Partial Year Depreciation Disposals and Impairment Chapter 8

Partial Year Depreciation, Disposals, and Impairment Chapter 8 Mc. Graw-Hill/Irwin © 2009 The Mc. Graw-Hill Companies, Inc.

Accelerated Depreciation Accelerated depreciation matches higher depreciation expense with higher revenues in the early years of an asset’s useful life when the asset is more efficient. Early Years Later Years Depreciation Expense High Low Repair Expense Low High

Declining-Balance Method Declining balance rate of 2 is double-decliningbalance (DDB) rate. Cost – Accumulated Depreciation Annual Depreciation expense = Net Book Value × ( 2 Useful Life in Years ) Annual computation ignores residual value. At the beginning of the year, Southwest purchased equipment for $62, 500 cash. The equipment has an estimated useful life of 3 years and an estimated residual value of $2, 500. Calculate the depreciation expense for the first two years.

Declining-Balance Method Annual Depreciation expense Net Book Value = Year 1 Depreciation: $62, 500 × ( × 2 3 years ( ) = $41, 667 Year 2 Depreciation: ($62, 500 – $41, 667) × 2 Useful Life in Years ( 2 3 years ) = $13, 889 )

Declining-Balance Method Below residual value ($62, 500 – $55, 556) × ( 2 3 years ) = $4, 629

Declining-Balance Method Depreciation expense is limited to the amount that reduces book value to the estimated residual value.

• Work on E 8 -7 • Do E 8 -8 with the following Changes: – Stamping Machine was purchased on October 1 and not at the beginning of the year.

Partial Year Depreciation • You only depreciate an asset for the time you own it. • For Straight-line Depreciation: first year and last year will be partial years. • For Units of Production: usage is adjusted by actual units produced each year. • For Double Declining Balance: in first year, calculate annual depreciation, then multiply by percentage of year.

Measuring Asset Impairment is the loss of a significant portion of the utility of an asset through. . . • Casualty. • Obsolescence. • Lack of demand for the asset’s services. Test of Impairment: Compare Book Value to Future Cash Flows Record Impairment: Loss = difference between Book Value and Fair Market Value Recognize a loss when an asset suffers a permanent impairment.

Impairment Problem • Mike Company purchased an asset on January 1, 2005 for $500, 000. It was expected to have a ten year useful life with zero residual value. At December 31, 2010 determined that the future cash flows of the asset were estimated to be $100, 000 and the fair market value of the asset is $175, 000. • Determine if an asset has been impaired and if, so, prepare the journal entry to record the impairment.

Types of Asset Disposals Disposal of Property, Plant and Equipment Voluntary disposals: • Sale • Trade-in • Retirement Involuntary disposals: • Fire • Accident

Disposal of Property, Plant, and Equipment Update depreciation to the date of disposal. Journalize disposal by: Recording cash received (debit) or paid (credit). Recording a gain (credit) or loss (debit). Writing off accumulated depreciation (debit). Writing off the asset cost (credit).

Disposal of Property, Plant, and Equipment If Cash > BV, record a gain (credit). If Cash < BV, record a loss (debit). If Cash = BV, no gain or loss. Southwest Airlines sold flight equipment for $5, 000 cash at the end of its 17 th year of use. The flight equipment originally cost $20, 000, and was depreciated using the straight-line method with zero residual value and a useful life of 20 years. Let’s answer the following questions.

Disposal of Property, Plant, and Equipment The amount of depreciation expense recorded at the end of the 17 th year to bring depreciation up to date is: a. b. c. d. $0. $1, 000. $2, 000. $4, 000. Annual Depreciation: ($20, 000 - $0) ÷ 20 Years. = $1, 000

Disposal of Property, Plant, and Equipment Accumulated Depreciation = (17 yrs. × $1, 000) = $17, 000 After updating the depreciation, the equipment’s book value at the. Depreciation end of the BV = Cost - Accumulated 17 th year is: BV = $20, 000 - $17, 000 = $3, 000 a. b. c. d. $3, 000. $16, 000. $17, 000. $4, 000.

Disposal of Property, Plant, and Equipment The equipment’s sale resulted in: a. b. c. d. a gain of $2, 000. a gain of $3, 000. a gain of $4, 000. a loss of $2, 000. Gain = Cash Received - Book Value Gain = $5, 000 - $3, 000 = $2, 000

Disposal of Property, Plant, and Equipment Prepare the journal entry to record Southwest’s sale of the equipment at the end of the 17 th year.

Disposal with a partial year depreciation • Mike Company purchased an asset on March 31, 2009 at a cost of $150, 000. It was expected to have a 5 year useful life and a $30, 000 residual value. The company uses straight-line depreciation. On November 1, 2012 the company sold the asset for $60, 000. • Prepare the journal entry to record the sale of this asset on November 1, 2012. • How would your answer be different if the company had used Double Declining Balance depreciation rather than straight-line? Prepare the journal entry.