There are two basic methods of depreciation to choose from when depreciating an asset. These methods include Straight-line, and Declining Balance at either 200% or 150%. Choosing among these methods depends on how a company wishes to receive depreciation expenses.
The Straight-Line method is generally the most commonly used method due to its simplicity and consistency of allocating depreciation evenly over the useful life of the asset. To calculate depreciation under this method, the Cost of the Asset is reduced by the salvage or residual value to arrive at the depreciable basis. The resulting depreciable basis is then divided by the estimated useful life.
The Double Declining Balance (200% Declining Balance) method is also commonly used, as it follows the same principles as the straight-line method, but does so at twice the rate. Thus, if an asset has an estimated useful life of 4 years, straight-line depreciation would be at an average annual rate of 25%. However, under this method, a 50% rate would be used. This would be done each year until depreciation under this method is lesser than it would be under the straight line method.
Use of a 150% Declining Balance method follows the same principle as the 200% Declining Balance method, except uses 1.5 times the straight-line rate. Thus, an average annual rate of 25% under straight-line would become 37.5% under 150% declining balance.
While the use of salvage or residual value is discussed here, please note that salvage or residual value are only used for Generally Accepted Accounting Principles (GAAP) and are not allowed for federal tax.
Choosing any of these accelerated methods has the benefit of receiving more depreciation benefits during the beginning of the asset’s useful life at the cost of receiving less later on. However, many feel that this is more appropriate as the asset is most valuable and usable during the early stages of its life.
Here is a numerical example to illustrate the accelerated effect of double declining balance vs straight line depreciation. For this example, consider an asset that was purchased for $1,000 with a useful life of five years. Below are the values of depreciation determined for the five years of the asset’s life based on the two different methods:
What method(s) do you use? We would be happy to hear what methods your company uses and any reasoning behind it.
More information about Bassets eDepreciation software can be found at Bassets.net. While there you can set up a demonstration, download a free evaluation copy and get a personalized pricing estimate.