Companies own assets, such as machinery, buildings, land, property, equipment, vehicles and more, that lose value over time. That loss is known as depreciation for accounting purposes. Accumulated depreciation is the total amount an asset has depreciated over its lifespan. The figure is usually recorded as a single-line entry on a company’s balance sheet. In this article, we discuss what accumulated depreciation is and provide methods and examples for its calculation.
What does accumulated depreciation tell us?
The amount of reported accumulated depreciation tells us the total amount of an assets cost that has been transferred to the income statement, since the asset was obtained, in the form of depreciation expense.
A debit to a contra-asset account decreases its value and a debit to the account increases its value. Whenever an organization records depreciation expense, the same amount is credited to the accumulated depreciation account. This allows the company to display both the total depreciation of the asset and the cost of the asset, as well as the assets net book value on the balance sheet.
The assets book value is indicated based on an assets accumulated depreciation being subtracted from the assets cost. The book value represents the highest amount of the remaining depreciation in the future. However, the book value of an asset is not indicative of the market value of an asset.
For example, a property located in a desirable neighborhood may continue increasing in value and the accumulated depreciation may also increase, which also causes the value to decrease.
What is accumulated depreciation?
Accumulated depreciation is the total amount of depreciation on a long-term asset that has been distributed to a companys operating expense otherwise known as depreciation expense. Depreciation refers to the reduction in the value of an asset. Accumulated depreciation is a contra asset account, which means it is a negative asset account that counteracts the balance in the normal asset account. Accumulated depreciation can be applied to capitalized assets, which means they provide value for more than a year.
How to calculate monthly accumulated depreciation
There are two ways to calculate depreciation. Monthly accumulated depreciation for an asset is based on the practical lifespan of the asset. The IRS and the accounting method you choose determine the useful or practical lifespan of the asset. Here are the two ways you can calculate monthly accumulated depreciation:
1. Straight-line method
This method helps you to estimate an assets salvage value at the conclusion of its useful lifespan. You can also make an estimate based on the scrap value or estimated resale value of an asset.
First, you will subtract the salvage value from the purchase price of the asset, thereby determining the depreciable amount.
Formula: Total depreciation= Cost – Salvage value
Next, you will divide the total depreciation by the years in the useful lifespan of the asset.
Formula: Annual depreciation= Total depreciation / Useful lifespan
Lastly, you will divide that amount by 12, which will give you the answer about the assets monthly accumulated depreciation.
Formula: Monthly depreciation= Annual depreciation / 12
2. Declining balance method
The declining balance method is used to determine the assets depreciation at the beginning of its lifespan. There are two ways to make use of this method, the 150% declining balance method and the double-declining balance method.
This is the formula you will use to calculate the depreciation amount each year:
Formula: 2x (Straight – Line depreciation rate) x (Remaining book value)
When the 150% declining balance method is used, the factor of two is removed and 1.5 is used instead. You can calculate the straight-line depreciation rate by dividing the number one by the years in the useful lifespan. The assets original or normal cost is the remaining book value, minus the depreciation youve noted.
The formula for the declining balance method would be:
Annual depreciation= Depreciation x 1/Lifespan x Remaining book value
Examples of accumulated depreciation
Here are some examples that may help deepen your understanding of the way accumulated depreciation works and how to calculate it:
Example #1: Imagine you spent $2,000 on a desktop computer for your office, that, according to IRS tables, has a depreciation lifespan of 5 years. The computers salvage value at the end of its lifespan is estimated to be $400, this means a total depreciation of $1,600 over the five-year period. The monthly depreciation can be calculated as follows:
Monthly depreciation= ($1600 / 5) ÷ 12= $26.66
Example #2: Suppose you purchase large equipment for your factory for $16,050. The equipment has a useful life of 11 years with an approximate salvage value of $5,200. You will subtract $5,200 from $16,050, which equals $10,850. This amounts to the machines depreciation over 11 years. Then, you will divide the depreciable amount ($10,850) by the assets estimated useful life (11 years). Lastly, to determine the monthly depreciation you divide the outcome by 12. The monthly depreciation can be calculated as follows:
Monthly depreciation= ($10,850 / 11) ÷ 12 = $82.19
Double-declining balance method example
Imagine you purchased equipment for $10,000 that has a useful life of 5 years with a salvage value of $1,000. You will begin by subtracting $1,000 from $10,000, which equals $9,000. $9,000 represents the depreciable amount the asset has.
Then, you must figure out the percentage of the assets depreciation each year. You would multiply two by one year, which is a small part of the assets useful life
Next, you will multiply the equipments depreciable amount ($9,000) by 0.4, which equals $3,600. $3,600 represents the amount the asset will depreciate in the first year.
To the accumulated depreciation by month is calculated by dividing the result by 12. According to this example, dividing $3,600 by 12 equals $300.
To determine the assets starting book value for the next period, subtract the accumulated depreciation in the first year ($3,600) from the assets depreciable amount ($9,000), which equals $5,400. The starting book value will then be multiplied for the following year according to the percentage factor. Multiplying $5,400 by 0.4 equals $2,160. You will divide this result by 12, which will provide you with the accumulated depreciation amount in the following year. Divide $2,160 by 12, which equals $180.
These steps will need to be repeated and the beginning book value should be calculated for each year of the assets useful life. Then you will multiply the percentage factor by the starting book value and divide by 12 to find the result of the accumulated depreciation by month for each year thereafter.