Ch 9.2 Depreciation Flashcards
1
Q
what is the cost model
A
records PPE at cost when acquired
-> after acquisition accountants will record depreciation in each period and carry assets at cost- depreciaiton
2
Q
what is depreciaiton
A
systematic allocation of the cost of PPE over assets useful life
3
Q
how is depreciation recorded in JE
A
dr depreciaiton expense
cr acc. deprecaition
4
Q
how to calculate carrying amount
A
cost-aacc depreciaiton
5
Q
what is the useful life of land
A
unlimited/infinite
6
Q
what happens at the end of depreciaiton
A
assets gets derecognized (Removed from accounts)
7
Q
By recording depreciation, accountants are allocating the cost of the asset to depreciation expense over its useful life, matching this expense with the expected use of the asset’s future economic benefits.
A
!
8
Q
depreciation is a process of allocating cost, not a process of determining an asset’s fair value
A
depreciation is a process of allocating cost, not a process of determining an asset’s fair value
9
Q
do companies care about an increase in ana ssets fair value, if the ASSET is PPE?
A
no! because PPE is not often being re-sold
10
Q
when are fair values important under the cost model
A
only if impairment loss has occured
11
Q
does depreciation affect cash
A
! no! it is a non-cash expense and does not involve cash being est asside for asset replacement
12
Q
what does acc depreciaiton represent
A
how much of an assets cost has been expensed to date
13
Q
what 3 factors affectdepreciaiton calcualtion
A
1) cost : cost of ppe, costs necessary to get asset ready for use, estimated asset retirement costs
2)useful life: either the time where asset is useful, or number of units that can be produced from asset
3)residual value:estimate of money company will receive from disposing asset at end of useful life
14
Q
is the residual value of an asset ever depreciaited
A
no! since it is expected to be recovered at the end of assets useful life
15
Q
What is the depreciable amount formula
A
asset-residual value= depreciable amount
16
Q
what is the ASPE equivalent of depereciable amount
A
amortizable ammounts
17
Q
what are 3 methods of calcualitng deperecation
A
1) straight line
2) diminishing balance
3) units of production
18
Q
can the diff depreciation methods result in diff depreciation amounts
A
-> can result in different amounts of depreciation recorded in each year of useful life
but at the end will all be the same
19
Q
Management must choose the depreciation method that best reflects the pattern in which it will consume or use up the asset’s future economic benefits over time. Once a company chooses a depreciation method, it should apply that method consistently over the asset’s useful life.
A
word
20
Q
straight line depreciation method
A
cost- residual value= depreciable amount
depreciable amount/useful life= depreciation expense
21
Q
striagh tline depreciaiton in percents
A
100% / 5 years= 20%
22
Q
what do the depreciation expenses look lik eyear over year for straight line deperectiaiton
A
same amount expensesd every year
23
Q
What happens to depreciation when a company does not buy an asset at the beginning of the fiscal year, as in our example, but purchases it later in the year? In such cases, it is necessary to pro-rate the annual depreciation for the part of the year when the asset is available for use. If Mobile Pet Groomers bought the van on April 1 rather than January 1, the van would be in use for nine months in 2024 (April through December). The depreciation for that year would be . A company usually calculates depreciation to the nearest month. If the company bought the van in the last half of March or the first half of April, we would still depreciate the van over nine months. Since depreciation is only an estimate, calculating it to the nearest day is not necessary and gives a false sense of accuracy.
A
24
Q
o keep things simple, some companies use a convention for partial-period depreciation rather than calculating depreciation monthly. For example, a company may choose to allocate a full year’s depreciation in the year of acquisition and none in the year of disposal. Another company may record a half-year’s depreciation in the year of acquisition and a half-year’s depreciation in the year of disposal. Whatever policy a company chooses for partial-year depreciation, the impact is not significant over time because the company applies the policy consistently.
A
o keep things simple, some companies use a convention for partial-period depreciation rather than calculating depreciation monthly. For example, a company may choose to allocate a full year’s depreciation in the year of acquisition and none in the year of disposal. Another company may record a half-year’s depreciation in the year of acquisition and a half-year’s depreciation in the year of disposal. Whatever policy a company chooses for partial-year depreciation, the impact is not significant over time because the company applies the policy consistently.
