Double Declining Balance Depreciation Method

Conceptually, depreciation is the reduction in the value of an asset over time due to elements such as wear and tear. In year 5, companies often switch to straight-line depreciation and debit Depreciation Expense and credit Accumulated Depreciation for $6,827 ($40,960/6 years) in each of the six remaining years. Therefore, the book value of Online Bookkeeping Services for Small Businesses $51,200 multiplied by 20% will result in $10,240 of depreciation expense for Year 4. However, it’s not as easy to calculate, and you must refigure your depreciation expense each period. In later years, as maintenance becomes more regular, you’ll be writing off less of the value of the asset—while writing off more in the form of maintenance.

This is preferable for businesses that may not be profitable yet and therefore may not be able to capitalize on greater depreciation write-offs, or businesses that turn equipment over quickly. In contrast to straight-line https://accounting-services.net/small-business-bookkeeping-services/ depreciation, DDB depreciation is highest in the first year and then decreases over subsequent years. This makes it ideal for assets that typically lose the most value during the first years of ownership.

Double declining balance method: A depreciation guide

To create a depreciation schedule, plot out the depreciation amount each year for the entire recovery period of an asset. Double declining balance depreciation isn’t a tongue twister invented by bored IRS employees—it’s a smart way to save money up front on business expenses. The prior statement tends to be true for most fixed assets due to normal “wear and tear” from any consistent, constant usage. By accelerating the depreciation and incurring a larger expense in earlier years and a smaller expense in later years, net income is deferred to later years, and taxes are pushed out. This method takes most of the depreciation charges upfront, in the early years, lowering profits on the income statement sooner rather than later.

Under the generally accepted accounting principles (GAAP) for public companies, expenses are recorded in the same period as the revenue that is earned as a result of those expenses. However, while the straight line method maintains a constant level of depreciation, the DDBD method causes the depreciation to vary annually based on the changing book value. As time passes the DDBD rate drops, meaning that the depreciation expenses of an asset are reduced over time. Note that the final depreciation charge for an asset may need to be adjusted to a lower amount to ensure that the salvage value remains at the estimated amount.

Methods of Depreciation

Companies will typically keep two sets of books (two sets of financial statements) – one for tax filings, and one for investors. Companies can (and do) use different depreciation methods for each set of books. For investors, they want deprecation to be low (to show higher profits). Depreciation is an accounting process by which a company allocates an asset’s cost throughout its useful life. In other words, it records how the value of an asset declines over time.