Changes and Corrections of Depreciation At the beginning of 2017, Holden Company
ID: 2598615 • Letter: C
Question
Changes and Corrections of Depreciation At the beginning of 2017, Holden Company's controller asked you to prepare correcting entries for the following three situations: 1. Machine X was purchased for $100,000 on January 1, 2012. Straight-line depreciation has been recorded for 5 years, and the Accumulated Depreciation account has a balance of $45,000. The estimated residual value remains at S10,000, but the service life is now estimated to be 1 year longer than originally estimated. Machine Y was purchased for $40,000 on January 1, 2015. It had an estimated residual value of $4,000 and an estimated service life of 8 years. It has been depreciated under the sum-of the-years' digits method for 2 years. Now, the company has decided to change to the straight-line method. 2. 3. Machine Z was purchased for $80,000 on January 1, 2016. Double declining-balance depreciation has been recorded for 1 year. The estimated residual value is $8,000 and the estimated service life is 5 years. The compu tation of the depreciation erroneously included the estimated residual value. Required: Prepare any necessary correcting journal entries for each situation. Also prepare the journal entry for cach situation to record the depreciation for 2017. Ignore income taxesExplanation / Answer
Situation 1: Change in the useful life of asset
When there is change in useful life of asset, the remaining value of the assets is to be depreciated over the remaining life of the asset. In this example, we first need to calculate the original useful life of the asset.
Straight line method depreciation of $45,000 has been provided in last 5 years.
Therefore, depreciation per year = $45,000/5=$9,000
Depreciation per year = (Original price of asset – Residual value)/Useful life of the asset
Therefore $9,000 = (100,000-10,000)/Useful life of the asset
Useful life of the asset = (100,000-10,000) / 9,000 = 10 years.
Original life of the asset is 10 years as per above calculations.
New remaining life of the asset = 10 years + 1 year – 5 years = 6 years.
Remaining value of the asset = $100,000-$45,000 = $55,000
Depreciation amount per year for new remaining life = (Remaining value of the asset – Residual value) / Remaining life of the asset
Depreciation per annum = (55,000-10,000) / 6 = $7,500
In this case, there is no need to pass the correcting journal. Journal entry to record the depreciation for 2017 is as follows:
Date
Particulars
Debit($)
Credit($)
December 31, 2017
Depreciation A/c --------------- Dr
To, Accumulated depreciation A/c
7,500
7,500
Situation 2: Change in the method of depreciation
In this situation, Machine Y was depreciated by sum-of-year’s digits method for 2 years. Now, the company decided to change it to Straight line method. As per US GAAP, we will depreciate the remaining value of asset over the rest of the life of asset.
First, we need to calculate the written down value of machine Y as on January 1, 2017.
Sum of year’s digit = 8+7+6+5+4+3+2+1 = 36
Particulars
Depreciation factor
Calculations
Amount ($)
Original cost of the asset
40,000
Less: Depreciation for 2015
8/36
(40,000-4,000)*8/36
(8,000)
Less: Deprecation for 2016
7/36
(40,000-4,000)*7/36
(7,000)
Written down value of the asset as at January 1, 2017
25,000
This remaining value of the asset ($25,000) will be depreciated over the remaining life of the asset.
Remaining life of the asset = 8 years – 2 years = 6 years.
Depreciation for the remaining life of the asset = (25,000-4,000)/6 = $3,500
In this case, there is no need to pass the correcting journal. Journal entry to record the depreciation for 2017 is as follows:
Date
Particulars
Debit($)
Credit($)
December 31, 2017
Depreciation A/c --------------- Dr
To, Accumulated depreciation A/c
3,500
3,500
Situation 3: Error in calculation of depreciation in the previous year
In Double-declining-depreciation method, residual value shall not be considered while calculating the depreciation. However, in this example, residual value has been considered erroneously.
Depreciation rate for Double-declining-depreciation method = 2* %Rate of straight line depreciation
In 2016, Depreciation wrongly charged considering the residual value is as follows:
Straight line method depreciation considering the residual value = (80,000-8,000) / 5 = $14,400
Wrong double declining depreciation rate = 2* (14,400/72,000*100) = 40%
Depreciation charged in the year 2016 = $72,000*40% = $28,800.
However, the depreciation that should have been charged in 2016 is as follows:
Straight line method depreciation (without residual value) = 80,000/5 = $16,000
Double declining depreciation rate = 2* (16,000/80,000*100) = 40%
Depreciation that should have been charged in the year 2016 = $80,000*40% = $32,000.
The company charged less depreciation due to error in the year 2016 by $3,200 (32,000-28,800) which has resulted in the lower of accumulated depreciation and excess retained earnings.
In this case, we need to pass correcting journal on January 1, 2017 as below:
Date
Particulars
Debit($)
Credit($)
January 1, 2017
Retained earnings A/c --------------- Dr
To, Accumulated depreciation A/c
3,200
3,200
So accumulated depreciation as on January 1,2017 after this adjustment = 28,800+3,200 = $32,000
Depreciation for the year 2017 = (80,000-32,000)*40% = $19,200
Journal entry to record the depreciation for 2017 is as follows:
Date
Particulars
Debit($)
Credit($)
December 31, 2017
Depreciation A/c --------------- Dr
To, Accumulated depreciation A/c
19,200
19,200
Date
Particulars
Debit($)
Credit($)
December 31, 2017
Depreciation A/c --------------- Dr
To, Accumulated depreciation A/c
7,500
7,500
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