Depreciation Methods

Declining balance method of depreciation is a technique of accelerated depreciation in which the amount of depreciation that is charged to an asset declines over time. In other words, more depreciation is charged during the beginning of the lifetime and less is charged during the end.

The reason for a declining amount of depreciation charged is that assets are usually more productive when they are new and their productivity declines gradually. Thus, in the early years of their operation, assets generate more revenue as compared to the revenue generated in later years of their life.

Formula and Calculation Procedure

Declining balance depreciation is calculated using the following formula:

Depreciation = Depreciation Rate × Book Value of Asset

Depreciation rate is given by the following formula:

Depreciation Rate = Accelerator × Straight Line Rate

In the above formula, accelerator is a multiplication factor, which accelerates depreciation. Book value is the difference between cost of an asset and its accumulated depreciation. During the first accounting period, accumulated depreciation is zero, so book value is equal to cost. Since the book value decreases after each depreciation charge, depreciation expense declines in successive charges.

Depreciation is charged according to the above method as long as book value is greater than the salvage value of the asset. No more depreciation is provided when book value equals salvage value.

Single line (or Straight line) depreciation is the default method used to gradually reduce the carrying amount of a fixed asset over its useful life. The method is designed to reflect the consumption pattern of the underlying asset, and is used when there is no particular pattern to the manner in which the asset is to be used over time.

1. Under the straight-line method of depreciation, depreciation occurs evenly over the estimated useful life of an asset. The straight-line calculation steps are:
2. Determine the initial cost of the asset that has been recognized as a fixed asset.
3. Subtract the estimated salvage value of the asset from the amount at which it is recorded on the books.
4. Determine the estimated useful life of the asset. It is easiest to use a standard useful life for each class of assets.
5. Divide the estimated useful life (in years) into 1 to arrive at the straight-line depreciation rate.
6. Multiply the depreciation rate by the asset cost (less salvage value).

Pensive Corporation purchases the Procrastinator Deluxe machine for $60,000. It has an estimated salvage value of $10,000 and a useful life of five years. Pensive calculates the annual straight-line depreciation for the machine as:

• Purchase cost of $60,000 – estimated salvage value of $10,000 = Depreciable asset cost of $50,000
• 1 / 5-year useful life = 20% depreciation rate per year
• 20% depreciation rate x $50,000 depreciable asset cost = $10,000 annual depreciation

The sum-of-years digits depreciation method is an accelerated method of depreciation that calculates depreciation using the following equation:

where,

cost = initial cost of the asset (at start of period 1)

salvage = final value of the asset at the end of its lifetime

life = number of periods over which the depreciation occurs

per = the period for which the depreciation is being calculated

Straight line is the sum of capital costs and number of periods.

Annual (Straight Line) Depreciation Rate DSL = (V-S)/(V*L)