FIXED ASSET

12-Jul-19  They could be machines, plants, properties, etc Chapter  Compute depreciation, using the following methods: straight – line method, units-ofproduction method, and declining-balance method  Journalise entries for the disposal of fixed assets  Describe how depreciation expense is reported in a profit and loss statement, and prepare a balance sheet that includes fixed assets  Main  Fixed  Assets of Fixed Assets  Depreciation  Accounting for Depreciation  Disposal of Fixed Assets  Financial Reporting for Fixed Assets  Purchase characteristics: • Permanent • Duration Used to earn Revenue Fixed assets maybe purchase with cash, bank or on credit (on account)  Dr Fixed Assets • Cr Cash/Bank/Account payable 12-Jul-19  As time passes, fixed assets (except land) lose their ability to provide useful services In other words, when they get older, they may spoil, and not work as well as before  Depreciation: • Decrease in usefulness Fixed asset’s cost Residual value Depreciation Cost Recorded as expenses  Fixed assets are presented on the BS at their Net Book Value (Cost of Fixed Assets – Accumulated Depreciation)  Three methods of depreciation: Straight-line Units-of-production Declining-balance  Fixed asset’s cost: all amounts spent to get it to the business’ premises and ready for use  Expected useful life: how long the fixed asset can be used by the business  Residual value: what the fixed asset item is worth at the end of its expected useful life 12-Jul-19  This method provides for the same amount of depreciation expense for each year of the asset’s useful life  This method is used when the usage of fixed asset varies from year to year  The idea is that the more depreciation should be recorded when the machine is used for more hours (or for more units produced) Depreciation Cost Annual Depreciation Expense Estimated useful Life  Example: • Assume that the cost of an asset is $40,000, its estimated residual value is $4,000, and its estimated life is 10 years  The useful life of fixed asset is now expressed in terms of estimated number of hours used or estimated number of units produced • Annual Depreciation Expense = ???????? Depreciation Cost Depreciation For a unit-ofproduction  The amount of depreciation could be calculated for less than one accounting period  Example: • An asset is bought at cost of $40,000 on 1st of March 20X0, its estimated residual value is $4,000, and its estimated life is 10 years What is its depreciation expense for the year ended on 31st December 20X0? Estimated Number of hours used (or estimated number of units produced)  Example: • A machine with a cost of $100,000 and an estimated residual value of $5,000 is expected to produce 200,000 units during its useful life time What is the depreciation expense of this machine? Given that, during the accounting period, this machine produced 35,000 units 12-Jul-19  This methods provides for a declining (reducing) depreciation expense over the useful life of the asset  The highest amount of depreciation is recorded on the first year  Depreciation amount: • For the first year = cost of asset X declining- balance rate • After the first year = the net book value X declining-balance rate Year Cost (A) $40,000 $40,000 Accum Depre (B) Open Net Book Value (C=A - B) Rate (D) Depre Close Net for Year Book (E=C*D) Value (F= C – E) $40,000 40% $16,000 $24,000 $16,000 $24,000 40% $9,600 $14,400 $40,000 $25,600 $14,400 40% $5,760 $8,640 $40,000 $31,360 $8,640 40% $3,456 $5,184 $40,000 $34,816 $5,184 $1,184 $4,000  When fixed assets are no longer used: • Discarded (thrown away) • Sold • Traded in (exchanged)  Accounting treatment for above situation?  Example:  The fixed asset could be fully depreciated • the cost of an asset is $40,000, its estimated residual value is $4,000, and its estimated life is years Declining-balance rate is 40% Compute the depreciation for this asset Assume that the asset is purchased at the beginning of the year Dr Accumulated Depreciation Cr Fixed Asset 12-Jul-19  Example: • Assume that equipment costing $20,000 is  If the fixed asset is not fully depreciated depreciated at a straight-line rate of 10% In addition, assume that accumulated depreciation at the beginning of 20X0 is $5,000 and the asset is sold on 30th June 20X0  Remember: • To calculate and include depreciation for the period prior to removing date • The net book value would be recorded as Loss on Disposal of Fixed Assets Dr Depreciation Expense Cr Accumulated Depreciation Dr Accumulated Depreciation Dr Loss on Disposal of FA Cr Fixed Asset  Example: • Assume that equipment costing $20,000 is depreciated at a straight-line rate of 10% In addition, assume that accumulated depreciated at the beginning of 20X0 is $5,000 and the asset is discarded on 30th June 20X0 • How would this transaction be recorded on 30th June 20X0?  If the selling price: < Net Book Value: Make a loss = Net Book Value: No gain no loss > Net Book Value: Make a profit  And as always, take off the Accumulated Depreciation • How would this transaction be recorded if:  Selling price is $12,000  Selling price is $14,000  Selling price is $16,000 Step 1: Determine the depreciation expense prior selling point Depreciation = (6/12*$20,000*10%)= $1,000 Step 2: Find the Net Book Value of the equipment: Net Book Value = $20,000 – ($5,000 + $1,000) = $14,000 Step 3: Compare NBV with selling price and record the transaction Selling price is $12,000 < NBV: make a loss ($14,000 - $12,000 = $2,000) Dr Cash $12,000 Dr Accumulated Depreciation $6,000 Dr Loss on Disposal $2,000 Cr Equipment $20,000 12-Jul-19 Selling price is $14,000 = NBV: no gain or loss ($14,000 - $14,000 = $0) Dr Cash $14,000 Dr Accumulated Depreciation $6,000 Cr Equipment $20,000  Example: • Assume that equipment costing $20,000 is depreciated at a straight-line rate of 10% In addition, assume that accumulated depreciated at the beginning of 20X0 is $17,000 • The equipment will be traded in for a new equipment (cost $15,000, cash pay) on 1st Jan 20X0 and receive a trade-in allowance • How this transaction would be recorded if the trade-in allowance:  A) $2,000  B) $4,000 • A) Trade-in allowance is $2,000 Selling price is $16,000 > NBV: make a profit ($16,000 - $14,000 = $2,000) Dr Cash $16,000 Dr Accumulated Depreciation $6,000 Cr Equipment $20,000 Cr Profit on Disposal $2,000 New equipment Trade-in allowance Cash paid $15,000 $ 2,000 $13,000 Old equipment Accumulated depreciation NBV Trade-in allowance Loss on exchange $20,000 $17,000 $ 3,000 $ 2,000 $ 1,000  Old • A) Trade-in allowance is $2,000 equipment could be traded in for new equipment Seller allows the buyer an amount for the old equipment traded in  This amount is called the trade-in allowance In addition, trade-in allowance could be > or < NBV of the old equipment Dr Accumulated Depreciation Dr New Equipment Dr Loss on Exchange Cr Old Equipment Cr Cash $17,000 $15,000 $ 1,000 $20,000 $13,000 12-Jul-19 • B) Trade-in allowance is $4,000 > NBV of old equipment: No gain is recognised for the exchange However, this unrecognised gain could be used to reduce the cost of new equipment Old equipment Accumulated depreciation NBV $20,000 $17,000 $ 3,000 New equipment (List price) Unrecognised gain (4,000-3,000) Cost of new equipment $15,000 $ 1,000 $14,000 • B) Trade-in allowance is $4,000 Dr Accumulated Depreciation Dr New Equipment Cr Old Equipment Cr Cash (15,000 – 4,000) $17,000 $14,000 $20,000 $11,000  PL: • Depreciation expense • Profit/Loss on Disposal of Fixed Assets  BS: • Fixed Assets Cost • Accumulated Depreciation