introduction to depreciation with the reference of international accounting standard

Depreciation is a fundamental accounting concept that represents the reduction in the value of a tangible fixed asset over its useful life. It allocates the cost of an asset over the period it is used, reflecting wear and tear, obsolescence, or other factors that decrease its value. Depreciation is essential for accurate financial reporting, tax calculations, and asset management.

1. DEPARTMENT OF
BUSINESS
ADMINISTRATION

2. •Department: Business Administration
•Subject: Financial Accounting І
•Instructor: Sonia Hassan
•Topic: Basic Principles of Calculating and Recording
Depreciation of Tangible Non-Current Assets
•Recommended books:
Jerry. J, Weygandt, Paul D. Kimmel and Donald E. Kieso
Accounting Principles.
Frankwood, Business Accounting, Volume-1
•Lecture no: 12
•Week no: 12
•Contact # : watsapp no. 03226649376

3. Content covered in this Lecture
•Methods of Measuring and Recording of
Depreciation

4. Depreciation
•Definition
–The allowance for wear and tear on equipment and
machinery
–Amount of decreasing value in a capital asset allowed to
be deducted from a business tax return.

5. Depreciation Terminology
© 2012 by McGraw-Hill All Rights
Reserved
16-5
Book (noncash) methodto represent decrease in value of a
tangible asset over time
Two types: book depreciation and tax depreciation
Book depreciation: used for internal accounting to track value of assets
Tax depreciation: used to determine taxes due based on tax laws
In USA only,tax depreciation must be calculated using MACRS;
book depreciation can be calculated using any method

6. When depreciation begins & ends?
•Begins
–When you “place the
property in service”.
–When it is ready and available
for a specific use in the
business
•Example
–When it was bought for the
business
•Ends
–When the cost of the item
has been recovered or when
it is retired from service,
whichever happens first
•Example
–When it is sold or is not
longer useable

7. Factors in Computing Depreciation
•Three factors determine the depreciation
expense for a fixed asset. These three factors
are:
–The asset’s initial cost
–The asset’s expected useful life
–The asset’s estimated residual value

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

9. Depreciation
•Accumulated depreciation
–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.

10. Depreciation Methods
•Straight line
•Declining balance
•Units of production
•MACRS

11. Factors in
Computing
Depreciation

12. 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

13. 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

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

15. 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?

16. 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

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

18. 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.

19. Example 3
•Depreciation rate per unit =
Cost –Salvage value
Estimated hour
= $24,000 -$2,000= $2.20
10,000 hours
•Annual depreciation expense =
Hourly depreciation rate x annual hours
= $2.20 x 2100 hours = $4,620

20. •Asset cost =$41000 Dated=1.1.2011
•Residual value=$1000
•Depreciation rate per unit= $0.40
•Number of units,
12.31.2011 20,000units
12.31.2012 30,000units
12.31.2013 25000units
12.31.2014 15000units
12.31.2015 10,000units

21. Unit of production method
Date Asset
cost
Depreciati
on per
unit
Number
of units
Depreciati
on
expense
Accumulat
ed
depreciati
on
Book
value
12.31.2011$41000 $41000
12.31.2011 0.40 20,000 8000 8000 33000
12.31.2012 0.40 30,000 12000 20,000 21000
12.31.2013 0.40 25,000 10,000 30,000 11000
12.31.2014 0.40 15,000 6000 36,000 5000
12.31.2015 0.40 10,000 4000 40,000 1000

22. 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

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

24. 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

25. Example 5:
A machine had a cost of $24,000, salvage value of $2,000,
estimated life of five year. Compute depreciation
Year Cost Accumula
ted
Depreciati
on
Book
value at
beginning
of year
Rate Depreciati
on
Book
value at
end of
year
1 $24,000 $24,000 40% $9,600 $14,400
2 24,000 9,600 14,400 40% 5,760 8,640
3 24,000 15,360 8,640 40% 3,456 5,184
4 24,000 18,816 5,184 40% 2,073.60 3,110.40
5 24,000 20,889.60 3110.40 1,110.40 2,000

26. 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.

27. Contemporary Engineering Economics, 4
th
edition, © 2007
MACRS Depreciation Schedules for Personal Property
with Half-Year Convention

28. Contemporary Engineering Economics, 4
th
edition, © 2007
MACRS Rate Calculation
Asset cost = $10,000
Property class = 5-year MACRS
DB method = Half-year convention, zero salvage value,
200% DB switching to SL
20%
$2000
32%
$3200
Full
19.20%
$1920
Full
11.52%
$1152
Full
11.52%
$1152
Full
5.76%
$576
1 2 3 4 5 6
Half-year Convention

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

30. 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 11
th
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 11
th
year
using the new information provided.

31. Example 7
•Depreciation expense=
= $130,000-$10,000
30
= $ 4,000.00 per year before changes
•Accumulated Depreciation balance
=$4,000 X 10 years
= $40,000
•Book value
= $130,000.00 –$40,000 = $90,000

32. Example 7
•New depreciation expense =
Book value –new salvage
Remaining life
= ($90,000-$5,000)
25
= $ 3,400.00per year for remaining years

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

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

35. 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

36. Selling at book value
•Example 9:
–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

37. 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

38. 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

39. 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.

40. 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.

41. 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.

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

43. 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

44. 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

45. Contemporary Engineering Economics, 4
th
edition, © 2007
Depletion
•Unlike depreciation and amortization, which
mainly describe the deduction of expenses
due to the aging of equipment and property,
depletion is the physical reductionof natural
resources.
•Two types of depletion:
–Cost depletion
–Percentage depletion

46. Natural Resources
•The process of transferring the cost of natural
resources to an expense account is called
depletion.

47. Natural Resources
–Step 1:Determine the depletion rate as:
–Step 2:Multiply the depletion rate by the
quantity extracted during the period.

48. Natural Resources
•A company paid $400,000 for the mining
rights to a mineral deposit estimated at
1,000,000 tons of ore. During the year, the
company mined 90,000 tons of the mineral
deposit.

49. Natural Resources
•The depletion expense for the year is
computed as shown below.
–Step 1.
–Step 2.

50. Natural Resources
•The adjusting entry to record the depletion is
shown below.

51. Intangible Assets
•Patents, copyrights, trademarks, and goodwill
are long-lived assets that are used in the
operations of a business and not held for
sale. These assets are called intangible assets
because they do not exist physically.

52. Intangible Assets
•The accounting for intangible assets is similar
to that for fixed assets. The major issues are:
–Determining the initial cost.
–Determining the amortization, which is the
amount of cost to transfer to expense.

53. Copyrights and Trademarks
•The exclusive right granted by the federal
government to publish and sell a literary,
artistic, or musical composition is called a
copyright. A copyright extends for 70 years
beyond the author’s death.

54. Copyrights and Trademarks
•A trademarkis a unique name, term, or
symbol used to identify a business and its
products. Most businesses identify their
trademarks with ® in their advertisements
and on their products. Trademarks can be
registered for 10 years and renewed for 10-
year periods thereafter.

55. Goodwill
•In business, goodwillrefers to an intangible
asset of a business that is created from such
favorable factors as location, product quality,
reputation, and managerial skill.

56. Fixed and Intangible Assets

57. Contemporary Engineering Economics, 4
th
edition, © 2007
•Many firms select straight-line depreciation
for book depreciation because of its relative
ease of calculation.
Given the frequently changing nature of
depreciation and tax law, we must use
whatever percentages, depreciable lives,
and salvage values mandated at the time an
asset is acquired.

58. THANKYOU
……………