Characteristics of Depreciation, Basic Factors of estimation of Depreciation

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Characteristics of Depreciation

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How is Characteristics of Depreciation, Basic Factors of estimation of Depreciation

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Depreciation has the following characteristics:

(1) Depreciation is charged in case of fixed assets only, e.g., Building, Plant and Machinery, Furniture 'etc. There is no query of depreciation in case of current assets-such as Stock, Debtors, Bills Receivable etc.

(2) Depreciation causes perpetual, gradual and continuous fall in the value of asset

(3) Depreciation occurs till the last day of the estimated working life of asset

(4) Depreciation occurs on catalogue of use of asset In determined cases, however, depreciation may occur even if the assets are not used, e.g., Leasehold Property, Patent right, Copyright etc.

(5) Depreciation is a charge against earnings of an accounting period.

(6) Depreciation does not depend on fluctuations in store value of asset

(7) The whole of depreciation of an accounting year cannot be considered precisely-it has to be estimated. In determined cases, however, it may be ascertained exactly, e.g., Leasehold Property, Patent Right, Copyright etc.

(8) Total depreciation of an asset cannot exceed its depreciable value (cost less scrap value).

Basic factors of measurement of depreciation

(1) original cost of fixed asset i.e., buy price plus freight and facility expenses;

(2) estimated whole of expenditure on repairs during the useful life;

(3) estimated useful life of asset after which it will be discarded;

(4) estimated residual or scrap value;

(5) interest on investment-the whole invested on buy of asset, if it had been invested in some other venture what interest would have been earned;

(6) possibility of obsolescence.

Fixed Installment or original Cost or straight Line Method, reducing/Diminishing balance method

Under this formula depreciation is not calculated on cost of asset. It is computed on the book value. Of asset. The book value of the asset is obtained by deducting depreciation from its cost. The book value of asset slowly reduces on catalogue of depreciation charge. Since the depreciation percent rate is applied on reducing balance of asset. This formula is called reducing balance or diminishing installment formula or written down value method.

Merits and demerits.

Declining balance formula not only equitably matches depreciation expenses against the linked earnings but also fairly spreads. The incidence of depreciation and repairs (viz higher depreciation but heavier repairs in later years.) on profit and loss catalogue over the assets life span. Elimination of major portion of cost in early years also minimizes the impact of obsolescence. It is equally useful to supervision as accelerated depreciation means smaller chargeable profits and taxes hence lesser outflow of cash.

Accelerated Depreciation Methods

Sum-of-the year's digits (Syd). This formula of depreciation accelerates depreciation expenses so that the whole recognized in the earlier periods of an asset's useful life are greater than those recognized in the latter periods. The Syd is found by estimating an asset's useful life in years, then assigning consecutive numbers to each year, and totaling these numbers. For n years,
Syd = 1 + 2 + 3 + 4 + ... +n

Annuity Method

The formula recognizes the time value (Interest) of money and hence regards the real cost of using a long-lived asset equivalent to the actual whole invested thereon plus the interest lost on the acquisition of asset. Under this method, so much depreciation is written off each year as after debiting the asset catalogue with interest upon the diminishing value, will sell out the asset to nil at the end of its life. Thus, the whole written off as depreciation is the same every year, but the interest will diminish each year.

The whole of each year depreciation to be written off by Annuity formula will be ascertained from Annuity Tables

Depreciation Fund formula or Sinking Fund method

Under this method, a fixed whole is charged as depreciation every year. It endeavors to provide the required lump sum cash at the resignation of a long, lived asset by annually setting aside and investing a fixed sum in easily realizable securities. These securities earn interest at fixed rate and the same being reinvested along with successive fixed installments of depreciation, allowed to derive at composition interest. The sinking fund formula thus takes into catalogue of this probable earnings from interest while fixing the each year depreciation and investing the same which together with composition interest accumulated to the asset's depreciable cost by the end of its useful life. Obviously, the fixed installment of each year depreciation is here smaller as compared to straight line method. Its magnitude, however, rests on the asset's life span and interest rate. Longer the span and higher the rate, smaller is the each year depreciation per rupee of depreciable cost.

