What if the Company Doesn’t Purchase (or sell) the Asset at the Beginning (or end) of the Year?

What if the Company Doesn’t Purchase (or sell) the Asset at the Beginning (or end) of the Year? • Units-of-production • Multiple the depreciation rate by the actual usage • Straight-line or double-declining balance • Use the mid-year convention or count the time that the asset was in use

Midyear Convention • Companies making numerous plant asset purchases and disposals spread out evenly during the course of the fiscal year frequently use the midyear convention, which reflects depreciation expense for each asset • as if it were purchased or disposed of exactly halfway through the company’s fiscal year.

Illustration --- page 457 • PCs to Go, with a December 31 year-end, purchases its delivery truck in April 2010 and expects to dispose of it five years later in April 2015. Straight – line depreciation for each fiscal year of use would be as follows: • Refer to page 457

Revision of Estimates • A company originally assigns a useful life of seven years to a computer and, one year after the date of the purchase, realizes that it will have to replace the computer after a total of three year. • When it becomes clear that they need to make an adjustment– do the following---

Revision of estimates • Assume that on January 1, 2010, a company purchases and begins to use office equipment costing $12,000, with an expected useful life of 10 years and a salvage value of $2,000. Assuming the business uses the straight-line method of depreciation for the asset, accumulated depreciation at December 31, 2012, would be $3,000 (12,000 – 2,000)/10 X 3 = 3,000. • The carrying value would be 9,000 (12 – 3)

Continued. • If the company realizes that the equipment will last only four more years, after which its estimated salvage value will be $3,000, then depreciation expense for each of the remaining four years of the asset’s useful life would be calculated as follows: Carrying value – Revised salvage value Remaining useful life 9,000-3,000 4 years = $1,500 depreciation expense per year

What is the Process Involved in Asset Disposals? • Record depreciation to date of disposal • Remove the cost of the asset (CR) and the accumulated depreciation (DR) from the records • Record the assets received (DR) if applicable • Record the cash paid (CR) if applicable • Record the loss incurred (DR) if applicable • Record the gain (CR) if applicable

How Can a Company Dispose of an Asset Before its Useful Life is Over? • Discard---it is necessary to record a loss at the date of the disposal • Discard equipment that cost 50,000 with a 40,000 of accumulated depreciation at the date of the last balance sheet. Must pay $1,000 to have it removed. Assets = Liabilities + Owner’s Equity 2,000 = 2,000 Depreciation expense 2,000 Accumulated Depreciation 2,000

Problem continued • After the entry is posted, the accumulated depreciation account will have a $42,000 credit balance (previous balance of $40,000 plus $2,000. Second, we must recognize the removal of the equipment (book value = $8,000) and cash: • Assets = Liabilities + Owners Equity • (8,000) = (9,000) • (1,000)

Journal Entry • Accumulated Depreciation 42,000 • Loss on Disposal 9,000 • Equipment 50,000 • Cash 1,000

Sell • Sell Must be sold for equal, less than, or greater than. Recall when more net assets are received than are given up, a gain results. A loss results when fewer net assets are received than are given up.

Example Cost of Asset $80,000 Accumulated depreciation (60,000) through date of sale Carrying Value at date of sale $20,000 Assets = Liabilities + Owner’s Equity +20,000 -20,000 Selling for the same amount of net assets

Journal Entry Cash 20,000 AccumDep 60,000 Equipment 80,000

Exchange (Trade-In) Example • We have a computer that originally cost $6,000 and has accumulated depreciation of $4,500. We will trade-in this computer for a new computer with a list price of $10,000. The computer company will give us a trade-in allowance of $2,000. • Book value = $6,000 - $4,500 = $1,500. • Cash payment required = $10,000 - $2,000 = $8,000

Trade-in Example Continued • Computer received = $10,000 Less assets given up = $9,500 Gain = $500 • Entry: Computer (new) 10,000 Accumulated depreciation 4,500 Computer (old) 6,000 Cash 8,000 Gain 500

What are Depletion and Amortization? • Depletion • The cost of a natural resource is allocated to expense • Typically, units-of-production method used • Amortization • The cost of an intangible asset is allocated to expense • Typically, straight-line method is used

Homework • Exercise 16-9, 16-10, Problem 16-3

What if the Company Doesn’t Purchase (or sell) the Asset at the Beginning (or end) of the Year?