Straight-Line Depreciation Method
Straight-Line depreciation is the depreciation method that calculated by divided the assets’ cost by the useful life. Assets cost are allocated to expense over their life time, the expenses equal from the beginning to the end of assets’ life. We assume that the assets decrease their value equally from one period to another period.
The cost of fixed assets include the purchase price, transportation, nonrefundable custom duty, and other costs which are necessary to bring assets to be ready for use. Not all costs are included in the depreciation calculation, we need to deduct the salvage value. Salvage Value is the assets’ scrap value that remains at the end of their useful life.
Useful life is the number of years in which we expected to use the fixed assets.
The concept of depreciation is to match between revenue and expense. The assets provide benefit to the company over the useful life, so the expenses also require to allocate base on these time frames too. The company uses depreciation for physical fixed assets and amortization for intangible assets. Both depreciation and amortization apply the same concept.
Straight-line Method Formula
| Depreciation Expense = (Cost – Salvage Value)/Useful life |
- Cost: Purchase price and other costs that are necessary to bring assets to be ready to use.
- Salvage Value: Estimated asset’s value at the end of useful life.
- Useful Life: The number of years that company expects to use an asset.
Straight-line Method Example
Company ABC purchases new machinery cost $ 100,000 on 01 Jan 202X. In addition, company needs to spend $ 10,000 on testing and installation before the machines are ready to use. The machine expects to last for 10 years with the salvage value of $ 15,000.
Depreciation Expense = (100,000 + 10,000 – 15,000)/10 years = $ 9,500 per year
Company needs to charge depreciation expense per year for this machine. It is equal to $ 791.66 per month ($ 9,500/12 months).
- Straight-line depreciation Journal entries for 202X.
| Accounts | Debit | Credit |
|---|---|---|
| Depreciation Expense | 9,500 | |
| Accumulated depreciation | 9,500 |
Depreciation expense will be charged to the income statement and it will deduct the profit as a normal expense. Accumulated depreciation will show as the contra account of the fixed asset and it deducts the fixed asset cost.
Partial Year Depreciation
Fixed assets will be depreciated in the month which they are ready to use. Not all assets are purchase at the beginning of the year, some of them may be purchased in the middle of the year. So it will not depreciate for the whole first year, we only depreciate base on the number of months within the year. If assets only use for 3 months of the year, they will depreciate for 1/4 or 25% (3 months / 12 months) of the first-year depreciation expense.
For example, company XYZ purchase a vehicle on 01 April 202X cost $ 50,000. The company expects to use it for 5 years without any scrap value. So how much is the depreciation expense in the first year? Please calculate.
Depreciation expense per year = $ 50,000 / 5 years = $ 10,000 per year
Depreciation expense for 202X = 10,000 * (9/12) = $ 7,500
We only depreciate for 9 months as the we purchase the vehicle for 9 months in 202X.
Note: What if we purchase it in the middle of the month or the asset arrives at the end of the month. Should we do full-month depreciation for the first month? It may depend on the company policy. It may be a full month depreciate if it arrives before the 15th, otherwise, there is no depreciation in the first month. The difference is not much as it just a few days, the impact on the financial statement is very small.