Straight Line Method
Do accountants care about an asset's market value? Explain why or why not.
No, they don't care. It is because of cost principle which states that assets should be recorded at their original cost. This is because until assets are sold, estimates of the asset’s market value are too subjective. The historical cost is used because it is objective and verifiable.
How to calculate the net book value?
To calculate an asset’s net book value, simply have the original purchase cost of the asset subtracted the asset’s accumulated depreciation
Name two alternate names for Long-lived Asset.
Answers may vary (e.g. Fixed assets, Capital assets, Property Plant and Equipment (PP&E), Durable Assets)
What specific section does Accumulated Depreciation appear on a Balance Sheet?
It shows up under Long-term Assets right underneath the associated asset account; it is a Contra Asset account.
List one advantage of using the Straight Line Method.
Answers may vary (e.g. Straight line method much easier to calculate, it is more consistent than Declining balance method. It is also faster to do straight line method as you only need to do one calculation whereas for declining balance method you have to do several calculations depending on the year).
List two advantages of using the declining balance method.
Answers may vary (e.g. It allows you to do less work, as you have to use declining balance method for taxes; It makes it seem like your net income is increasing more or decreasing less, making the business more appealing for investors)
What are the 3 accounting principles associated with Depreciation?
Cost Principle, Matching Principle, and Full Disclosure Principle
When making the Balance sheet, do you add or subtract the Accumulated Depreciation?
When making the Balance sheet, you would subtract the Accumulated Depreciation to from the original purchase price of your asset to determine the net book value which will be used to calculate the total assets.
A company purchased a truck for $25,000 on January 1, 2012. The truck is estimated to have a useful life of 5 years, and straight-line depreciation is used. What is the proper entry to record the adjustment for depreciation at the end of five years?
Debit depreciation expenses–truck $5,000 and credit accumulated depreciation–truck $5,000
What is the Half-Year Rule? Give the formula that is used to calculate the Half-Year Rule of the asset
The Canada Revenue Agency is looking for a national average for the length of time assets are owned in the first year. It achieves the mathematical average it wants by allowing only 50% of an asset’s cost to be eligible for depreciation in its first year of use.
Formula: Depreciation Expense of the first year x ([Value of asset x 50%] x CCA rate)
Why not simply credit an Asset account to show a decrease in its net book value? List the two answers.
The use of the Asset account and the Accumulated Depreciation account provides:
The original cost of the asset, found in the Asset account.
The total amount of depreciation expense recorded over the years.
What are the two new accounts added with depreciation? What financial statement do these accounts appear on?
There are two accounts added:
Depreciation Expense (Appear on the Income Statement)
Accumulated Depreciation (Appear on the Trial Balance and Balance Sheet)
A company purchases a machine for its manufacturing facility for $90,000 on March 31, 2017. The machinery is estimated to have a useful life of 5 years and a residual value of $10,000 What is the proper entry to record the year-end adjustment for the two depreciation accounts, assuming the straight-line method is used.
Debit depreciation expense–machinery $12,000 and credit accumulated depreciation–machinery $12,000.
A truck was purchased on January 1, 2013. Calculate the depreciation expense for the fourth year if:
The asset has a useful life of four years
The cost of the asset is $2000
Residual Value is $500
Rate of depreciation is 30%
Year 1:
Depreciation Expense = $2000 * 30% = $600
Net Book Value = $2000 - $600 = $1400
Year 2:
Depreciation Expense = $1400 * 30% = $420
Net Book Value = $1400 - $420 = $980
Year 3:
Depreciation Expense = $980 * 30% = $294
Net Book Value = $980 - $294 = $686
Year 4:
Depreciation Expense = $686 - $500 = $186
Net Book Value = $686 - $186 = $500
The depreciation expense for the fourth year is $186
Name two advantages of Depreciation.
Matching Expense: It helps Businesses approximate the amount of expense incurred as a result of using an asset during an accounting period. This allows businesses to properly match expense with the revenue that the asset helped to generate in the same period. Without the use of a depreciation expense account, It is very likely that Businesses will either understate or overstate total expenses. This will lead to Businesses misstating revenue and other financial information.
Asset Valuation: It also helps Businesses report assets at their correct net book value. An asset’s net book value is the original purchase cost of the asset subtract the asset’s accumulated depreciation (the sum of all the depreciation expense from previous years). Net book value decline over time. Asset market value will also decline over time due to the fact that an asset will wear and tear. Thus, using net book value when calculating total assets is more realistic than continuing to use the original purchase costs. Please note that net book value does not replace the original purchase price. Both figures can be found on the balance sheet.
Close these accounts: Depreciation Expense-Trucks: $35,000, Depreciation Expense-Furniture: $1386
Depreciation Expense-Trucks
Dr Cr
35,000 35,000
Depreciation Expense-Furniture
Dr Cr
1386 1386
Income summary
Dr Cr
35,000
1386
---------
36,386