Definition and
Explanation:
This method is introduced by
American accountants. It is an improvement over
diminishing balance method of depreciation. Here
also the depreciation charge constantly reduces.
This method is normally applied to fairly long lived
assets. Unlike the diminishing balance method, a
constantly decreasing rate is applied on the
original cost. Hence the original book value is,
like straight line method, reducible to zero. The
determination of rate of depreciation is very
simple. It simply sums up the years in an asset's
lifespan to be used as denominator, and reverses the
individual year numbers to be used as numerator.
Example:
Suppose the cost, residual value and life of the asset
are :
Cost |
$75,000 |
Residual value |
$3,000 |
Life of the asset |
8
Years |
|
The
denominator will be:
1 + 2 + 3 + 4 + 5 + 6 + 7 + 8 = 36
The numerators from first to 8th
year will respectively be 8 + 7 + 6 + 5 + 4 + 3 + 2
+ 1. Applying the rate to the depreciable cost
'original cost - residual value' i.e., $72,000, the
depreciation charges for the first eight years will
be:
Year |
Opening book
value |
Depreciable
cost |
Rate |
Depreciation |
Total
depreciation |
Written down
value |
1 |
75,000 |
72,000 |
8/36 |
16,000 |
16,000 |
59,000 |
2 |
59,000 |
72,000 |
7/36 |
14,000 |
30,000 |
45,000 |
3 |
45,000 |
72,000 |
6/36 |
12,000 |
42,000 |
33,000 |
4 |
33,000 |
72,000 |
5/36 |
10,000 |
52,000 |
23,000 |
5 |
23,000 |
72,000 |
4/36 |
8,000 |
60,000 |
15,000 |
6 |
15,000 |
72,000 |
3/36 |
6,000 |
66,000 |
9,000 |
7 |
9,000 |
72,000 |
2/36 |
4,000 |
70,000 |
5,000 |
8 |
5,000 |
72,000 |
1/36 |
2,000 |
72,000 |
3,000 |
|
Formula:
Sum of year's digits can be easily
computed by the following formula:
S = n (n + 1)/2
Where:
S = Sum of years
n = number of years of
useful life of assets.
Applying it when n = 8
years.
S = 8 (8 + 1)/2 = 72/2
or 36 |
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