Mid-month convention definition
/What is the Mid-Month Convention?
The mid-month convention states that all fixed asset acquisitions are assumed to have been purchased in the middle of the month for depreciation purposes. Thus, if a fixed asset was acquired on January 5th, the convention states that you bought it on January 15th; or, if you bought it on January 28, still assume that you bought it on January 15th. Doing so makes it easier to calculate a standard half-month of depreciation for that first month of ownership.
When using the mid-month convention, you should record a half-month of depreciation for the last month of the asset's useful life. By doing so, the two-half month depreciation calculations equal one full month of depreciation.
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Example of the Mid-Month Convention
Failsafe Containment acquires a new warehouse for its nuclear reactor containment vessel production facility on January 27. The price paid for the warehouse is $4 million. As mandated by the IRS, Failsafe’s controller sets the useful life of the facility at 39 years. Using the straight-line depreciation method, this results in an annual depreciation charge of $102,564.10. However, the accountant must adjust this calculation for the mid-month convention, which stipulates that the initial month’s depreciation charge only include a half-month of depreciation, or $4,273.50. This means that the first and last months of depreciation should be for $4,273.50, while the depreciation charge for all other months should be $8,547.00.
Problems with the Mid-Month Convention
There are several issues with the mid-month convention, which are as follows:
Inaccuracy in depreciation calculations. The mid-month convention assumes that all asset transactions occur at the midpoint of the month, which may not accurately reflect real usage or wear and tear. This can result in overstated or understated depreciation expenses in the first and last year of an asset’s life.
Delays depreciation recognition. Many companies prefer to use full-month depreciation in the first month of ownership, irrespective of the actual date of purchase within the month, so that they can slightly accelerate their recognition of depreciation; doing so reduces their taxable income.
Extra complexity. The mid-month convention introduces some complexity to the calculation of depreciation, making it more likely that a calculation error will occur.
For these reasons, the mid-month convention is not frequently used.