Question

On April 22, 2016, Blossom Enterprises purchased equipment for $130,000. The company expects to use the equipment for 10,500 working hours during its 4-year life and that it will have a residual value of $12,000. Blossom has a December 31 year end and pro-rates depreciation to the nearest month. The actual machine usage was: 1,500 hours in 2016; 2,500 hours in 2017; 3,500 hours in 2018; 2,200 hours in 2019; and 1,000 hours in 2020.
Calculate depreciation expense for the life of the asset under straight-line method.diminshing balance .and unites of production

Answer 1

Blossom Enterprises

Computation of the depreciation expense for the life of the asset under,

1. Straight-line Method:

Depreciation expense = depreciable base x 1/useful life

Depreciable base = cost – residual value

Cost of equipment = $130,000

Residual value = $12,000

Useful life = 4 years

Depreciable base = 130,000 – 12,000 = $118,000

Annual depreciation expense = $118,000/4 = $29,500

Depreciation expense for 2016 (May – December) = $29,500 x 8/12 = $19,667

Since the annual depreciation expense would remain constant throughout the useful life of the asset, the annual depreciation expense for all the four years through 2019 = $29,400

(Note: Since the asset is purchased in April, depreciation expense for year 2016 is only for 8 months, May to December)

1. Diminishing Balance Method (assuming double declining balance method)

Depreciation expense for Year 1, 2016 = cost x 2 x straight line depreciation rate

Straight line depreciation rate = ¼ = 25%

Cost = $130,000

Depreciation expense year 1, 2016 = $130,000 x 2 x 25% = $65,000

Depreciation expense, 2016 = $65,000 x 8/12 = $43,333

(Note: Since the asset is purchased in April, depreciation expense for year 2016 is only for 8 months, May to December)

Depreciation expense for year 2, 2017 = book value x 2 x 25%

Book value = cost – accumulated depreciation

Book value at the end of Year 1 (2016) = 130,000 – 43,333 = $86,667

Depreciation expense, year 2, 2017 = $86,667 x 2 x 25% = $43,333

Depreciation expense for year 3, 2018 = book value x 2 x 25%

Book value = cost – accumulated depreciation

Accumulated depreciation = $43,333 +$43,333 = $86,667

Book value at the end of Year 2, 2017 = 130,000 – 86,667 = $43,333

Depreciation expense, year 3, 2018 = $43,333 x 2 x 25% = $21,667

Depreciation expense for year 4, 2019 = book value x 2 x 25%

Book value = cost – accumulated depreciation

Accumulated depreciation = $43,333+ $43,333 + $21,667 = $108,333

Book value at the end of Year 3, 2018 = 130,000 – 108,333 = $21,667

Depreciation expense, year 4, 2019 = $21,667 x 2 x 25% = $10,833

Since the book value at the end of year 4 after providing the depreciation expense of $10,833 would reduce to $10,833, which is less than the residual value of $12,000 the depreciation expense would be adjusted as follows,

Book value – residual value = $21,667 - $12,000 = $9,667

Hence, the depreciation expense for year 4, 2019 = $9,667

Note: The book value of an asset cannot be less than its residual value.

1. Units of Production Method:

Depreciation expense = depreciable base x (number of hours of actual usage/estimated usage in hours)

Depreciable base = cost – residual value

Depreciable base = $130,000 - $12,000 = $118,000

Estimated usage in hours = 10,500 hours

Actual usage in Year 1 = 1,500 hours

Depreciation expense, (Year 1) 2016 = $118,000 x (1,500/10,500) = $16,857

Depreciation expense, (Year 2) 2017 = $118,000 x (2,500/10,500) = $28,095

Depreciation expense, (Year 3) 2018 = $118,000 x (3,500/10,500) = $39,333

Depreciation expense Year4, 2019 = $118,000 x (2,200/10,500) = $24,724

Since the book value at the end of year 4 after providing the depreciation expense of $24,724 would reduce to $8,991, which is less than the residual value of $12,000 the depreciation expense would be adjusted as follows,

Book value at end of year 3, 2018 – residual value = $33,715 - $12,000 = $21,715

Hence, the depreciation expense for year 4, 2019 = $21,715

Note: Book value at end of year 3, 2018 = $118,000 – (16,857 + 28,095 + 39,333) = $33,715

Note: The book value of an asset cannot be less than its residual value.