Scenario: Accounting for Depreciation
Scenario:
Sanders Construction Co. specializes in building replicas of historic houses. Brett Sanders, president of Sanders Construction, is considering the purchase of various items of equipment on July 1, 2014 for $300,000. The equipment would have a useful life of 5 years and no residual value. Brett is considering depreciating the equipment by the straight-line method or the double declining balance method. Answer the following questions:
- Calculate the depreciation for the first year using the straight-line method and the Double declining balance method, show your work.
- In a short paragraph, explain the straight-line depreciation method and the Double declining balance method.
- In your opinion, which method would be better for the company to use, why? Explain your answer
Depreciation =
- Straight-line method: Depreciation expense = (Cost – Residual value) / Useful life = ($300,000 – $0) / 5 = $60,000.
- Double declining balance method: Depreciation rate = 2/Useful life = 2/5 = 40%. Depreciation expense = Beginning book value x Depreciation rate = $300,000 x 40% = $120,000.
The straight-line depreciation method allocates an equal amount of depreciation expense to each year of an asset’s useful life. It is calculated by subtracting the asset’s residual value from its cost and dividing the result by the number of years of useful life. This method provides a steady and predictable expense for each year, making it easier to plan for future expenses. The double declining balance method is an accelerated depreciation method that applies a depreciation rate that is double the straight-line rate to the book value of the asset. The depreciation expense decreases over time as the book value decreases. This method is often used for assets that depreciate quickly in the early years of their useful life and is beneficial when an asset’s maintenance costs increase over time. In my opinion, the straight-line method would be better for Sanders Construction Co.