Shortcomings of Depreciation Fund Method

Depreciation fund formula assumes constant rate of return on every periodic venture in selfsame securities. This is hardly true in this dynamic world where rates do vary now and then. Any variation in the rate of return upsets the earlier periodic allocation for depreciation and entails refection thereof. Additional the whole realized on the sale of safety rarely agrees with its acquisition cost owing to made fluctuations which may be both erratic and considerable. Those may cause a wide gap in the middle of the required and supplied cash.

Insurance course Method

This formula endeavors the provide of required cash at the resignation of a specified asset in return of periodic offering (premium). Under this a trader takes a 'Capital Redemption insurance Policy' from an insurance business which undertakes to pay at a given date a determined sum if the trader, paying a fixed whole of premiums after quarterly intervals. The trader treats the periodic payment as depreciation and charges it to profit and loss account. In this case, depreciation is charged at the end of the year, whereas, the superior is paid at the starting of the year. At maturity, the insurance business pays the course money which is ordinarily adequate to replace the retired set. Normally, whole received is more than total superior paid as the course yields interest.

Revaluation Method

Under the system, each year the asset is valued and the value is compared with that in the starting of the year. The fall is treated as depreciation. Suppose if the value of the tools at the starting of the year was Rs. 8,000, during the year tools worth Rs. 6,000 were purchased and at the end of the year, on valuation these amounted to Rs. 11,000. The whole of depreciation for the year will be : 8,000 + 6,000-11,000 = Rs. 3,000 . This formula is useful for charging depreciation on livestock and loose tools.

Depletion Method

Natural resources comprise bodily assets like mineral deposits, oil and gas resources and timber stands. These natural resources get exhausted by exploitation. In some cases, the discount in bodily deposits is offset by growth or improvement of Additional deposits.

The cost of natural resources is the price paid for its acquisition plus price paid for improvement of such asset in order to bring it to a state suitable for production.

The periodic depletion is good not calculated in terms of year. Rather it is good to imagine the cost per unit and then multiply the cost of unit to units produced in that particular year.

Machine Hour Rate

Under this method, the total whole of working hours of a motor during the whole of its sufficient life is estimated, and then the cost of motor is divided by the predicted whole of hours of useful life, this gives the rate per hour. The each year depreciation is calculatedly multiplying this rate by the whole of hours, the motor truly runs in a year.

Mileage Method

This formula is used only for those assets whose useful life depends upon the fact that how many kilometers they have been driven e.g. Buses, cars, trucks and rolling stock etc.

Global Method

Under this method, the value of the assets, irrespective of their nature is added together and depreciation is charged at an mean rate on aggregated value.

Choice of a Method

Aforesaid methods of depreciation present that none is truly best or worst as each formula has its own merits and demerits. Suitability of every formula is relative and depends upon assorted factors. Most prominent of these are the type of the asset and purpose of depreciation.
Straight line formula suits to structure and lease etc.. Reducing installment formula fits to machinery tool etc. And depletion formula for wasting assets like mines. Quarries etc. However, the basal purpose is the basic determinants of the propriety of a depreciation method. prominent purpose comprise of true reporting of accounts, tax benefits, comparative stock cost, financial flexibility, replacement and expansion etc. For example. Depreciation fund formula envisages that the whole set aside for depreciation is to be invested covering the business in definite securities. Similarly under insurance course method, the whole so set aside is handed over to insurance company. If a business is having working capital problems the advisability of these methods is questionable.

Of the above-mentioned methods (1) Fixed Installment and (2) Reducing Installment methods are most widely used.

Distinction in the middle of Fixed Installment formula and Reducing Installment Method

Fixed Installment Method

1. The rate and whole of depreciation remain the same each year.

2. Depreciation rate per cent is calculated on cost of asset each year.

3. At the end of its life the value of asset is reduced to zero or scrap value.

4. The older the asset, the larger the cost of its repairs. But the whole of depreciation remains the same each year. Hence, the total of depreciation and repairs increases every year. This reduces each year profit gradually.

