On August 3, CInco Construction purchased special-purpose equipment at a cost of

Question

On August 3, CInco Construction purchased special-purpose equipment at a cost of $ 9,290,500. The useful life of the equipment was estimated to be eight years, with an estimated residual value of $ 89,830. a.) Compute the depreciation expense to be recognized each calendar year for financial reporting purposes under the straight-line depreciation method (half- year convention). b.) Compute the depreciation expense to be recognized each calendar year for financial reporting purposes under the 200 percent declining-balance method (half-year convention) with a switch to straight-line when it will maximize depreciation expense. c.) Which of these two depreciation methods (straight-line or double-declining-balance) results in the highest net income for financial reporting purposes during the first two years of the equipment's use? Required A: Year l Straight-Line(half-year convention) 1 575,042 2 3 4 5 6 7 8 9 Totals $ 575,042 Required B: Year l 200% Declining-Balance (Half-Year Convention) 1 2 3 4 5 6 7 8 9 Totals $0 Required C: Depreciation method which results in the net income for the first two years is? Double-declining balance or Straight-line?

Explanation / Answer

a) Depreciation expense=(Original cost-salvage value)/useful life=(9290500-89830)/8=1150084 Year Depreciation expense Book value 1 575042 8715458 (1150084*1/2) (9290500-575042) 2 1150084 7565374 3 1150084 6415290 4 1150084 5265206 5 1150084 4115122 6 1150084 2965038 7 1150084 1814954 8 1150084 664870 9 575042 89828 (Salvage value) b) Depreciation rate=200% of straight line rate=200%*[(1/8 )*100]=25% Depreciation expense=Book value*25% Year Depreciation expense Book value 0 9290500 1 1161313 8129188 (9290500*0.25)*1/2 (9290500-1161313) 2 2032297 6096891 3 1524223 4572668 4 1143167 3429501 5 857375 2572126 6 643031 1929094 7 613088 1316006 8 613088 702918 9 613088 89830 (Salvage value) Note From year 7 onwards switch to straight line method Since depreciaion under diminishing balance method is less than straight line depreciation For year 7 Depreciation under diminishing balance method=1929094*0.25=482274 Depreciation understraight line method=575042 (Half-year ) Depreciation from year 7=(Remaining book value-Salvage value)/Remaining life=(1929094-89830)/3=613088 c) For the first 2 years Depreciation expense is lower under straight line method.Hence this will give higher net income

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