Another method is reducing balance depreciation, which is used when the fixed assets gradually loses value so it’s difficult to predict how long it can be used for. If a van costs $10,000, 20% ($2,000) could be depreciated in the first year, resulting in a balance of $8,000. Then in the second year, 20% is taken from the reduced balance of $8,000 (rather than the original value of the van), which would be $1,600 rather than $2,000 since the van decreases in value each year and is no longer of the same quality of the year before.
Year | Asset value | Reducing balance | Depreciation | Accumulated depreciation |
1 | $10,000 | 20% | $2,000 | $2,000 |
2 | $8,000 | 20% | $1,600 | $3,600 |
3 | $6,400 | 20% | $1,280 | $4,880 |
4 | $5,120 | 20% | $1,024 | $5,904 |
Anyone reading your financial statements can get a good idea of how well your assets are doing by looking at your accumulated depreciation. If they see that your assets are close to being fully depreciated, they know you will soon need to spend a significant amount of money on replacing or repairing these assets. Asset depreciation can be accelerated if you believe that the asset won’t be used evenly over its lifetime, because it might be used more often in its earlier years, for example. Depending on the type of accounting system used (i.e. computerized or manual), the amount may be calculated automatically or you will have to make the adjustments by hand.