In accounting, book depreciation is the total value of accumulated depreciation expenses as they are reflected in the financial statements. Although it is considered an expense, the company will not actually spend cash on book depreciation. It is, more specifically, a contra asset that is used to show the depreciating value of the company's fixed assets. Financial reports generally use book depreciation to show the company's stakeholders the current value of its assets.
Some companies tend to keep two accounting ledgers. The first book is regularly used to record the total accumulated depreciation, while the second book records the depreciation expenses just for a particular accounting period. On average, the book with the depreciation expenses is used for tax deductions.
The same asset's book depreciation rate can differ depending on the method used to calculate it. There are four types of depreciation methods regularly used in depreciation accounting: straight line, declining balance, sum of year, and unit of production. While the yearly rate may vary, all methods will eventually reduce the asset's value to zero.
Straight line depreciation is comparatively the simplest of the all the methods. To calculate it, the asset's salvage value is first deducted from its purchase cost. Salvage value is how much an asset can be sold for after it is fully depreciated. The difference is then divided by number of years the asset is expected to be productive.
An asset's estimated useful life is normally determined by the company that owns it. In case the company is uncertain about this, a depreciation schedule is usually available on the country's revenue department where the business operates. In the United States, this information can be accessed on the Internal Revenue Service (IRS).
In addition to the depreciation schedule, the revenue department may also indicate which method is recommended for each type of asset. The Modified Accelerated Cost Recovery System (MACRS) is the depreciation method employed by the IRS. MACRS recognizes only the straight line and declining balance methods for use in tax deductions.
Declining balance depreciation and sum of year depreciation are two modes of accelerated depreciation. They function on the rationale that an asset is more productive during the early phase of its life. As a result, depreciation expense is highest on the first years and declines on the subsequent years.
Under the unit of production depreciation, book depreciation is calculated by determining the number of units the asset can produce on a given accounting period. The number is then multiplied by the depreciation cost of each unit to get the total depreciation expense. For example, one can consider a shirt printing machine that originally costs $10,000 US Dollars (USD), and can print 1,000 shirts every year. If each shirt has a depreciation cost of $1.50 USD, it will be multiplied by 1,000 which will give a depreciation cost of $1,500 USD.
