In its first year of business, Solinger Company purchased land, a building, and equipment on November 5, 2016, for $700,000 in total. The land was valued at $262,500, the building at $337,500, and the equipment at $150,000. Additional information on the depreciable assets follows:
Asset Residual Value Useful Life in Years Depreciation Method
Building…………$15,000……………………60…………………………Straight-line
Equipment………..15,000……………………..8………...Double diminishing-balance
Instructions
(a) Allocate the purchase cost of the land, building, and equipment to each of the assets.
(b) Solinger has a December 31 fiscal year end and is trying to decide how to calculate
Depreciation for assets purchased during the year. Calculate depreciation expense for the building and equipment for 2016 and 2017 assuming:
1. Depreciation is calculated to the nearest month.
2. A half-year’s depreciation is recorded in the year of acquisition.
(c) Which policy should Solinger follow in the year of acquisition: recording depreciation to the nearest month or recording a half year of depreciation?
Taking It Further
Suppose that Solinger decided to use the units-of-production depreciation method instead of diminishing-balance for its equipment. How would this affect your answer to part (c) above?
SOLUTION
(a)
| Appraised Value | % of Total | Cost Allocated |
|---|
| Land | $262,500 | 35% | $245,000 |
| Building | 337,500 | 45% | 315,000 |
| Equipment | 150,000 | 20% | 140,000 |
| $750,000 | | $700,000 |
(b)
Building: Straight-line
(1) To the nearest month
End of Year
Depreciable Depr. Depr. Accum. Carrying
Year Amount* × Rate = Expense Depr. Amount
$315,000
2016 $300,000 1/60 × 2/12 $833 $833 314,167
2017 300,000 1/60 5,000 5,833 309,167
* $315,000 − $15,000 = $300,000
(2) Half a year in the year of acquisition
End of Year
Depreciable Depr. Depr. Accum. Carrying
Year Amount* × Rate = Expense Depr. Amount
$315,000
2016 $300,000 1/60 × 6/12 $2,500 $2,500 312,500
2017 300,000 1/60 5,000 7,500 307,500
Equipment: Double diminishing-balance
(1) To the nearest month
Carrying Amount End of Year
Beginning Depr. Depr. Accum. Carrying
Year of Year × Rate* = Expense Depr. Amount
$140,000
2016 $140,000 25% × 2/12 $5,833 $5,833 134,167
2017 134,167 25% 33,542 39,375 100,625
* 200% ÷ 8 = 25%
(2) Half a year in the year of acquisition
Carrying Amount End of Year
Beginning Depr. Depr. Accum. Carrying
Year of Year × Rate = Expense Depr. Amount
$140,000
2016 $140,000 25% × 6/12 $17,500 $17,500 122,500
2017 122,500 25% 30,625 48,125 91,875
(c) Both options are acceptable. When deciding between the two policies, Solinger should consider, for purpose of consistency, the policy used in the past. Since this is the first year of business, Solinger should consider what other categories or types assets it will be purchasing in the future that will be depreciated using this policy. If for example, the remaining categories of assets will be depreciated using the units-of-production method, the choice will not matter. The impact of the choice will not be significant in the long run, particularly if the assets are bought and sold frequently. Also, the impact is insignificant for assets with very long useful lives, as is demonstrated in part (b) for the building. No matter the choice taken by Solinger, the policy must be followed consistently.
Taking It Further:
If Solinger had decided to use the units-of-production method instead of the diminishing-balance method for depreciating its equipment, the decision between the adoption of a policy for depreciating to the nearest month or half a year in the year of acquisition would not matter. When using the units-of-production method, the calculation of depreciation is not calculated as a function of the time the asset is used but is based on the amount of use that is being made of the asset, which in turn is based on some units of output or production. There is no pro-ration for time used in the units-of-production method.