1. Accounting for Depreciation
Chapter 9
Part 2 of 4

2. Accounting for Depreciation
Fixed assets other than land lose their ability over time to provide services
Costs of equipment, buildings, and land improvements should be transferred to expense accounts in a systematic manner during their expected useful lives.
DEPRECIATION
Adjusting entry to record depreciation is usually made at the end of each month or at the end of the year Fixed assets other than land lose their ability over time to provide services

3. Adjusting Entry Account Debit Credit Depreciation expense $7,000
Accumulated depreciation - truck
$7,000

4. Depreciation Accumulated depreciation Depreciation expense
Shows the amount that the asset has lost in value since its purchase
Depreciation expense
Shows the amount that the asset has lost in value this period.
Factors that cause a decline the ability of a fixed asset to provide services may be identified as
Physical depreciation
Occurs from the wear and tear while in use and from the action of the weather
Functional depreciation
Occurs when a fixed asset is no longer able to provide services at the level for which it was intended.

5. Factors in Computing Depreciation Expense
The fixed asset’s initial cost
Its expected useful life
Its estimated value at the end of its useful life.

6. Depreciation Methods Straight line Declining balance
Units of production

7. Straight line Method
Provides for the same amount of depreciation expense for each year of the asset’s useful life
Annual depreciation expense =
Cost – Salvage value
Life

8. Example 1
A machine had a cost of $24,000, salvage value of $2,000 and useful life of 5 years
Annual depreciation expense =
Cost – Salvage value
Life
= $24,000 - $2,000
5 years
= $4,400 annual depreciation

9. Adjusting entry Account Debit Credit Depreciation expense $4,400
Accumulated depreciation - truck
$4,400

10. Example 2
A machine had a cost of $30,000, salvage of $5,000 and useful life of 6 years. Compute depreciation under the straight line method?
What is depreciation expense in year 3?

11. Units of Production
This method provides for the same amount of depreciation expense for each unit produced or each unit of capacity used by the asset

12. Units of Production Depreciation rate per unit =
Cost – Salvage value Estimated units
Depreciation Expense =
Depreciation rate x annual units

13. Example 3
A machine had a cost of $24,000, salvage value of $2,000, estimated total hours of production of 10,000 and annual hours used of 2,100 hours. Compute depreciation for the period under the units of production method.

14. Example 3 Depreciation rate per unit = Cost – Salvage value
Estimated hour
= $24,000 - $2,000 = $ ,000 hours
Annual depreciation expense =
Hourly depreciation rate x annual hours
= $2.20 x 10,000 hours = $2,200

15. Example 4
A machine had a cost of $30,000, salvage value of $5,000, estimated total hours in production of 5,000 and annual hours used of 900 hours. Compute the depreciation expense for the period using the units of production method

16. Declining Balance Method
Provides for a declining periodic expense over the estimated useful life of the asset.
Book value
= Cost – Accumulated depreciation

17. Declining Balance Method
Steps
Compute the DB rate = 100/Life of asset
For double declining balance
Multiply rate time 2
Depreciation expense =
Beg. book value X Rate
Rule: the book value may never by less than the salvage value of the asset

18. Example 5: A machine had a cost of $24,000, salvage value of $2,000,
estimated life of five year. Compute depreciation
Year
Cost
Accumulated
Depreciation
Book value at beginning of year
Rate
Book value at end of year 1
$24,000
40%
$9,600
$14,400 2
24,000
9,600
14,400
5,760
8,640 3
15,360
3,456
5,184 4
18,816
2,073.60
3,110.40 5
20,889.60
1,110.40
2,000

19. Example 6
Example 6: A machine had a cost of $30,000, salvage value of $5,000, estimated life of 6 years. Compute depreciation using the double declining balance method.

20. Revision of Depreciation
Revising the estimates of the residual value and the useful life is normal
Used to determine depreciation expense in future periods

21. Example 7
Assumed a fixed asset purchased for $130,000 was originally estimated to have a useful life of 30 years and a residual value of $10,000. The asset has been depreciated for 10 years by the straight line method.
At the end of ten years, the asset’s book value of $90,000. During 11th year, it is estimated that the remaining useful life is 25 years and that the residual value is $5,000.
Compute depreciation expense for the 11th year using the new information provided.

22. Example 7 Depreciation expense= = $130,000-$10,000 30
= $ 4, per year before changes
Accumulated Depreciation balance
=$4,000 X 10 years
= $40,000
Book value
= $130, – $40,000 = $90,000

23. Example 7 New depreciation expense = Book value – new salvage
Remaining life
= ($90,000-$5,000) 25
= $ 3, per year for remaining years

24. Disposal of Fixed Assets
Discarding of Fixed Assets
When asset has no residual value and is fully depreciated.

25. Example 8 Account Debit Credit Accumulated Depreciation $25,000
Asset with a cost of $25,000 and fully depreciated is discarded
Account
Debit
Credit
Accumulated Depreciation
$25,000
Fixed Asset

26. Selling of Fixed Assets
Three things can happen
Sale at book value
No gain or loss
Sale below book value
Loss is recognized
Sale after book value
Gain is recognized

27. Selling at book value Example 9: Account Debit Credit Cash $15,000
Asset with cost of $25,000 and Accumulated Depreciation of $10,000 is sold for $15,000 cash.
Account
Debit
Credit
Cash
$15,000
Accumulated depreciation
$10,000
Fixed Asset
$25,000

28. Selling price above book value
Gain is recognized
Example 10:
Asset with cost $25,000, Accumulated Depreciation of $10,000 is sold for $20,000 cash.
Account
Debit
Credit
Cash
$20,000
Accumulated depreciation
$10,000
Fixed Asset
$25,000
Gain on disposal of asset
$5,000

29. Selling price below book value
Loss is recognized
Example 11: Asset with cost of $25,000, Accumulated Depreciation of $10,000 is sold for $12,000 cash.
Account
Debit
Credit
Cash
$12,000
Accumulated Depreciation
$10,000
Loss on disposal of asset
$3,000
Fixed Asset
$25,000

30. Exchanging Similar Assets
Old equipment is often traded in for new equipment having a similar use.
The seller allows the buyer an amount for the old equipment traded in called TRADE IN ALLOWANCE.
The remaining balance – the amount owed is either paid in cash or recorded as a liability – called BOOT

31. Gain on exchanges Not recognized for financial reporting purposes.
When trade-in allowance exceeds the book value of an asset traded in and no gain is recognized, the cost recorded for the new asset can be determined in either of two ways:
Cost of new asset = List price + Unrecognized gain
Cost of new asset = Cash given + book value of oldNot recognized for financial reporting purposes.

32. Example 12
New equipment is purchased with a list price of $5,000, trade in allowance of old is $1,100, cost of old equipment is $4,000, accumulated depreciation $3,200. Record the entry. New equipment is purchased with a list price of $5,000, trade in allowance of old is $1,100, cost of old equipment is $4,000, accumulated depreciation $3,200. Record the entry.

33. Example 12 Account Debit Credit Fixed Asset – new $800
Accumulated Depreciation
$3,200
Fixed Asset – old
$4,000

34. Losses on Exchange
For financial reporting purposes, losses are recognized on exchanges of similar fixed assets.
If trade in is less than the book value of the old equipment, there is a loss

35. Example 14
New equipment is purchased with a list price of $5,000, trade in allowance of old is $700, cost of old equipment is $4,000, accumulated depreciation $3,200. Record the entry.
Account
Debit
Credit
Fixed Asset – new
$700
Accumulated Depreciation
$3,200
Loss on exchange of asset
$100
Fixed Asset – old
$4,000