Understanding Depreciation Methods
Depreciation is an accounting method that spreads the cost of a tangible asset over its useful life. It reflects wear, tear, and obsolescence, reducing the asset's book value over time.
Applicable to Tangible Assets:
- Cars
- Equipment
- Buildings
Method 1: Straight-Line Depreciation
Simple and common. Equal depreciation every year.
Formula: (Cost - Salvage Value) / Useful Life
| Year | Opening Value | Depreciation | Ending Value |
|---|---|---|---|
| 1 | $100,000 | $20,000 | $80,000 |
| 2 | $80,000 | $20,000 | $60,000 |
| 3 | $60,000 | $20,000 | $40,000 |
| 4 | $40,000 | $20,000 | $20,000 |
| 5 | $20,000 | $20,000 | $0 |
Method 2: Declining Balance
Higher depreciation in earlier years. Common for fast-depreciating assets.
Formula: Opening Book Value × Depreciation Rate
| Year | Opening Value | Depreciation | Ending Value |
|---|---|---|---|
| 1 | $100,000 | $20,000 | $80,000 |
| 2 | $80,000 | $16,000 | $64,000 |
| 3 | $64,000 | $12,800 | $51,200 |
| 4 | $51,200 | $10,240 | $40,960 |
| 5 | $40,960 | $8,192 | $32,768 |
Method 3: Sum-of-the-Years-Digits (SYD)
Accelerated method. Higher depreciation in the early years.
Formula: (Remaining Life / Sum of Years) × Cost
| Year | Remaining Life | Rate | Depreciation | Ending Value |
|---|---|---|---|---|
| 1 | 5 | 5/15 | $33,333 | $66,667 |
| 2 | 4 | 4/15 | $26,667 | $40,000 |
| 3 | 3 | 3/15 | $20,000 | $20,000 |
| 4 | 2 | 2/15 | $13,333 | $6,667 |
| 5 | 1 | 1/15 | $6,667 | $0 |
Summary Comparison
| Method | Expense Pattern | Complexity | Best For |
|---|---|---|---|
| Straight-Line | Even each year | Simple | General assets |
| Declining Balance | High early, low later | Moderate | Tech, Vehicles |
| SYD | Accelerated | Complex | Rapid write-off assets |
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