Depreciation Methods
Depreciation Methods
Depreciation is the accounting process of allocating the cost of tangible assets to expense in a systematic and rational manner to those periods expected to benefit from the use of the asset.
Factors Involved in the Depreciation Process
1. What depreciable base is to be used for the asset?
2. What is the asset’s useful life?
3. What method of cost apportionment is best for the asset?
Depreciable Base for the Asset
The base established for depreciation is a function of two factors: the original cost, and the salvage or disposal value. Salvage value is the estimated amount that the company will receive when it sell the asset or removes it from service. It is the amount to which the company writes down or depreciates the asset during its useful life.
Example:
An asset is purchased for $10,000. The company believes that it has a salvage value of $1,000.
Original cost $10,000
Less: Salvage value 1,000
Depreciation base $ 9,000
Methods of Depreciation
The accounting profession requires that the depreciation method employed be “systematic and rational.” The following are examples of depreciation methods:
1. Activity method (units of use or production)
2. Straight-line method
3. Decreasing charge methods (accelerated):
a. Sum-of-the-years’ digits
b. Declining-balance method
The following information will be used to illustrate each of the above methods:
Stanley Coal Mines recently purchased an additional crane for digging purposes.
Cost of crane $500,000
Estimated useful life 5 years
Estimated salvage value $50,000
Productive life in hours 30,000 hours
Activity Method
The activity method (also called the variable-charge or units-of-production approach) assumes that depreciation is a function of use or productivity, instead of the passage of time. A company considers the life of the asset in terms of either the output if provides (units it produces), or an input measure such as number of
Depreciation is the accounting process of allocating the cost of tangible assets to expense in a systematic and rational manner to those periods expected to benefit from the use of the asset.
Factors Involved in the Depreciation Process
1. What depreciable base is to be used for the asset?
2. What is the asset’s useful life?
3. What method of cost apportionment is best for the asset?
Depreciable Base for the Asset
The base established for depreciation is a function of two factors: the original cost, and the salvage or disposal value. Salvage value is the estimated amount that the company will receive when it sell the asset or removes it from service. It is the amount to which the company writes down or depreciates the asset during its useful life.
Example:
An asset is purchased for $10,000. The company believes that it has a salvage value of $1,000.
Original cost $10,000
Less: Salvage value 1,000
Depreciation base $ 9,000
Methods of Depreciation
The accounting profession requires that the depreciation method employed be “systematic and rational.” The following are examples of depreciation methods:
1. Activity method (units of use or production)
2. Straight-line method
3. Decreasing charge methods (accelerated):
a. Sum-of-the-years’ digits
b. Declining-balance method
The following information will be used to illustrate each of the above methods:
Stanley Coal Mines recently purchased an additional crane for digging purposes.
Cost of crane $500,000
Estimated useful life 5 years
Estimated salvage value $50,000
Productive life in hours 30,000 hours
Activity Method
The activity method (also called the variable-charge or units-of-production approach) assumes that depreciation is a function of use or productivity, instead of the passage of time. A company considers the life of the asset in terms of either the output if provides (units it produces), or an input measure such as number of