expenditures. Repairs in the nature of replacements, to the extent that they arrest deterioration and appreciably prolong the life of the property, should be charged against the depreciation reserve. .. (Art. 103.)

Closely related to this question is the treatment of expenditures for making improvements. This is discussed in the following decision of a United States Circuit Court which holds that improvements not permanent in character are deductible as expense:

DECISION. Amounts expended by a business corporation in enlarging or making improvements in its office or premises, not in the nature of permanent improvements to the property, but to facilitate the transaction of a growing business, should properly be deducted as necessary expenses of the business. (Connecticut Mutual Life Insurance Co. v. Eaton, 223 Fed. 1022, 1915.)

The principle outlined in the law and regulations appears to be clear, but considerable difficulty has arisen in its application because of the refusal of revenue inspectors to allow in some cases for both repairs and depreciation, on the ground that the former included the latter. The practice is not uniform, the inspectors frequently differing in their interpretation of charges which may be repairs or may be renewals. Naturally, they incline to the conclusion that where there is a doubt, the expenditure is a charge against the reserve, but good business practice requires that in case of doubt the repairs be charged to operating expenses. The true issue is merely the avoidance of a double charge against income.

Inspectors have been known to hold that where a part of a machine which must be replaced frequently, such as a shuttle or a bobbin, forming part of a loom, wears out or breaks, the replacement of such part should be charged against depreciation reserve, as this is intended to cover "deterioration of property on account of its use, wear and tear." In some concerns parts of this sort are termed "supplies," and

as such are charged directly to cost of manufacturing. Upon the original acquisition of a loom, its entire cost, including installation of every part and action, ready to run, is charged to capital. The same rule applies to a sewing machine. First cost would include a machine equipped with needles, but it is not customary to set up a depreciation reserve for the renewal of needles. As purchased they are charged to supplies, or some similar account, and, subject to stock on hand at the beginning and end of the period, all purchases are charged to cost of manufacture, and not to repairs. There is a slight error here which is too trivial to consider in practice, but one that evidently worries some inspectors. It is, that the renewal of a needle, costing perhaps one-tenth of one cent, should be charged to depreciation reserve, instead of supplies, because the first cost of the sewing machine was charged to plant. But this would be an impossible procedure, as renewals of this character are frequent. Therefore, the only error lies in the fact that a small part of the machine, assumed to have a life of, say, ten years, may have been renewed from time to time up to the end of the useful life of the machine. Accountants must disregard such fine distinctions.

Some manufacturing plants and mills produce in their own shops various parts of looms and other machines used to manufacture the principal products of the mills. These parts range from the largest to the smallest unit of each machine, so that over a period of years the looms are continually being renewed, particularly where the policy of the mill management is to maintain the plant at the peak of operating efficiency.

In such cases complete analyses of the cost records should be kept to distinguish replacement items from those which are "incidental repairs."

CERTAIN REPAIRS ARE PROPERLY CAPITAL EXPENDITURES. -Although it is an accepted rule that repairs and all other expenses of maintenance should be charged against profit and loss, an exception to this rule is found in cases where partly