Double declining depreciation method is an accelerated depreciation method where the depreciation expense decreases with the age of the asset. Depreciation charge under the double declining depreciation method is calculated by applying the higher depreciation rate to the asset book value at the start of the period.
Though the straight-line method is the straight forward and popular method for calculating the depreciation, there are some instances when it is not the appropriate method. The assets are most productive when they are new, and gradually their productivity declines due to normal wear and tear. Thus, the assets generate more revenue in their early years. Therefore, to get the true picture of the performance of the company through financial statements, it is required to match the expenses with revenues. The double declining method achieves this as under this method more depreciation is charged in early years and reduces in the subsequent years.
This method is also known as the 200% declining balance method of depreciation. Here, double means 200% of the straight line depreciation rate.
Table of Contents
- 1 Formula
- 2 How to Calculate the Double Declining Balance Depreciation
- 3 Advantages and Disadvantages of Double Declining Depreciation Method
- 4 Example
To calculate depreciation by using double declining depreciation formula will be:
Double declining balance depreciation= 2*cost of asset*depreciation rate
Double declining balance depreciation= 2* cost of the asset/ useful life of the asset
How to Calculate the Double Declining Balance Depreciation
To calculate the depreciation under this method, follow the following steps:
Determine the assets opening book value and the residual value. Also the remaining useful life of the asset.
Calculate the straight line depreciation rate
Straight line depreciation rate= cost -expected residual value/expected useful life of asset
Determine the double declining balance rate by multiplying the straight line depreciation rate by 2
Double declining balance rate= 2* straight line depreciation rate.
Apply the derived rate (step2) to the book value of the asset at the start of each period
Double declining balance depreciation= double declining balance rate * book value of the asset
Repeat until the asset depreciates completely.
Advantages and Disadvantages of Double Declining Depreciation Method
Reduces Tax Obligation
In the initial years, depreciation charge is higher as compared to the later years. so, by adopting this method the business can save tax by lowering its tax liability
Matched Maintenance Cost
In the early years, higher depreciation is charged when the cost of repairs and maintenance is low. And in later years of assets life, low depreciation is charged when there is a higher cost of repairs and maintenance. This helps to make equality throughout the asset’s useful life.
A business generates interest when it invests the depreciation outside the business. Consequently, this helps to generate more funds to replace the asset.
The Minimum Loss at the Disposal
The business will have a minimum loss when the asset will dispose of due to the innovation as a large part has already been changed into profit and loss account through depreciation.
Depicts Poor Performance
The financial statements when using this shows the lower profit in the earlier years as the depreciation charge is higher in these years. This shows the poor performance of the business in the earlier years.
The investors of the business will receive a low dividend as the business will generate lower profit in initial years. As a result, investors will not be happy with the performance of the company.
The double declining method is more complicated than the straight-line method. the calculations are to done carefully to avoid any costly mistake.
Value of Asset can Never be Zero
Under this method, the value of an asset can never reach zero.
Assume, a retailer purchases a fixture on February 1 costing $200000. There will be no residual value at the end of 10 years of useful life. Calculate the depreciation using the double declining depreciation method.
Calculating the depreciation through double declining depreciation method
The book value of the asset = $200000
Residual value= $0
The useful life of the asset = 10 years
Under the straight-line method, the useful life of 10 years means that the asset will depreciate at the rate of 10% of the cost of an asset. Therefore, under the double declining method, the 10% straight line depreciation rate is double to 20%. However, the 20% will be multiplied with the book value of the asset at the beginning of the period, not with the original cost of the fixtures.
The book value of fixture is $200000. Therefore, now multiply $200000 with 20% and the result will be $40000 that will be depreciation for the first year. The journal entry will be
Depreciation A/c Dr. $40000
To Accumulated depreciation A/c $40000
The book value of fixtures at the beginning of the 2nd year is $160000, which is the cost of fixture minus the accumulated depreciation of $40000 of year 1. Now multiply the $160000 with 20% the result is $32000 which is the depreciation for the second year.
At the beginning of the third year, the book value of fixtures is $128000 (200000-40000-32000). Now by multiplying $128000 with 20%, the result is $25600 which will be the depreciation for the third year.
The book value at the starting of the 4th year will be $102400. By multiplying the book value of $102400 by 20% the result $20480 is the depreciation expense for year 4.
In the starting of the 5th year, the book value is $81920. Now multiply $81920 by 20% the result of $16384 is the depreciation for the 5th year.
At the starting of the sixth year, the book value of fixture is $65536. This amount has to depreciate over a period of 5 years. At this time most companies switch to the straight line depreciation method and debit depreciation expense and credit accumulated depreciation A/c by $13107 ($65536/5 years) in the remaining 5 years.Last updated on : June 20th, 2019