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Chapter 9: 20E (page 488)

Computing depreciation鈥攖hree methods Crispy Fried Chicken bought equipment on January 2, 2018, for \(33,000. The equipment was expected to remain in service for four years and to operate for 6,750 hours. At the end of the equipment鈥檚 useful life, Crispy鈥檚 estimates that its residual value will be \)6,000. The equipment operated for 675 hours the first year, 2,025 hours the second year, 2,700 hours the third year, and 1,350 hours the fourth year.

Requirements

1. Prepare a schedule of depreciation expense, accumulated depreciation, and book value per year for the equipment under the three depreciation methods: straight-line, unit鈥檚 of-production, and double-declining-balance. Show your computations. Note: Three depreciation schedules must be prepared.

2. Which method tracks the wear and tear on the equipment most closely?

Short Answer

Expert verified

A unit of production method is most appropriate.

Step by step solution

01

Meaning of Depreciation

The expenses charged in the income statement to report the decline in the value of the fixed assets acquired by the company are known as depreciation expenses.

02

Calculating of Depreciation on Crispy’s Equipment

Straight-line method:

Year

Cost

Depreciation expenses

Accumulated Depreciation

Book value/Ending value

2018

$33,000

$6,750

$6,750

$26,250

2019

$33,000

$6,750

$13,500

$19,500

2020

$33,000

$6,750

$20,250

$12,750

2021

$33,000

$6,750

$27,000

$6,000

Working note:

Calculation of depreciation expenses

Depreciationexpenses=Cost鈭�SalvagevalueUsefullifeinyears=$33,000鈭�$6,0004=$6,750

  1. Units of production method:

Year

Cost

Depreciation expenses

Accumulated Depreciation

Book value/Ending value

2018

$33,000

$2,700

$2,700

$30,300

2019

$33,000

$8,100

$10,800

$22,200

2020

$33,000

$10,800

$21,600

$11,400

2021

$33,000

$5,400

$27,000

$6,000

Working note:

Calculation of depreciation expenses per hour:

Depreciationexpenses=Cost鈭�SalvagevalueUsefullifeinhours=$33,000鈭�$6,0006,750=$4perhour

Calculation of depreciation expenses per year:

Year

Number of hours

X

Per hour rate

=

Depreciation expenses

2018

675

X

$4

=

$2,700

2019

2,025

X

$4

=

$8,100

2020

2,700

X

$4

=

$10,800

2021

1,350

X

$4

=

$5,400

  1. Double declining method:

Year

Cost

Depreciation expenses

Accumulated Depreciation

Book value/Ending value

2018

$33,000

$8,250

$8,250

$24,750

2019

$33,000

$6,187.5

$14,437.5

$18,562.5

2020

$33,000

$4,640

$19,077.5

$13,922.5

2021

$33,000

$3,480

$22,557

$10,443

Working note:

Calculation of rate of depreciation:

Depreciationrate=1Usefullife脳100=14脳100=25%

Calculation of depreciation expenses:

Year

Depreciation rate

X

Cost/Ending value

=

Depreciation expenses

2018

25%

X

$33,000

=

$8,250

2019

25%

X

$24,750

=

$6,187.5

2020

25%

X

$18,562.5

=

$4,640

2021

25%

X

$13,922.5

=

$3,480

03

Appropriate depreciation method

The most appropriate method of allocating depreciation expense is the units of production method because under this method the depreciation is allocated on the basis of the number of hours for which the machine is used. Therefore, it will provide more relevant depreciation expenses.

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Most popular questions from this chapter

Which depreciation method ignores residual value until the last year of depreciation? Why?

Handling acquisition of patent, amortization, and change in useful life Melbourn Printers (MP) manufactures printers. Assume that MP recently paid $200,000 for a patent on a new laser printer. Although it gives legal protection for 20 years, the patent is expected to provide a competitive advantage for only eight years

Requirements

1. Assuming the straight-line method of amortization, make journal entries to record

(a) The purchase of the patent and

(b) Amortization for the first full year.

2. After using the patent for four years, MP learns at an industry trade show that another company is designing a more efficient printer. On the basis of this new information, MP decides, starting with Year 5, to amortize the remaining cost of the patent over two remaining years, giving the patent a total useful life of six years. Record amortization for Year 5.

During 2018, Lora Company completed the following transactions:

Jan. 1 Traded in old office equipment with book value of \(55,000 (cost of \)129,000 and accumulated depreciation of \(74,000) for new equipment. Lora also paid \)55,000 in cash. Fair value of new equipment is \(116,000. Assume the exchange had commercial substance.

Apr. 1 Sold equipment that cost \)12,000 (accumulated depreciation of \(1,000 through December 31 of the preceding year). Lora received \)7,100 cash from the sale of the equipment. Depreciation is computed on a straightline basis. The equipment has a five-year useful life and a residual value of \(0.

Dec. 31 Recorded depreciation as follows:

Office equipment is depreciated using the double-declining-balance method over four years with a \)7,000 residual value.

Record the transactions in the journal of Lora Company.

Question: Determining asset cost, preparing depreciation schedules (3 methods), and identifying depreciation results that meet management objectives

On January 3, 2018, Speedy Delivery Service purchased a truck at a cost of \(67,000. Before placing the truck in service, Speedy spent \)3,000 painting it, \(1,200 replacing tires, and \)3,500 overhauling the engine. The truck should remain in service for five years and have a residual value of $5,100. The truck鈥檚 annual mileage is expected to be 20,000 miles in each of the first four years and 12,800 miles in the fifth year鈥�92,800 miles in total. In deciding which depreciation method to use, Alec Rivera, the general manager, requests a depreciation schedule for each of the depreciation methods (straight-line, units-of-production, and double-declining-balance).

Requirements

1. Prepare a depreciation schedule for each depreciation method, showing asset cost, depreciation expense, accumulated depreciation, and asset book value.

2. Speedy prepares financial statements using the depreciation method that reports the highest net income in the early years of asset use. Consider the first year that Speedy uses the truck. Identify the depreciation method that meets the company鈥檚 objectives.

Western Bank & Trust purchased land and a building for the lump sum of $3,000,000. To get the maximum tax deduction, Western allocated 90% of the purchase price to the building and only 10% to the land. A more realistic allocation would have been 70% to the building and 30% to the land.

Requirements

1. Explain the tax advantage of allocating too much to the building and too little to the land.

2. Was Western鈥檚 allocation ethical? If so, state why. If not, why not? Identify who was harmed.
See all solutions

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