Simple formula for accumulated depreciation:
- Straight-line method: Annual Depreciation = (Purchase Price – Salvage Value) / Years in Useful Life
- Double-declining balance method: (Purchase Price – Salvage Value) X ( 1 / Years in Useful Life) X 2
Below, we explain both formulas with easy examples.
What is the accumulated depreciation amount?
According to generally accepted accounting principles, accumulated depreciation is an item in a company’s financial statements that represents a decrease in the value of the assets owned by the company. SMEs and businesses own tangible assets.
Examples of property, plant and equipment include computers, machines, software, employee uniforms, and vehicles. These items have a steady decline in market value over the life of the asset, and this loss can be recognized as accumulated depreciation in the financial statements. For income tax purposes, this is called depreciation. This is the amount that the company can partially deduct from its income because the book value of the asset is less than the value originally paid by the company.
Calculation method of accumulated depreciation
To understand the formula for accumulated depreciation, you can use the straight-line method to calculate accumulated depreciation. The straight-line method requires simple inputs and simple formulas to calculate depreciation.
- Start with the cost of acquiring the asset. Pay attention to the purchase price of the capital equipment and start the straight-line depreciation calculation.
- Find the salvage value of an asset. Residual value (also known as residual value) is the amount that can be reasonably expected at the end of the useful life of an asset. For tangible assets such as cars and computers, this can be the total amount you would get if you sold those items as parts.
- Deduct the salvage value from the original cost of the asset. The difference between these amounts represents the total amount of accumulated depreciation that can be charged over the life of the asset.
- Divide the total depreciation expense by the number of years you expect to hold the investment. This quotient shows the annual depreciation amount for each year in which the asset is owned. Both the first and last year of ownership show the same amount of depreciation.
- Calculates accumulated depreciation at a specific point in time. Once you have an annual depreciation expense, you can calculate the cumulative depreciation expense over time. For example, after owning and operating the equipment for one year, the annual depreciation expense and the accumulated depreciation amount are equal. Cumulative depreciation increases with increasing years of use, but annual depreciation remains the same.
Other Ways to Fixing Formula for Accumulated Depreciation
Accelerated depreciation methods include the declining balance method, the double declining balance method, and the “sum of years” method. These methods are based on the idea that depreciation rates tend to be higher during the first few years of ownership. The book value of an asset declines rapidly in the first few years after purchase, which has the advantage of increasing tax depreciation in the short term. The downside is that the net book value of the asset changes little towards the end of its useful life. Most tax incentives have already been exhausted.
Where is the accumulated depreciation reflected in the financial statements?
According to generally accepted accounting principles (GAAP), annual depreciation expense should be recorded in the company’s balance sheet against assets account. The contrast account works in the opposite direction of the related account on the cash flow statement. This accounting concept applies to accumulated depreciation. This is because a company may buy an asset in installments (in a process called depreciation) and at the same time report a decrease in asset value due to depreciation.
2 Examples of The Formula for Accumulated Depreciation
Accumulated depreciation formula straight-line example
Straight-line methodà Annual Depreciation = (Purchase Price – Salvage Value) / Years in Useful Life
As a simple example aplication of the formula for accumulated depreciation, suppose a shipping company buys a new bus that it plans to use for 20 years. The purchase price of a fictitious bus is $ 300,000. The estimated salvage value of the bus after 20 years is $ 50,000. The company uses the straight-line method to determine that trucks will be depreciated by $ 250,000 over 20 years. Dividing $ 250,000 by 20 gives the company an annual depreciation expense of $ 12,500. If a company wants to know the accumulated depreciation of a bus after four years of driving, multiply $ 12,500 by 4 to get $ 50,000.
To calculate the cumulative depreciation amount for each quarter, the company divides $ 12,500 by 4 to calculate the quarterly depreciation expense of $ 3,125.
Example of Accumulated depreciation formula using double declining balance method
Double-declining balance methodà (Purchase Price – Salvage Value) X ( 1 / Years in Useful Life) X 2
Say you purchase a bus for $300,000. The salvage value is $50,000, and its useful life is 20 years.
(Purchase Price – Salvage Value) X ( 1 / Years in Useful Life) X 2
($300,000 – $50,000) X (1 / 20) X 2 = $25,000
For Year 1, your annual depreciation expense would be $25,000. To find Year 2, subtract the total depreciation expense from the purchase price ($300,000 – $25,000) = $275,000, follow the same formula.
($275,000 – $50,000) X (1 / 20) X 2 = $22,500
For Year 2, your annual depreciation expense is $20,000.
For the remaining years, this formula determines how much the asset will be depreciated over time.