Revised July 2008 Page 1 of 18 ACC101 – CHAPTER 8 Accounting for Long-Term Assets
Revised July 2008 Page 2 of 18 Key Terms and Concepts to Know Long-term assets: Cost Useful life Tangible Intangible Betterments Depreciation/depletion/Amortization Methods: Straight-line method Units-of-production method Double-declining balance method Disposal of Long-term assets: Discard Sale Exchange Gain/loss vs. revenue /expense Leases: Lessor Lessee Leasehold Leasehold improvements
Revised July 2008 Page 3 of 18 PRINCIPLES OF DEPRECIATION 1. The allocation of the cost of an asset to the periods it is used. 2. Depreciation does not attempt to track the market value of the asset. EXAMPLE – A machine that cost $50,000 and will last 5 years cost the company: $50,000 / 5 years = $10,000 per year $10,000 = portion of cost to be expensed for each full year of use 3. Depreciation is required because physical deterioration and/or obsolescence cause all fixed assets, with the exception of land, to lose their usefulness. 4. When recording depreciation, we cannot directly reduce the fixed asset account because we are only estimating how much of its usefulness has expired. 5. Instead: A contra account called Accumulated Depreciation is used. Depreciation Expense-Machinery XXX Accum. Depr.- Machinery XXX STRAIGHT-LINE METHOD Allocates cost evenly over years asset is used. (Cost – Residual Value) / Estimated Life = Annual Depreciation Practice Problem #1 a. Calculate the annual depreciation on a piece of equipment that cost $250,000. It has been estimated that the equipment will last 8 years and have a residual value of $10,000. Make the journal entry to record one year’s deprecation. b. Calculate the depreciation on the equipment from (a) above if the equipment was purchased on October 1 and the period ends on December 31. Make the journal entry to record depreciation.
Revised July 2008 Page 4 of 18 UNITS-OF-PRODUCTION METHOD 1. Allocates cost based on an assets usage. 2. The life of an asset is measured in units of activity, i.e. miles, or hours used. (Cost – Residual Value) / Estimated Life in Units = Depreciation Expense Per unit 3. To calculate depreciation, multiply rate per unit times the number of units consumed. EXAMPLE: A machine has a units-of-production rate of $2/hour. If: 20,000 machine hours are used in year one Then: Depreciation = 20,000 * 2 = $40,000 Practice Problem #2 A company purchased machinery that cost $510,000. It is estimated that the machine will be operated for 100,000 hours over its useful life and have a residual value of $10,000. a. What is the rate of depreciation per hour? b. Journalize the entry for annual depreciation if the machine had been operated for 22,000 hours.
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