Hey there welcome to Accounting Stuff I'm James and in this video you'll learn
how to calculate Straight Line Depreciation
in three easy steps Loads requests for this one
so let's jump right in Depreciation is the process of
reducing the book value of a tangible fixed asset due to use
wear and tear the passing of time or obsolescence
Straight-line depreciation is a fixed cost depreciation method
where the expense is spread out evenly over an asset’s useful life
What does that all mean?
Let me show you
Imagine that you're a farmer
I know a bit random but stay with me
You own a whole bunch of tangible fixed assets
these are the physical things that help you out on the farm
They are tangible meaning that you can touch them
and they're fixed so you intend to use them
for more than one year As time passes these
tangible fixed assets wear down and aren't worth as much as
they were when you bought them Take your combine harvester
let's assume that this one cost you four hundred and fifty thousand dollars
you expect to get twelve years of use out of it and after that
you'll probably sell it for scrap and get back around
ninety thousand dollars Let's depreciate it using the
straight-line method
Step 1
Write down what you know You know that this asset
is a combine harvester and that you're going to
depreciate it using the straight-line method
The asset cost is what you initially paid for it
four hundred and fifty thousand dollars a lot of money
You estimate that it's residual value or salvage value is
ninety thousand dollars and that it has a useful life of about twelve years
Step 2 Build a depreciation schedule
A depreciation schedule is a table and for straight-line depreciation
it has five columns
Year
Opening Book Value Depreciation Expense
Accumulated Depreciation and Closing Book Value
But what do all of these terms mean?
Year is the accounting period Opening Book Value is the
carrying amount of your combine harvester at the start of the year
this sits in your balance sheet Depreciation Expense is the value that
you write off as an expense to the income statement during the year
Accumulated Depreciation is the cumulative total of all
depreciation expenses incurred and Closing Book Value is the
carrying amount of your combine harvester at the end of the year
Step 3 Calculate the depreciation expense
accumulated depreciation and book values for each period
This is where things get real Yes we need to fill in all of the blanks
Let's begin with your Opening Book Value this one's easy
it’s your asset cost four hundred and fifty thousand dollars
Now let's work out your depreciation expense I mentioned at the start that
straight-line depreciation is a fixed cost depreciation method
where the expense is spread out evenly over the assets useful life
So grab your calculator we're about to do some maths
The depreciation expense can be calculated by taking your
straight-line depreciation rate and multiplying it by your depreciable cost
Your straight-line depreciation rate is 1 divided by the useful life of your
combine harvester so that's 1 over 12 years
which rounds to 8.33% Depreciable cost is the difference
between your asset cost and residual value $450,000 minus $90,000 is $360,000
This is the portion of the book value that we're depreciating
8.33% multiplied by 360,000 is $30,000 Your combine harvester’s
depreciation expense in year 1 Make sense?
If you need any help remembering the formula you can find it
on my depreciation cheat sheet which you can buy on my website
Link in the description Next we need to work out
your accumulated depreciation which is the sum of all
depreciation incurred to date In year one this is $30,000
exactly the same as your depreciation expense
Your closing book value is the carrying amount of your combine
harvester in your balance sheet at the end of the year
We can work it out by taking your opening book value and
subtracting your depreciation expense $450,000 minus $30,0000 is $420,000
Now with year one out of the way we just need to repeat the process
over and over again for the next eleven years Your closing book value in year one
becomes your opening book value in year two Your depreciation expense is fixed
because we're using the straight-line method so it's thirty thousand dollars
Accumulated depreciation is $60,000 and your closing book value is
$420,000 minus $30,000 which is $390,000
The process doesn't change So here's the completed
depreciation schedule You started off with a combine harvester
costing $450,000 you then wrote off $30,000 as a
depreciation expense to your income statement each year for the rest of your asset's useful life
You might notice that after twelve years
the closing book value of your combine harvester is $90,000
and this matches the residual value that we chose earlier
which is good because it means we haven't made any mistakes
which is always good sign Let's take another look at that graph
Here we're tracking your combine harvester’s book value over time
Your asset cost at the beginning is $450,000 and it’s residual value
at the end is $90,000 it’s depreciable cost is the difference
between the two $360,000
and it has a useful life of twelve years Straight-line depreciation is
a fixed cost method which means the expense is spread out evenly
over your asset’s useful life but there are other
variable depreciation methods as well where the expense is higher in early years
and these can be a bit more tricky I'll show you how they work in the next video
so if you'd like to catch that remember to click subscribe
And if you're interested in my depreciation cheat sheet
here it is it summarizes all of the key points
that I just went through See you in the next one!