25
what assets do companies apply the straight line method to?
assets witha constant pattern of use (builidngs and furtniture)
26
what is the diminising balance method
annual depreciaiton expense amount decreases every year, higher in early years but lower in later years
calculated using the asset’s carrying amount,
27
why is it called dimnishing balance method
becuase dpereciation calcualted using the carrying amount, which shrinks every year
28
under dimibinshing balance method:
Companies do not use the residual value when calculating depreciation under this method. Nonetheless, residual value is relevant, and companies must remember not to record any depreciation on this value. In other words, companies must ensure that the asset's carrying amount does not fall below its residual value.
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The diminishing-balance method can use different depreciation rates, usually based on multiples of the straight-line depreciation rate expressed in percentage terms. You will find rates such as one time (single), two times (double), and even three times (triple) the straight-line rate of depreciation. A common diminishing-balance method is the double-diminishing-balance method, which uses a depreciation rate that is double the straight-line rat
The diminishing-balance method can use different depreciation rates, usually based on multiples of the straight-line depreciation rate expressed in percentage terms. You will find rates such as one time (single), two times (double), and even three times (triple) the straight-line rate of depreciation. A common diminishing-balance method is the double-diminishing-balance method, which uses a depreciation rate that is double the straight-line rat
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formula for determining the straight line depreciaiton
1) taking 100% and dividing it by assets useful life in years
2) multiply straight line depreciaiton rate by 2 to determine the double diminishing-balance depreciation rate.
3)Multiply the carrying amount of the asset at the beginning of the period by the rate from Step 2.
31
what is the formula for diminishing balance method
carrying amt at begin of yearr * depreciaiton rate= depreciation expense
dep rate= straight line rate * multipleir
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The diminishing-balance method is known as an accelerated depreciation method because it results in a higher depreciation expense in the early years than the straight-line method does
The diminishing-balance method is known as an accelerated depreciation method because it results in a higher depreciation expense in the early years than the straight-line method does
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Units of production metod
useful life using a measure of output, such as units produced, or a measure of use, such as machine hours worked, rather than the number of years that the asset is expected to be used
34
what is the units of production depereciation expense used for
machinery where companies can measure production in terms of units produced or for vehicles where companies cna measure usage in km driven
35
units of production method steps
1) Estimate the units of production in total over the asset's entire useful life.
2) Divide the depreciable amount (cost less residual value) by the estimated units of production to determine the depreciation rate per unit.
3)Multiply the depreciation rate per unit by the units of production during the period to determine the depreciation expense.
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Formula for units of production method
cost-residual value= depreciable amt
depreciable amt / estimated total units of production = depreciation rate per unit
depreciation rate per unit * units of production during the year= depreciation expense
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we must remember to round the depreciable rate per unit to two decimal places (to the nearest cent)
we must remember to round the depreciable rate per unit to two decimal places (to the nearest cent)
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If a company acquires a depreciable asset during the year, the units-of-production method is easy to apply because adjustments for partial periods of use are reflected in units produced. For example, if Mobile Pet Groomers had purchased the van on April 1 instead of January 1, the only kilometres driven during the year were those driven after April 1, so the company does not need to use a ratio for the portion of year in use to calculate depreciation under this method, because the number of kilometres driven since April is already pro-rated.
If a company acquires a depreciable asset during the year, the units-of-production method is easy to apply because adjustments for partial periods of use are reflected in units produced. For example, if Mobile Pet Groomers had purchased the van on April 1 instead of January 1, the only kilometres driven during the year were those driven after April 1, so the company does not need to use a ratio for the portion of year in use to calculate depreciation under this method, because the number of kilometres driven since April is already pro-rated.
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As discussed earlier, straight-line depreciation results in the same amount of expense each year on the statement of income. Diminishing-balance results in higher expenses, and therefore lower net income in the early years of the asset's useful life. It also results in lower expenses and higher net income in later years. Results for the units-of-production method vary each year depending on the actual usage of the asset.
As discussed earlier, straight-line depreciation results in the same amount of expense each year on the statement of income. Diminishing-balance results in higher expenses, and therefore lower net income in the early years of the asset's useful life. It also results in lower expenses and higher net income in later years. Results for the units-of-production method vary each year depending on the actual usage of the asset.
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Also notice the inverse relationship between depreciation and the carrying amount of the van. With an accelerated method like double-diminishing-balance, because depreciation is higher in the earlier years, the carrying amount is lower in those years. Of course, the choice of depreciation method has no impact on cash flow.
Also notice the inverse relationship between depreciation and the carrying amount of the van. With an accelerated method like double-diminishing-balance, because depreciation is higher in the earlier years, the carrying amount is lower in those years. Of course, the choice of depreciation method has no impact on cash flow.
