Thursday, October 2, 2014

Straight Line Method for Calculating Depreciation

This method is also called as Fixed Instalment Method .In this method the same amount of depreciation is charged every year throughout the life of the asset. The amount and rate of depreciation is calculated as under.

Amount of depreciation = ( Total cost – Scrap value ) / Estimated Life

Rate of depreciation = ( Amount of Depreciation / Original Cost ) * 100

Let us now look at a simple example to calculate amount of depreciation and Rate of depreciation, given a company purchased Machinery for Rs.2, 00,000. Its installation costs amounted to Rs.10, 000. Its estimated life is 5 years and the scrap value is Rs.10, 000. Calculate the amount and rate of depreciation
Total cost = Purchase Price + Installation Charges
= Rs.2, 00,000 + Rs.10, 000
= Rs. 2, 10,000

Amount of depreciation = ( Total cost – Scrap value ) / Estimated Life

                                          = ( Rs.2, 10,000 – Rs.10, 000 ) / 5
                                          = Rs. 40,000

Rate of depreciation = ( Amount of depreciation/Original cost ) * 100

                                   = ( Rs 40,000/Rs. 210,000 ) * 100
                                   = 19.04%

Under straight line method, for each of the five years, the amount of depreciation to be charged will be Rs.40, 000

Merits:


  • It is very simple and easy to understand.
  • The amount and rate of depreciation is easy to calculate
  • Under this method, the book value of the asset becomes zero or equal to its scrap value at the expiry of its useful life.

Demerits

The amount of depreciation is same in all the years, although the usefulness of the machine to the business is more in the initial years than in the later years

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