Chapter 9, Problem 3BP

a)

To determine

Calculate depreciation expense of shelving for the years 2015 through 2018 under each of the following depreciation methods:

1. 1. Straight-line, with fractional years rounded to the nearest whole month.
2. 2. 200 percent declining-balance, using the half-year convention.
3. 3. 150 percent declining-balance, using the half-year convention.

Explanation of Solution

1.

Straight-line depreciation: Under the straight-line method of depreciation, the same amount of depreciation is allocated every year over the estimated useful life of an asset. The formula to calculate the depreciation cost of the asset using the residual value is shown as below:

$\text{Depreciation = }\frac{\left(\text{Cost of the asset}-\text{Residual value}\right)}{\text{Estimated useful life of the asset}}$

Compute depreciation expense for the years 2015 through 2018 under straight-line, with fractional years rounded to the nearest whole month.

Step 1: Calculate the acquisition cost of the furniture.

Particulars	Amount ($)
Cost of furniture	$11,000
Freight charges	375
Sales taxes	550
Installation charges	75
Total cost to be depreciated	$12,000

Table (1)

Step 2: Compute depreciation expense for the years 2015 through 2018 under straight-line, with fractional years rounded to the nearest whole month.

Year	Computation	Depreciation Expense	Accumulated Depreciation	Book Value
2015	($16,000$÷$10) (8$÷$12)	$800	$800	$11,200
2016	$16,000$÷$10	1,200	2,000	10,000
2017	$16,000$÷$10	1,200	3,200	8,800
2018	$16,000$÷$10	1,200	4,400	7,600

Table (2)

Note: In 2015, the furniture are used only for 8 months (May to December)

2.

200 percent declining balance method (Accelerated method): In this method of depreciation, the diminishing value of the asset is taken into consideration for determining the depreciation for the succeeding years.

Formula:

$\text{200 percent declining-balance = }\left(\text{Cost of the asset}\right)\times \frac{200\%}{\text{Useful Life}}$

Compute depreciation expense for the years 2015 through 2018 under the 200 percent declining-balances, using the half-year convention.

Step 1: Compute depreciation rate for 200 percent declining balance method.

$\begin{array}{c}\text{Depreciation rate for 200 percent declining-balance = }\frac{200\%}{\text{Useful Life}}\\ =\frac{200\%}{10\text{years}}\\ =20\%\end{array}$

Step 2: Compute depreciation expense for the years 2015 through 2018 under the 200 percent declining-balances, using the half-year convention.

Year	Computation	Depreciation Expense	Accumulated Depreciation	Book Value
2015	$12,000 $\times$ 20% $\times$(1$÷$2)	$1,200	$1,200	$10,800
2016	10,800$\times$20%	2,160	3,360	8,640
2017	8,640$\times$ 20%	1,728	5,088	6,912
2018	$6,912$\times$ 20%	1,382	6,470	5,530

Table (3)

3.

150 percent declining balance method (Accelerated method): In this method of depreciation, the diminishing value of the asset is taken into consideration for determining the depreciation for the succeeding years.

Formula:

$\text{150\% declining-balance = }\left(\text{Cost }-\text{Accumulated Depreciation}\right)\times \frac{150\%}{\text{Useful Life}}$

Compute depreciation expense for the years 2015 through 2018 under the 150 percent declining-balances, using the half-year convention.

Step 1: Calculate depreciation rate for 150 percent declining balance method.

$\begin{array}{c}\text{Depreciation rate for 150 percent declining-balance = }\frac{150\%}{\text{Useful Life}}\\ =\frac{150\%}{10\text{years}}\\ =15\%\end{array}$

Step 2: Compute depreciation expense for the years 2015 through 2018 under the 150 percent declining-balances, using the half-year convention.

Year	Computation	Depreciation Expense	Accumulated Depreciation	Book Value
2015	$12,000$\times$15%$\times$(1$÷$2)	$900	$900	$11,100
2016	11,100$\times$ 15%	1,665	2,565	9,435
2017	9,435$\times$ 15%	1,415	3,980	8,020
2018	8,020$\times$ 15%	1,203	5,183	6,817

Table (4)

b)

To determine

Explain the way the management could report the highest possible earnings in its financial statements, and can minimize its taxable income reported to the IRS as well.

Explanation of Solution

To report the highest possible earnings the management can use straight line method of depreciation.

To minimize its taxable income reported to the IRS, the management can use accelerated depreciation methods like MACRS (Modified Accelerated Cost Recovery System).

By following the above methods, management will achieve its both objectives without any conflict.

c)

To determine

Identify the depreciation method that will result in the lower reported book value at the end of 2018, and explain whether the book value is a fair value of the asset or not.

Explanation of Solution

200 percent declining-balance is the depreciation method that will result in the lower reported book value ($5,530) at the end of 2018.

Depreciation is a process of allocation of cost of the asset, not a process of valuation of the asset’s fair value. Hence, the book value of the furniture is not the fair value of it.

d)

To determine

Journalize the sale of the old shelving under the following conditions:

1. 1. The furniture was sold for $780 cash.
2. 2. The furniture was sold for $250 cash.

Explanation of Solution

1.

Journalize the sale of the old furniture for $780 cash.

Date	Account title and Explanation	Post Ref.	Debit ($)	Credit ($)
	Cash		780
	Accumulated depreciation: Furniture		2,600
	Furniture			3,000
	Gain on disposal of assets			380
	(Record the sale of the old furniture for $780 cash)

Table (5)

Description:

• Cash (asset account) is increased. Hence it is debited.
• Accumulated depreciation is a contra asset. It is decreased. Hence, it is debited.
• Furniture (asset account) is decreased. Hence, it is credited.
• Gain on disposal of assets (increases the stockholders equity) is increased. Thus, it is credited.

2.

Journalize the sale of the old furniture for $250 cash.

Date	Account title and Explanation	Post Ref.	Debit ($)	Credit ($)
	Cash		250
	Accumulated depreciation: Furniture		2,600
	Loss on disposal of asset		150
	Furniture			3,000
	(Record the sale of the old furniture for $250 cash)

Table (5)

Description:

• Cash (asset account) is increased. Hence it is debited.
• Accumulated depreciation is a contra asset. It is decreased. Hence, it is debited.
• Loss on disposal of assets (decreases the stockholders equity) is increased. Thus, it is debited.
• Furniture (asset account) is decreased. Hence, it is credited.

Working note:

Calculate the accumulated depreciation of old furniture:

Original cost of the furniture	$3,000
Less: book value	($400)
Accumulated depreciation of old furniture	$2,600

Table (6)