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.
DEPRECIATION Chapter Seventeen McGrawHill/Irwin Copyright © 2014 by The McGrawHill Companies, Inc. All rights reserved Learning unit objectives LU 17-1: Concepts of Depreciation and the Straight-Line Method Explain the concept and causes of depreciation Prepare a depreciation schedule and calculate partial-year depreciation LU 17-2: Units-of-Production Method Explain how use affects the units-of-production method Prepare a depreciation schedule LU 17-3: Declining-Balance Method Explain the importance of residual value in the depreciation schedule Prepare a depreciation schedule LU 17-4: Modified Accelerated Cost Recovery System (MACRS) with Introduction to ACRS Explain the goals of ACRS and MACRS and their limitations Calculate depreciation using the MACRS guidelines 172 Accounting equation and Balance Sheet Accounting Equation: Assets = Liabilities + Owner’s Equity Balance Sheet: Gives a financial picture of what a company is worth as of particular date = Assets (How much the company owns) Liabilities + Owner’s Equity (How much (How much the owner the company is worth) owes) 173 Concept of Depreciation Asset Cost – Depreciation – Amount paid for an asset including freight charges An estimate of the use or deterioration of an asset Estimated Useful Life – Accumulated Depreciation – Number of years or time periods for which the company can use the asset The total amount of the asset’s depreciation taken to date 174 Concept of Depreciation Book Value - The unused amount of the asset cost that may be depreciated in future accounting periods Book value = Asset cost Accumulated book value Residual Value (Salvage Value) - Expected cash value at the end of an asset’s useful life Book value cannot be less than residual value 175 Causes of Depreciation Product Obsolescence Physical Deterioration 176 Straight-Line Method Distributes the same amount of expense to each period of time Depreciation expense each year = Cost Residual value Estimated useful life in years Example: 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 years the residual value is $500 Calculate depreciation expense and complete a depreciation schedule $2,500 $500 = $400 100% = 100% = 20% # of yrs 177 Depreciation Schedule 178 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? 15th Rule Depreciation expense each year = Cost Residual value Estimated useful life in years $2,500 $500 = $400 x 12 = $266.67 May, June, July, Aug, Sept., Oct., Nov., & Dec 179 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 Depreciation = Unit amount depreciation x Units produced Example: 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 years the residual value is $500 Calculate depreciation expense and complete a depreciation schedule 1710 Depreciation Schedule 1711 Declining-Balance Method Accelerated method which computes more depreciation expense in the early years of the asset’s life Uses up to twice the straight-line rate Rate = 100% x = 40% years Depreciation expense = each year Book value of equipment x Depreciation at beginning of year rate Example: 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 years the residual value is $500 Calculate depreciation expense and complete a depreciation schedule 1712 Depreciation Schedule 1713 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 1714 Key points of MACRS It calculates depreciation for tax purposes It ignores residual value 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 months of the taxable year.) Classes 3, 5, 7, and 10 use a 200% declining-balance method for a period of years before switching to straight-line depreciation You not have to determine the year in which to switch since Table 17.6 builds this into the calculation Classes 15 and 20 use a 150% declining-balance method before switching to straight-line depreciation Classes 27.5 and 31.5 use straight-line depreciation 1715 Modified Accelerated Cost Recovery System (MACRS) (Table 17.4) 1716 Annual Recovery for MACRS (Table 17.5) Recovery 3-year class year (200% D.B.) 10 11 12 13 14 15 16 33.00 45.00 15.00 7.00 5-year class (200% D.B.) 7-year class (200% D.B.) 10-year class (200% D.B.) 15-year class (150% D.B.) 20-year class (150% D.B.) 20.00 32.00 19.20 11.52 11.52 5.76 14.28 24.49 17.49 12.49 8.93 8.93 8.93 4.46 10.00 18.00 14.40 11.52 9.22 7.37 6.55 6.55 6.55 6.55 3.29 5.00 9.50 8.55 7.69 6.93 6.23 5.90 5.90 5.90 5.90 5.90 5.90 5.90 5.90 5.90 3.00 3.75 7.22 6.68 6.18 5.71 5.28 4.89 4.52 4.46 4.46 4.46 4.46 4.46 4.46 4.46 4.46 1717 Depreciation Schedule 1718 ... LU 1 7-1 : Concepts of Depreciation and the Straight-Line Method Explain the concept and causes of depreciation Prepare a depreciation schedule and calculate partial-year depreciation LU 1 7-2 : Units-of-Production... partial-year depreciation LU 1 7-2 : Units-of-Production Method Explain how use affects the units-of-production method Prepare a depreciation schedule LU 1 7-3 : Declining-Balance Method Explain the importance... Recovery 3-year class year (200% D.B.) 10 11 12 13 14 15 16 33.00 45.00 15.00 7.00 5-year class (200% D.B.) 7-year class (200% D.B.) 10-year class (200% D.B.) 15-year class (150% D.B.) 20-year class