Depreciation
Accounting 11
Depreciation
Assets that a company owns, which are expected to last more than one year, are called
Fixed Assets. These assets include such things as automobiles, computers, furniture,
office buildings and equipment. These fixed assets that a company owns have a set
amount of useful life. This means that a fixed asset is not expected to last forever, and
thus its value depreciates over time. The definition of depreciation is the decline in the
useful life of a fixed asset.
The only fixed asset that does not decline, except in very rare circumstances, is land.
Land retains its value and most often appreciates, so deprecation is not applicable in
most cases.
Depreciation represents an expense for a business. The business’ fixed assets are
Decreased by a certain value each year and because the accounting equation must
always remain in balance, this decrease must be accounted for somehow. Even though
the dollar amount of depreciation is not paid for in cash, the loss in value of the fixed
asset must be balanced out and this is done by using two accounts:

 Depreciation Expense
 Accumulated Depreciation
The Depreciation Expense account is used to capture the dollar value of depreciation
for an accounting period.
Accumulated Depreciation is used to show a running total of how much a fixed asset
has depreciated. This account is called a contra account because it relates to an asset
account. In the case of accumulated deprecation, the account is called a contra-asset
account and it always has a credit value. The balance in the accumulated depreciation
account is the amount of the fixed asset that has already expired. Rather than simply
decrease the value of the original asset account, the accumulated depreciation account
is used.
When a company purchases a fixed asset, the purchase amount is posted to the fixed
asset account and that original purchase price is recorded on the balance sheet. When
a reader looks at the financial statements, he/she wants to know both the original
purchase price and the amount of depreciation that has been accounted for. The reason
for this is that the amount for a fixed asset shown on the Balance Sheet is not the
market price or the amount that asset is worth. It is the amount, which was originally
paid less the accumulated deprecation.
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Depreciation
Accounting 11
Example:
Ted’s trucking has a truck that was purchased for $15,000 on January 1, 2005. As of
December 31, the truck has depreciated $1500. The following shows the journal entries
Involved:
Original entry: Jan 1
(Debit) Truck
(Credit) Cash
Purchase of truck
$15,000
$15,000
Adjusting entry: Dec 31
(Debit) Depreciation Expense
(Credit) Accumulated Depreciation
To record depreciation for the year
$1,500
$1,500
After this transaction, the balance in the Truck account is still $15,000 and therefore the
amount on the Balance Sheet is $15,000 but the net value (also known as the net book
value) of the Truck is $13,500. This is shown on the Balance Sheet like this:
Fixed Assets
Truck
$15,000
Less: Accumulated Depreciation
1,500
Net Truck
$13,500
The net value of an asset is called its book value. This is the value it has on the balance
sheet. This has nothing to do with how much the asset costs, how much it is worth, or
how much you would earn from selling it.
Calculating Depreciation
Depreciation is calculated using the following methods: straight-line and accelerated
1. Straight-line Depreciation
This method assumes equal amounts of depreciation over an asset’s useful life. This
translates to equal depreciation expense amounts every period.
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Depreciation
Accounting 11
The formula for calculating straight-line depreciation is:
Cost – Salvage Value
Useful Life
Cost =
Useful Life =
Salvage value =
Purchase price of the asset
Estimated amount of time that the asset will be used by the
company. This is sometimes called service life.
Estimated amount the asset can be sold for at it end of its useful
life. This is sometimes called residual value.
Example (continued):
The truck that Ted’s Trucking purchased for $15,000 is expected to be used by the
company for 8 years and then sold for $3,000. Depreciation is calculated as follows:
Depreciation per year =
$15,000 – $3,000 = $1,500
8
Some companies may record depreciation only on a yearly basis. Other companies will
record depreciation monthly. This is true when companies require accurate income
statements on a monthly basis (and not just yearly)
Depreciation expense per month would be the yearly depreciation expense divided by
the number of months in a year (12).
Depreciation per month = $1,500 = $125
12
2A) Accelerated Depreciation (also known as the Declining Balance Method
or Asset Pool Method)
Under this method, the asset depreciates at a greater rate at the beginning of its life and
the rate slows as the asset ages. Depreciation expense is greater up front. Many
assets, such as vehicles, would fit this method of depreciation.
The most common method of calculating depreciation using this method is multiplying
the current net book value by a constant percent. If a company wishes to record
monthly depreciation, the yearly amount is divided by 12.
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Depreciation
Accounting 11
Depreciation expense = (Cost – Current Accumulated Depreciation) X fixed percentage
This method requires a calculation for EVERY depreciation journal entry. This is
different from the straight-line method which has the same depreciation expense
amount throughout the useful life of the asset. The benefit of the percentage
approach is that the company does not have to know the useful life of the asset
nor its salvage value at the end of its useful life.
