Depreciation is the gradual exhaustion of the usefulness of a property. This may be defined as the decrease or loss in the value of a property due to structural deterioration, life wear and tear, decay and obsolescence.
Four Methods for calculating depreciation
- Straight line Method
- Constant percentage method
- Sinking Fund Method
- Quantity Survey Method
Straight Line Method
In this method, it is assumed that the property losses its value by the same amount every year. A fixed amount of the original cost is deducted every year, so that at the end of the utility period, only the scrap value is left.
Annual Depreciation, D = (original cost of the asset – Scrap Value)/life in years
For example, a vehicle that depreciates over 5 years, is purchased at a cost of US$17,000, and will have a salvage value of US$2000, will depreciate at US$3,000 per year: ($17,000 ? $2,000)/ 5 years = $3,000 annual straight-line depreciation expense. In other words, it is the depreciable cost of the asset divided by the number of years of its useful life.
Constant Percentage Method or Declining balance Method
In this method, it is assumed that the property will lose its value by a constant percentage of its value at the beginning of every year.
Annual Depreciation, D = 1-(scrap value/original value)1/life in year
Sinking Fund Method
In this method, the depreciation of a property is assumed to be equal to the annual sinking fund plus the interest on the fund for that year, which is supposed to be invested on interest bearing investment. If A is the annual sinking fund and b, c, d, etc. represent interest on the sinking fund for subsequent years and C = total original cost, then –
Quantity Survey Method
In this method, the property is studied in detail and loss in value due to life, wear and tear, decay, obsolescence etc, worked out. Each and every step is based is based on some logical grounds without any fixed percentage of the cost of the property. Only experimental valuer can work out the amount of depreciation and present value of a property by this method.
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