5. Computation of depreciation comparatively easy and simple.

Reducing Installment Method

1. The rate remains the same, but the whole of depreciation diminishes gradually.

2. Depreciation rate percent is calculated on book value of asset.

3. The value of asset is never reduced to zero at the end of its life.

4. The whole of depreciation decreases gradually, while the cost of repairs increases.
So the total of depreciation and repairs remains more or less the same each "year. Hence, it causes puny or no change in each year profit/loss.

5. Depreciation can be computed without any difficulty, but it is not so easy and simple.

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understanding Depreciation Conventions

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When choosing to depreciate a firm asset, you need to choose both a recipe and a convention. A institution simply refers to figuring how much of the item basis you may depreciate the first year, based on when while that year you purchased and put the item to use in your business. This narrative will clarify the differences between the half-year convention, the mid-quarter convention, and the mid-month convention.

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How is understanding Depreciation Conventions

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Half-Year institution (H/Y) Under the half-year convention, your item is treated as though it was purchased and located in service at the mid-point of the first year, no matter when while that year the purchase was for real made. Therefore, only half of the otherwise permissible depreciation number is able to be deducted while the first year.

The half-year institution is thorough with all depreciation and must be used unless the mid-quarter institution rules apply. (Except in the case of depreciating the firm use of your home, in which case the mid-month institution applies the first year. This is explained below.) The half-year institution is built into depreciation tables found in Irs Publication 946.

Example: Using the straight-line recipe of depreciation (because it is easier for me to demonstrate the half-year example using S/L), Morgan is able to depreciate her office desk (seven year property), used 100% for business, over a seven year recovery period. Her basis in it (the number she paid) is 0. She is able to take equal, 0 deductions each of the seven years. Because of the half-year convention, however, she may only deduct half of that in the first year.

Year One -

Years Two straight through Seven - 0 each year

Year Eight -

Morgan may continue to take a deduction into an supplementary year (year eight) beyond the desk recovery duration (seven years) in order to fully depreciate it.

Mid-Quarter institution Under the mid-quarter convention, all asset located in service while a particular quarter of the year is treated as having been acquired at the mid-point of that quarter. Depreciation tables with the mid-quarter institution built in may be found in Irs Publication 946.

The mid-quarter institution only applies if more than 40% of the combined bases of asset is located in service while the last three months of the tax year. Section 179 deductions are not included when figuring this amount.

You can avoid the mid-quarter institution in a concentrate of ways. Plan your purchases, so over 40% of the cost of them does not get spent at the end of the year, by buying early or waiting until January. You could also choose to use Section 179 to price some of your end of the year tool purchases. Those items' bases would then not be a part of your calculation of the 40% mark.

Mid-Month institution When you depreciate the firm ration of your home office, you will use the mid-month institution in the first year. This means you may only deduct expenses starting in the month you first began using the home for firm purposes. This not only includes using mid-month depreciation tables, but it also means you may only deduct other business-related expenses for the home from that month forward.

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The enterprise of Horses - Depreciation

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I have said many times that if you are a breeder, you need to be a business. One of the reasons is that a business can deduct the expenses of raising horses together with feed, vet care, stud fees, marketing costs, training fees and all the other principal expenses of raising and selling your horses. The most leading fancy though is that you can buy and depreciate your stallion and mares over a duration of time. And that is why even in a down market, you can make a profit even if it is marginal.

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How is The enterprise of Horses - Depreciation

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Horses that are used for breeding or racing can be depreciated over 3 to 7 years depending on their age when put into service. If they are a horse that you have raised and then determine to breed, you can only deduct the expenses of the horse. If you buy super stallion or mare, you can deduct, not only the expenses connected with their care, but also depreciate the cost of the animal and heighten the lowest line of your business.

Depreciation is a deduction from expenses that lowers those expenses and increases the gross profit of your operation. To justify this, I am going to give you an example. It may or may not work in your single case and you need to consult with a great accountant to verify if it does.

