As structures, tools and appliances wear down over time, their worth decreases. Calculating straight line depreciation is critical to depreciate the cost of costly shopping and to correctly complete your tax.
The most frequent technique of depreciation calculations for a small company is the straight-line approach. In this article, we will discuss the straight line method of depreciation. We will also see straight line depreciation examples. But before all of that, let us see what is depreciation.
What Is Depreciation?
Depreciation refers to the accounting technique, which assigns the costs of a physical item over its lifetime or expected life. Depreciation is a measure of the depreciation schedule or time by the value of an asset. Depreciation of assets, especially fixed capital assets, enables companies to earn revenues at the expense of part of the asset’s annual cost.
If not taken into consideration, this can have a substantial influence on earnings. Companies can recover the cost of an asset by computing depreciation at the time it was bought. This technique makes it possible for companies to recoup the total lifetime costs of an item instead of only the purchase price. This also allows them to replace a reasonable amount of revenue for future assets.
What Is The Straight Line Depreciation Method?
As the simplest approach, it distributes the usable lives of the asset to an equal depreciation rate each year. The worth of the property is estimated after its tenure (for years). The removal of the rescue value from the initial value of the item provides us with the ultimate cost of the depreciation.
The value of an asset is lowered consistently throughout each period until the value of its recovery is achieved using a straight line depreciation technique. Direct depreciation is the most often used and easy technique of depreciation for assigning capital asset costs.
The straight line depreciation method formula is given as follow:
Annual Depreciation Expense = (Asset Price – Residual Value) / Useful life of the asset
Importance Of Knowing How To Calculate Straight Line Depreciation
There are several reasons why companies choose the straight line method of depreciation. Direct depreciation is by far the easiest way to compute for your accountant or bookkeeper and direct depreciation costs stay stable over the life cycle, making the inclusion in your business budget very easy.
Here are a few reasons why your small company should utilize a straight line depreciation calculator:
1. Easily Calculated
The straight line depreciation technique just requires the useful life of the asset to be measured, the salvage value estimated and the yearly or even monthly depreciation costs calculated. The straight line depreciation equation is by far the easiest technique to calculate:
(Asset cost – salvage value) ÷ useful life = annual depreciation
As depreciation expenses continue to be equal for the full useful life of the asset, you will continue to maintain the depreciation expenditure consistent so that profit margin calculations or accurate financial predictions are much easier.
3. Fewer Errors
The easiest technique of calculation of depreciation is straight line depreciation. As a consequence, the computation is more precise. While double-declining and other depreciation methods might be beneficial, these approaches also contain more complicated formulae that can lead to mistakes, particularly for novel depreciation methods.
How To Find Straight Line Depreciation?
The calculation of direct depreciation is a five-stage procedure, with an extra sixth step if the monthly depreciation is expensive. Let’s take as an example the following circumstance.
Sara is running a little non-profit organization that has lately bought an office copier. The price was $7,500. The copier. The shipment cost $150 and the taxes amount to $600. The cost to the copier amounted to $8,250.
1. Compute The Cost Of Asset
The first step in calculating the depreciation on the straight line is to calculate the asset costs. The final cost for the computation of the depreciation must cover the basic price and all sales and delivery costs for the asset.
The entire amount purchased from Sara is $7,500 + $150 + $600 = $8,250 as can be shown from the sample transaction above. Cost Building Tips:
- Indicate all associated expenditures, for example, to include material prices and labor if you are calculating the cost of the installation of a fence.
- To include in the calculation of depreciation expenses all taxes and delivery charges: The ultimate cost of any asset should always include add-on costs such as taxes, management, and delivery. When estimating your asset cost, please keep those amounts in mind.
2. Calculate The Salvage Value & Subtract From Asset Cost
Simple depreciation asks you to assign your asset a salvage value. Salvage is what you expect after its useful life to value the asset. For example, by the end of her useful life, Sara anticipates her copier to cost $1,500. The computation would be if this is the case:
$8,250 – $1.500 = 6,750 dollars
Tips for the salvage value estimation:
- An inaccurate science means estimating the rescue value of an item. If towards the end of their useful life you do not expect the asset to be worth much, please include this in the estimate.
- If you buy a $25,000 2020 car for your company, the salvage value of the vehicle will probably be about $6,000 after five years.
- Be cautious with your estimates. It is never good to overestimate your asset’s salvage value because it reduces your lifetime depreciation expenditure.
3. Determine The Useful Life Of The Asset
You must first estimate the useful life of the assets you intend to depreciate before you can compute any depreciation of any type. Tips for determining useful life:
More than anybody, you know your business. You could wish to employ another depreciation technique, such as double-declining depreciation if you anticipate the car you purchased will last less than five years.
If you do not know how long an asset’s useful life is, please refer to the IRS tables for advice and confirmation.
4. Divide 1 By The Number Of Years Of Useful Life
Sara’s useful life for copiers is five years according to the preceding chart. Sara would use the following calculation to get the yearly depreciation rate:
Depreciation rate tips:
- Always utilize years. Set your yearly depreciation rate on always the number of years of useful life, not the value.
- Start your computation by 1. The computation would take 1/10 = 0.10 if the copier had a useful 10-year life.
5. Multiply Depreciation Rate By Asset Cost
The computation of Sara would be:
($8,250 – $1,500) = $1,350 20%
Sara’s copier would have an annual depreciation charge of $1,350. Tips for yearly depreciation expenditure determination:
Be careful to utilize the cost minus the value of the savings, which is necessary for computing the line depreciation, when calculating your yearly depreciation cost.
While some companies only report the expenditures of depreciation yearly, read step 6 when you wish to record the monthly depreciation.
6. Divide Annual Depreciation By 12
Your monthly depreciation expenditure is a final step towards computing depreciation. This is the calculation:
$1.350/12 = $112.50
This indicates that the copier would cost Sara $112.50, monthly depreciation. Tips for straight line depreciation rates calculation:
- Divide your total by 12 each year to receive your monthly depreciation fee: Although a large number of enterprises record depreciation expenditures yearly, you may continue calculating your annual expenses by dividing them by 12 to get your monthly cost of depreciation.
- Since your monthly cost will remain the same throughout your asset’s useful life, make your diary repetitive so that your reports of appreciation will constantly be updated.
The straight-line depreciation calculator recorded impacts you and your balance sheet. You may submit the transaction to your asset account and cash account when you acquire the asset and create an account to track your depreciation. The depreciation cost can subsequently be recorded on the general heading when paying the cumulative depreciation count for the total monthly depreciation cost.
Benefits Of Straight Line Method Of Depreciation Calculator
There are excellent reasons to use these two approaches and the correct method depends on the type of asset concerned. The falling balance approach, on the other hand, typically gives a clearer accounting of the worth of an item.
For example, when you buy your staff a new computer or smartphone, these sorts of assets lose more value in their early lives than they do later. In short, the method of depreciation utilized relies on the nature and preference of the assets in the issue.
Help Your Organization By Knowing Straight Line Depreciation
In the article, we saw how the straight line depreciation can be used to depreciate the value of the item throughout its useful life. The cost of the asset is uniformly depreciated over its usable lives and is the easiest and simplest technique of depreciation. We hope you know the straight line depreciation calculator, and how to put it in practical life.