Presentation on theme: "Accounting for Depreciation"— Presentation transcript:
1 Accounting for Depreciation Chapter 9Part 2 of 4
2 Accounting for Depreciation Fixed assets other than land lose their ability over time to provide servicesCosts of equipment, buildings, and land improvements should be transferred to expense accounts in a systematic manner during their expected useful lives.DEPRECIATIONAdjusting 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
4 Depreciation Accumulated depreciation Depreciation expense Shows the amount that the asset has lost in value since its purchaseDepreciation expenseShows 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 asPhysical depreciationOccurs from the wear and tear while in use and from the action of the weatherFunctional depreciationOccurs 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 costIts expected useful lifeIts estimated value at the end of its useful life.
6 Depreciation Methods Straight line Declining balance Units of production
7 Straight line MethodProvides for the same amount of depreciation expense for each year of the asset’s useful lifeAnnual depreciation expense =Cost – Salvage valueLife
8 Example 1A machine had a cost of $24,000, salvage value of $2,000 and useful life of 5 yearsAnnual depreciation expense =Cost – Salvage valueLife= $24,000 - $2,0005 years= $4,400 annual depreciation
10 Example 2A 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 ProductionThis 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 unitsDepreciation Expense =Depreciation rate x annual units
13 Example 3A 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 hoursAnnual depreciation expense =Hourly depreciation rate x annual hours= $2.20 x 10,000 hours = $2,200
15 Example 4A 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 StepsCompute the DB rate = 100/Life of assetFor double declining balanceMultiply rate time 2Depreciation expense =Beg. book value X RateRule: 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 depreciationYearCostAccumulatedDepreciationBook value at beginning of yearRateBook value at end of year1$24,00040%$9,600$14,400224,0009,60014,4005,7608,640315,3603,4565,184418,8162,073.603,110.40520,889.601,110.402,000
19 Example 6Example 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 normalUsed to determine depreciation expense in future periods
21 Example 7Assumed 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 changesAccumulated Depreciation balance=$4,000 X 10 years= $40,000Book 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 AssetsWhen 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 discardedAccountDebitCreditAccumulated Depreciation$25,000Fixed Asset
26 Selling of Fixed Assets Three things can happenSale at book valueNo gain or lossSale below book valueLoss is recognizedSale after book valueGain 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.AccountDebitCreditCash$15,000Accumulated depreciation$10,000Fixed Asset$25,000
28 Selling price above book value Gain is recognizedExample 10:Asset with cost $25,000, Accumulated Depreciation of $10,000 is sold for $20,000 cash.AccountDebitCreditCash$20,000Accumulated depreciation$10,000Fixed Asset$25,000Gain on disposal of asset$5,000
29 Selling price below book value Loss is recognizedExample 11: Asset with cost of $25,000, Accumulated Depreciation of $10,000 is sold for $12,000 cash.AccountDebitCreditCash$12,000Accumulated Depreciation$10,000Loss on disposal of asset$3,000Fixed 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 gainCost of new asset = Cash given + book value of oldNot recognized for financial reporting purposes.
32 Example 12New 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$3,200Fixed Asset – old$4,000
34 Losses on ExchangeFor 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 14New 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.AccountDebitCreditFixed Asset – new$700Accumulated Depreciation$3,200Loss on exchange of asset$100Fixed Asset – old$4,000