1. Depreciation Methods

2. GAAP

• • Depreciation is a systematic and rational process of distributing the cost of tangible assets over the life of assets.

• • Depreciation is a process of allocation.

• • Cost to be allocated = acquisition cost - salvage value

• • Allocated over the estimated useful life of assets

• • Allocation method should be systematic and rational.

3. Depreciation Methods

• Depreciation methods based on time:

• • Straight line method

• • Declining balance method

• • Sum-of-the-years'-digits method

• Depreciation based on use (activity)

4. Straight Line Depreciation Method

• Depreciation = (Cost - Residual value) / Useful life

• Ex:

• On April 1, 2011, Company A purchased an equipment at the cost of

• $140,000. This equipment is estimated to have 5 year useful life. At the end of

• the 5th year, the salvage value (residual value) will be $20,000. Company A recognizes

• depreciation to the nearest whole month. Calculate the depreciation expenses for

• 2011, 2012 and 2013 using straight line depreciation method. Depreciation for 2011 = ($140,000 - $20,000) x 1/5 x 9/12 = $18,000 Depreciation for 2012 = ($140,000 - $20,000) x 1/5 x 12/12 = $24,000 Depreciation for 2013 = ($140,000 - $20,000) x 1/5 x 12/12 = $24,000

5. Declining Balance Depreciation Method

• Depreciation = Book value x Depreciation rate

• • Book value = Cost - Accumulated depreciation

• • For double declining balance method: Depreciation rate = Straight line depreciation rate x 200%

6. Double declining balance depreciation

• On April 1, 2011, Company A purchased an equipment at the cost of $140,000. This equipment is estimated to have 5 year useful life. At the end of the 5th year, the salvage value (residual value) will be $20,000. Company A recognizes depreciation to the nearest whole month. Calculate the depreciation expenses for 2011, 2012 and 2013 using double declining balance depreciation method. Useful life = 5 years --> Straight line depreciation rate = 1/5 = 20% per year Depreciation rate for double declining balance method = 20% x 200% = 20% x 2 = 40% per year Depreciation for 2011 = $140,000 x 40% x 9/12 = $42,000 Depreciation for 2012 = ($140,000 - $42,000) x 40% x 12/12 = $39,200 Depreciation for 2013 = ($140,000 - $42,000 - $39,200) x 40% x 12/12 = $23,520

7. Double declining balance depreciation

8. Double declining balance depreciation

• (*1) $140,000 x 40% x 9/12 = $42,000 (*2) $98,000 x 40% x 12/12 = $39,200 (*3) $58,800 x 40% x 12/12 = $23,520 (*4) $35,280 x 40% x 12/12 = $14,112 (*5) $21,168 x 40% x 12/12 = $8,467

• Depreciation for 2015 is $1,168 to keep book value same as salvage value.

• $21,168 - $20,000 = $1,168 (At this point, depreciation stops.)

9. RECORDING DEPRECIATION TRANSACTION

• On April 3, the business purchased furniture on account for $16,500. The furniture is expected to last 5 years.

16,500 Furniture Accounts Payable 16,500

10. RECORDING DEPRECIATION TRANSACTION

• What is the adjusting entry on April 30?

April 30 Depreciation Expense, Furniture 275 Accumulated Depreciation, Furniture 275 To record depreciation

11. Book Value

• The net amount of a plant asset (cost minus accumulated depreciation)

12. ACCUMULATED DEPRECIATION VS. DEPRECIABLE COST

• Accumulated Depreciation = Original Cost Book Value

• Depreciable Cost = Original Cost Salvage Value

• • Depreciable Cost > Accumulated Depreciation Book Value > Salvage Value

• • Depreciable Cost = Accumulated Depreciation Book Value = Salvage Value

• • Book Value NEVER SMALLER than Salvage Value

• Depreciable Cost is how much an asset CAN be depreciated

• Accumulated Depreciation is how much an asset HAS been depreciated already

13. 4 DIFFERENT TIMELINE ACCTS

14. ACCRUED REVENUE

15. ACCRUED EXPENSE

16. ACCRUED EXPENSE

17. UNEARNED REVENUE

18. UNEARNED REVENUE

19. PREPAID EXPENSE

20. PREPAID EXPENSE

21. CLOSING ENTRIES

22. Closing Entries

• Prepare the accounts for the next periods transactions.

• Transfer the revenue, expense, and dividends balances to Retained Earnings.

23. Which Accounts Need To Be Closed?

• Temporary accounts are closed

• • Revenue

• • Expense

• • Dividends

• Permanent accounts are not closed

• • Assets

• • Liabilities

• • Stockholders equity

24. Journalizing the Closing Entries April 30 Service Revenue 7,400 Retained Earnings 7,400 April 30 Retained Earnings 4,415 Rent Expense 1,000 Salary Expense 1,900 Supplies Expense 300 Depreciation Expense 275 Utilities Expense 400 Income Tax Expense 540 April 30 Retained Earnings 3,200 Dividends 3,200

25. Posting the Closing Entries Retained Earnings 4,415 3,200 11,250 7,400 11,035 Service Revenue 7,400 7,000 250 150 7,400 Rent Expense 1,000 1,000 Other Expenses 1,515 1,515 Dividends 3,200 3,200 Salary Expense 950 950 1,900 1,900

26. Classifying Assets and Liabilities

• List assets and liabilities in order of their relative liquidity.

• Liquidity - how quickly an item can be converted to cash.

27. Classifying Assets and Liabilities Current assets Long-term assets Current liabilities Long-term liabilities

28. Correction of posting errors

29. TYPES OF ERRORS

• Error of Omission when a transaction is completely omitted from the books

• Error of Commission -when an entry has been posted to the correct side of the Ledger but to the wrong account

• Error of Principle -where a transaction has been treated incorrectly as capital expenditure instead of revenue expenditure

• Compensating errors -where an error on the debit side is compensated by an error of equal amount on the credit side.

• Error of Original entry -a wrong amount is recorded in the subsidiary book and posted to the accounts.

• Complete Reversal Of Entries -where the correct accounts are used but each item is shown on the wrong side of the account.

30. Suspense Account

• Is created when we discovered errors before the Final Accounts and Balance Sheet are prepared,

• The account is to records the difference between the total of the debits and the total of the credits in the Trial Balance and

• Suspense account helps to balance the Trial Balance by temporarily putting into an account which after the errors being found, the suspense account be adjusted and become zero/nil balance.

31. Perpetual vs. Periodic System Balances should now be correct Transfer Purchases balance to Cost of Goods Sold Other procedures: Adjust Inventory balance to agree with year-end physical count and merchandise value Adjust Inventory balance to agree with year-end physical count and merchandise value Year-end procedures: Merchandise cost is transferred from Inventory to Cost of Goods Sold -an Income Statement account No adjustment to inventory is necessary; merchandise cost is already on the Income Statement When a sale is made: Balance Sheet Income Statement Appears on: Inventory Purchases Account used to record inventory purchases: Perpetual Periodic Method >>>