Example:
Ted’s Trucking has a truck that was purchased for $15,000 on January 1, 2005. Ted’s
Trucking uses the accelerated method of depreciation at a rate of 20% per year.
At the end of the first year
Depreciation Expense for the year =
Depreciation Percentage
($15,000 – 0) X 20%
= $3,000
Cost
Accumulated Depreciation prior to year-end
Accumulated Depreciation will be $0 + $3,000 = $3,000 at the end of the year.
Previous Accumulated Depreciation
Current Year’s Depreciation Expense
At the end of the second year
Depreciation Expense = ($15,000 – 3,000) X 20% = $2,400
Accumulated Depreciation will be $3,000 + $2,400 = $5,400
At the end of the third year
Depreciation Expense = ($15,000 – $5,400) X 20% = $1,920
Accumulated Depreciation will be $5,400 + $1,920 = $7,329
The accumulated depreciation continues to grow, reducing the net book value of the
asset (it is a contra-asset). The growing accumulated depreciation account reduces the
yearly depreciation expense. This method results in assets that may take 50+ years to
reduce net book value to less than a dollar. The straight-line method has a very clear
stopping date for depreciation (when net book value = scrap value), the accumulated
depreciation method does not.
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Depreciation
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2B) Table (Accelerated Depreciation)
Sometimes a table used in the accelerated depreciation method. With fixed depreciation
expenses (which are also additions to accumulated depreciation)
Example:
Year One Depreciation Expense:
Year Two Depreciation Expense:
Year Three Depreciation Expense
Etc.
$3,000
2,500
2,200
The values in the table are used by the bookkeeper for depreciation expense – no
calculations required. Where does this information come from? Sometimes this
information is provided by the manufacturer or by a consultant.
The reason for using accelerated depreciation is for income tax purposes to lessen net
income. This makes sense because the higher the expenses in a given period the lower
the net income.
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Depreciation
Accounting 11
Student Worksheet – Depreciation
Directions: Fill in the Blanks. Circle the correct choice between parentheses.
1. ________________ is a system of allocating the cost of fixed assets over their useful
life.
2. An account that accumulates the amount of a fixed asset that is “used up” is a
____________________ account. Accumulated Depreciation is an example of this type
of account.
3. Another term for scrap value of an asset is _____________ value.
4. The two methods of depreciation are ________________ and _______________.
5. The formula for calculating straight-line depreciation is ____________ plus/minus
________________ divided by _________________________ .
6. Which fixed asset does not depreciate? _____________________
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Depreciation
Accounting 11
7. To calculate the book value of an asset you subtract ____________________ from
the ______________ cost.
8. With accelerated deprecation, the depreciation expense is (more/less) in the
beginning periods after the asset is purchased. (circle either more or less)
9. In January 2005, The BBQ Pit bought a commercial freezer for $11,000 that is
expected to last 15 years and have a scrap value of $200. Use the straight-line method
for calculating depreciation.
a. What is the yearly depreciation amount?
b. What is the journal entry made on December 31, 2005 to record the yearly
depreciation?
Date
Account
Account
No.
Debit
Credit
c. What would be the net book value of the Freezer asset on December 31, 2005?
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Depreciation
Accounting 11
d. What is the net book value of the Freezer asset at the end of the 15
th
year?
e. If the freezer were still in use after 15 years, what would the deprecation expense be
for future years (16th, 17th, 18th, etc.)?
10. A fixed asset was purchased on January 1, 2008 for $20,000. The company uses the
Accelerated Depreciation Method at a fixed percentage of 10%.
a. What would the depreciation expense be in the first year?
b. What would the balance be in the accumulated depreciation account be at the end of
the first year?
c. What would the depreciation expense in the second year?
d. What would the balance be in the accumulated depreciation account at the end of the
second year?
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Depreciation
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Answer Key: Depreciation
1. depreciation
2. contra
3. salvage
4. straight-line, accelerated
5. cost, minus, salvage or residual value, useful or service life
6. land
7. accumulated deprecation, original
8. more
9.
a. (11,000 – 200) / 15 = 720
b. DR Depreciation Expense $720
CR Accumulated Depreciation $720
c. $10,280 (11,000 – 720)
d. $200 (the scrap value)
e. $0
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Depreciation
Accounting 11
10. a. Year One Depreciation: ($20,000 – 0) X 10% = $2,000
b. Accumulated Depreciation (end of year one) = $0 + $2,000 = $2,000
c. Year Two Depreciation: ($20,000 – $2,000) X 10% = $1,800
d. Accumulated Depreciation (end of year two) =
$2,000 + $1,800 = $3,800
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