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look at the grpahs
42
revising depreciation
Revising DepreciationWhen estimates regarding an asset’s useful life and/or residual value change, management will need to revise the amount of depreciation the company will record. When these estimates change, depreciation for the current and future years will change. A change in estimate does not require adjustments to depreciation recorded in the past, before the revision was made. In other words, a company will apply the effect of a revision on a prospective basis, not on a retrospective (or retroactive) basis. Prospective treatment is applied to all changes in estimates. We saw this in Chapter 8 when estimating the balance needed in the allowance for expected credit losses, where revisions were made prospectively, affecting the current year’s credit losses and the credit losses in subsequent years.Accounting for revisions can be complex, and we will limit our coverage of this topic to revisions relating to changes in the useful life and/or residual values when using the straight-line method. To determine the new annual depreciation expense, the company first calculates the asset’s depreciable cost at the time of the revision. This will now be equal to carrying amount at the revision date less any revised residual value. It then allocates the revised depreciable cost to the remaining life of the asset.For example, at the end of 2025, Mobile Pet Groomers’ van has a carrying amount of $21,000 (cost of $33,000 less $12,000 of depreciation over the past two years when using the straight-line method). At the beginning of 2026, management changed its estimate of the asset’s residual value to $1,000 from $3,000 and estimated that the van had a remaining useful life of four years instead of three years. The annual depreciation expense for 2026, 2027, 2028, and 2029 would be $5,000 per year as presented in Illustration 9.18.
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formula revised depreatiocin expense
(carrying amt- revised residual value) / emaining life in eyars
44
impairments
vAs noted earlier, after a company acquires property, plant, and equipment, its carrying amount is rarely equal to its fair value. Remember that the cost model assumes that fair value is not relevant to users as the property, plant, and equipment was purchased to use in operations over the long term, rather than for resale. The fair value of these assets usually exceeds their carrying amount because of depreciation. But if the reverse were true, it would not be representationally faithful to report assets on the statement of financial position at their carrying amounts because that would overstate their value. When an asset’s fair value is less than its carrying amount, it is considered to be impaired, and companies must record an impairment loss (see Alternative Terminology), as shown in Illustration 9.19, and reduce the asset’s carrying amount to its fair value. This is similar to reducing an inventory balance when its net realizable value is less than its cost, as we learned in Chapter 6.
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An impairment loss is also known as a writedown.
An impairment loss is also known as a writedown.
46
impairment loss formul
carrying amt- fair value= impairment loss
47
JE for impairment loss
Dr Impairment Loss
Cr AD-Equipment/ bUILDING etc.
48
On a regular basis, companies must determine if there are indicators of impairment, such as asset obsolescence or reduced demand for the products produced by an asset. Data analytics can play a useful role in identifying some of these indicators. If there are no indicators present, further testing for impairment is not required. However, if indicators are present, management must perform an impairment test. This involves determining the asset’s recoverable amount, which is the greater of the asset’s “fair value less costs to sell” or its “value in use.” Value in use is similar to fair value, but due to the complexity of measuring value in use, we will leave its coverage to a more advanced accounting course. For purposes of this text, we will use the term fair value to indicate the recoverable amount.Impairment losses are usually recognized by debiting an Impairment Loss account, shown on the statement of income as an operating expense, and by crediting the respective asset’s Accumulated Depreciation account. If the impairment loss relates to land, the credit is recorded directly to the land account as there is no related Accumulated Depreciation account. Because impairment losses reduce the carrying amount of an asset, they also reduce the base for determining future depreciation of depreciable assets and require a revision of the depreciation estimate as described earlier in this section. Other methods for recording impairment losses are possible, and you will cover these alternatives in more advanced accounting courses. Similar to the inventory writedowns that you saw in Chapter 6, companies can reverse most impairment losses under IFRS, although this does not occur often. We will leave coverage of impairment reversals to more advanced accounting courses. ASPE Companies cannot reverse impairment losses on property, plant, and equipment under ASPE.