Having done some investigate and seeing that a obvious bloodline or discipline is doing very well on the national scene and there being an absence of that single bloodline or discipline in my area, I determine to introduce it to my region. I attend sales that feature stock of those bloodlines and end up purchasing a proven stallion and several producing mares as well as one or two younger horses that I believe to have the inherent of being classic horses.

The stallion is 10 years old, has produced some foals that have gone on to a obvious whole of fame and returned some money to their owners. His purchase price is ,000. Of the mares that I have purchased and all of which are bred; one is 14 years old and the dam of offspring that have accumulated many points in their field; one is eight years old and her offspring are just beginning out and one is a five year old bred to a World Champion. Of the two young horses, one is a yearling and one is a two year old. The yearling is a gelding and the two year old is a started mare by the stallion I purchased.

Since I have mortgaged all I own in order to assemble this group, I want to make a profit as soon as inherent and keep the Irs at bay. And this is how I am going to perform this.

My expenses for the year is 00 per horse and that includes feed, farrier, vet, advertising and a share of the mortgage, lights, water, electricity, etc. The stallion is used on my mares and he breeds 10 exterior mares for 0 apiece plus mare care. The mares produce three foals that sell for a miniature money but not as well as I expected. The W/C sired colt goes for 00 but the others only gross 00 for the two.

My wage looks like this for the year. Breeding fees bring in 00 plus 00 in mare care. Sales bring in 00. So my gross wage is ,000. My outlay in expenses is ,600 for the year. So I am in the hole, and the Irs is going to lay this one aside and want more documentation on whether I am a business or a hobby.

Using the Macrs (Modified Accelerated Cost salvage System) depreciation schedule, I can lower my costs and increase my net profit. The stallion can depreciated over seven years utilizing the Macrs depreciation tables so his first year's depreciation is 14.29% of his purchase price, or ,287. The fourteen year old mare can be depreciated over three years. Her purchase price was ,000 and her first year depreciation in 33.33% or ,333. The others can be depreciated over a seven year duration together with the two-year old with one exception. The yearling gelding can only be expensed; he can not be depreciated unless I make a race horse out of him because he is not capable of reproducing.

As you can see, I have turned my loss into a profitable year, at least on paper and I can keep the Irs and the banker happy. That is why I urge you to be a business.

Let me share with you the percentages that you can depreciate each year and the age limits of the horse. Three year depreciation is applied to horses that are 12 years of age or older when they are put into service unless they are a racehorse. Then they can be two and over. The rate of depreciation is set at this. First year is 33.33%; second year is 44.45%; third year is 14.81% and fourth year is 7.41%.

Seven year depreciation applies to horses that are a least two years of age when they are put into service unless they are racehorses. Racehorses have to be under two. The seven year agenda is: First year, 14.29%; 2nd year, 24.99%; 3rd year, 17.49%; 4th year, 12.49%; 5th year, 8.93%; 6th year, 8.92%; 7th year, 8.93%; 8th year, 4.46%.

It does not matter that someone else may have depreciated the horse before you bought it. When you buy that animal, you can start to depreciate the horse again at the cost that you bought it for. And down the road, you can resell the horse and start over with a new horse(s).

An leading point to remember. If you sell a horse that you have depreciated for more that the depreciated value, you must use it to recover the depreciation. In other words, the true selling price is what it sold for plus the depreciation and that must be reported as income. And as such is subjected to taxation. You should consult with a great accountant and tax authority before beginning any business venture to be sure that you are doing it right.

Another point to consider. If you administrate to produce a super individual, think about syndicating or at least generate a partnership for that horse, so you can expense and depreciate that horse. You will spread the costs among several habitancy as well as the liability.

I hope you obtain new knowledge about Irs Tax Tables. Where you'll be able to offer used in your daily life. And most importantly, your reaction is Irs Tax Tables.Read more.. The enterprise of Horses - Depreciation. View Related articles associated with Irs Tax Tables. I Roll below. I actually have counseled my friends to help share the Facebook Twitter Like Tweet. Can you share The enterprise of Horses - Depreciation.