Lecture Practical business math procedures (11/e) - Chapter 17: Depreciation

Lecture Practical business math procedures (11/e) - Chapter 17: Depreciation. The main contents of this chapter include all of the following: Concepts of depreciation and the straight-line method, units-of-production method, declining-balance method, modified accelerated cost recovery system (MACRS) with introduction to ACRS.

Chapter Seventeen

1. Explain the concept and causes of depreciation.

2. Prepare a depreciation schedule and calculate partial-year

depreciation

LU 17-1: Concepts of Depreciation and the Straight-Line Method

Learning unit objectives

LU 17-2: Units-of-Production Method

1. Explain how use affects the units-of-production method

2. Prepare a depreciation schedule

LU 17-3: Declining-Balance Method

1. Explain the importance of residual value in the depreciation schedule

2. Prepare a depreciation schedule

LU 17-4: Modified Accelerated Cost Recovery System (MACRS)

with Introduction to ACRS

1. Explain the goals of ACRS and MACRS and their limitations

Accounting equation and

Balance Sheet

Balance Sheet: Gives a financial picture of what a company is worth as

of particular date

=

(How much the

company owns)

(How much the owner (How much

the company

Accounting Equation: Assets = Liabilities + Owner’s Equity

Estimated Useful Life –

Number of years or time periods

for which the company can use

the asset

Depreciation –

An estimate of the use or deterioration of an asset

Asset Cost –

Amount paid for an asset including

freight charges

Concept of Depreciation

Accumulated Depreciation –

The total amount of the asset’s depreciation taken to date

Residual Value (Salvage Value) - Expected cash value at the end of an asset’s

useful life

Concept of Depreciation

Book Value - The unused amount of the asset cost that may be depreciated in

future accounting periods

Book value cannot be less than residual value

Book value = Asset cost Accumulated book value

Causes of Depreciation

Straight-Line Method

Distributes the same amount of expense to each period of time.

Depreciation expense = Cost Residual value

each year Estimated useful life in years

Ajax Company buys equipment, the company estimates how many units

the equipment can produce Let’s assume the equipment has a useful life

of 4,000 units After 5 years the residual value is $500 Calculate

depreciation expense and complete a depreciation schedule

$2,500 $500

# of yrs 5

Example:

Depreciation Schedule

Depreciation for Partial Years

Assume Ajax Company bought equipment for $2,500 The

estimated useful life is five years The residual value is $500

What would be depreciation for the first year?

Depreciation expense each year =

$2,500 $500 = 5

15th Rule

May, June, July, Aug, Sept., Oct., Nov., & Dec

Cost Residual value Estimated useful life in years

$400 x 8 = $266.67

12

Units-of-Production Method

Depreciation determined by how much the company uses the asset.

Depreciation expense = Cost Residual value

per unit Total estimated units produced

Ajax Company (in Learning Unit 17–1) buys equipment, and the company estimates how many units the equipment can produce Let’s assume the

equipment has a useful life of 4,000 units After 5 years the residual value

is $500 Calculate depreciation expense and complete a depreciation

Depreciation = Unit x Units amount depreciation produced

Example:

Depreciation Schedule

Rate = 100%

5 years

Ajax Company (in Learning Unit 17–1) buys equipment, and the company

estimates how many units the equipment can produce Let’s assume the

equipment has a useful life of 4,000 units After 5 years the residual value is $500

Depreciation expense = Book value of equipment x Depreciation

each year at beginning of year rate

Accelerated method which computes more depreciation expense in the

early years of the asset’s life Uses up to twice the straight-line rate.

Declining-Balance Method

x 2 = 40%

Example:

Depreciation Schedule

Modified Accelerated Cost Recovery

System (MACRS)

• Federal tax laws state how depreciation must be taken for income tax

purposes

• Provides users with tables giving the useful lives of various assets and the

depreciation rates

Key points of MACRS

1 It calculates depreciation for tax purposes

2 It ignores residual value

3 Depreciation in the first year (for personal property) is based on the assumption that the asset was purchased halfway through the year (A new law adds a

midquarter convention for all personal property if more than 40% is placed in

service during the last 3 months of the taxable year.)

4 Classes 3, 5, 7, and 10 use a 200% declining-balance method for a period of

years before switching to straight-line depreciation You do not have to determine the year in which to switch since Table 17.6 builds this into the calculation

5 Classes 15 and 20 use a 150% declining-balance method before switching to

straight-line depreciation

6 Classes 27.5 and 31.5 use straight-line depreciation

Modified Accelerated Cost Recovery System

(MACRS) (Table 17.4)

Annual Recovery for MACRS

(Table 17.5)

Depreciation Schedule