On a regular basis, companies must determine if there are indicators of impairment, such as asset obsolescence or reduced demand for the products produced by an asset. Data analytics can play a useful role in identifying some of these indicators. If there are no indicators present, further testing for impairment is not required. However, if indicators are present, management must perform an impairment test. This involves determining the asset’s recoverable amount, which is the greater of the asset’s “fair value less costs to sell” or its “value in use.” Value in use is similar to fair value, but due to the complexity of measuring value in use, we will leave its coverage to a more advanced accounting course. For purposes of this text, we will use the term fair value to indicate the recoverable amount.Impairment losses are usually recognized by debiting an Impairment Loss account, shown on the statement of income as an operating expense, and by crediting the respective asset’s Accumulated Depreciation account. If the impairment loss relates to land, the credit is recorded directly to the land account as there is no related Accumulated Depreciation account. Because impairment losses reduce the carrying amount of an asset, they also reduce the base for determining future depreciation of depreciable assets and require a revision of the depreciation estimate as described earlier in this section. Other methods for recording impairment losses are possible, and you will cover these alternatives in more advanced accounting courses. Similar to the inventory writedowns that you saw in Chapter 6, companies can reverse most impairment losses under IFRS, although this does not occur often. We will leave coverage of impairment reversals to more advanced accounting courses. ASPE Companies cannot reverse impairment losses on property, plant, and equipment under ASPE.
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natural resources
Companies that develop and produce natural resources (which, for accounting purposes, do not include agricultural products), particularly the mining, forestry, and oil and gas industries, play a significant role in the Canadian economy. Most natural resource assets are tangible and are initially recorded at their cost. However, natural resources do not retain their physical properties as companies consume them over time and, because of this, they are also called “wasting assets.” Natural resource–based assets are depreciated over their useful lives, but for these assets depreciation is called depletion. Consequently, companies will use accumulated depletion accounts rather than accumulated deprecation accounts for their natural resource assets like mines and oil wells. It is common for natural resources to be depleted using the units-of-production method because production levels of these resources can vary from year to year. This method will be used in this text.Companies depleting natural resources face a challenge in estimating the total number of units that the asset will produce over its useful life. For example, it is more difficult to determine the ounces of gold that a mine will produce over its useful life than it is to estimate the number of kilometres that a truck will be driven. Because it is quite common for the reserves of these resources to fall over time, if the fair value of these natural resource assets becomes lower than their carrying amount, this triggers an impairment loss like those recorded for other tangible assets.Accounting for natural resources is a specialized accounting topic and, other than the concept and calculation of depletion and impairment introduced above, will not be dealt with in further detail in this textbook.
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significant componensts
When an item of property, plant, and equipment includes individual components that have different useful lives, we need to account for the components (if material) separately rather treating the item as a single asset.
This separation allows companies to depreciate each component over its respective useful life. Companies can use different depreciation methods for different components if they deliver different patterns of economic benefits. For example, Cargojet records the aircraft body and the engine separately rather than combining them into a single aircraft account. The company then depreciates the aircraft bodies over 20 to 50 years, while depreciating the engines over 4 to 15 years, all using the straight-line method.We will leave further discussion of calculating depreciation for the different parts of an asset to your intermediate accounting course. For simplicity, this text will assume that all components of a depreciable asset have the same useful life and use the same depreciation method, enabling the asset to be depreciated as a whole.
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Depreciation and Income Tax
For accounting purposes, management determines the method of depreciation to use and estimates the useful life and residual value of assets. However, the Canada Revenue Agency (CRA) requires that, for income tax purposes, depreciation amounts be determined using tax regulations rather than management estimates. For this reason, when preparing a tax return and determining taxable income, companies cannot deduct the depreciation expense reported on the statement of income. Instead, they must deduct the income tax version of depreciation, known as capital cost allowance (CCA). In determining CCA, the CRA normally permits only the use of the diminishing-balance method of depreciation. In addition, companies must group assets into various classes and use specified CCA rates for each asset class for income tax purposes. This removes all management estimates from these calculations.
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Revaluation Model
As previously mentioned, under IFRS companies can choose to account for property, plant, and equipment under either the cost model or the revaluation model. We have been describing the cost model in this chapter because most companies use this model. The revaluation model is used on a limited basis—primarily by companies in the real estate industry, where fair values are more relevant than cost. As mentioned above, ASPE does not allow use of the revaluation model.Under the revaluation model, the carrying amount of property, plant, and equipment is adjusted regularly to reflect its fair value. This model can be applied only to assets that have fair values that can be reliably measured. Companies do not have to revalue assets each year as long as the reported carrying amount is not materially different from the asset’s fair value. Because a revaluation affects the asset’s carrying amount, it will affect the depreciation for periods subsequent to the revaluation (see Decision Tool).
When using the cost model, companies record impairment losses (and any allowable reversals of impairment losses) on the statement of income. With the revaluation model, revaluation gains or write-ups are also recorded, but these are not recorded on the statement of income. Instead, companies record these in other comprehensive income on the statement of comprehensive income. Any reversals of these revaluation gains or write-ups are also recorded in other comprehensive income. Because the revaluation model is relatively complex, and few companies use this model, we will leave further discussion of it to a later accounting course
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