General Accounting II: Depreciation & Amortization

• General Accounting II

End-of-Period or Inventory Work: Depreciation/Amortization

• Chapter 1 discusses end-of-period or inventory work, mainly depreciation/amortization.

Depreciation Concept

• Depreciation is recognizing the decrease in an asset's value due to use, time, obsolescence, or irreversible causes.
• Depreciable asset items include:
  • Non-current asset investments (21)
  • Certain intangible assets (22) such as research, patents, trademarks, and rights
  • Tangible fixed assets (23) including buildings (232), technical installations (233), transportation (234), furniture/fittings (235), and other fixed assets (238)
• Assets not subject to depreciation are generally provisioned and include land, goodwill, and financial assets.

Fundamental Concepts

• Original Value (OV): is the acquisition cost of depreciable assets, excluding recoverable taxes.
• Acquisition cost (excluding tax) is the purchase price plus installation, assembly, and transportation costs.
• Assets produced internally are valued at their production cost.
  • Example: A technical installation with a purchase price of 500,000.00, installation costs of 20,000.00, and importation costs of 30,000.00 has an acquisition cost (OV) of 550,000.00
• The original value is the base to calculate depreciation.
• When a depreciable asset isn't eligible for tax deduction, the depreciation base is the OV (including taxes), such as a tourism car.

Amortization/Depreciation Period (n)

• The conventional depreciation period of the depreciable asset.
  • For transportation equipment: 5 years.
  • For preliminary expenses: 3-5 years.

Depreciation Rate (R)

• The depreciation rate is the basis to calculate annual depreciation.
• Formula: R = 100 / n (or n = 100 / R)
  • Example: n = 8 years, Rate = 100 / 8 = 12.50%. n = 25 years, Rate = 100 / 25 = 4%. R = 20%, n = 100/20 = 5 years.

Depreciation Allowance or Amortization Annuity

• The amount of annual depreciation, can be constant or variable, is decided by the depreciation system
• Example: A car with a value of 100,000, distributed over 5 years, has an annual depreciation of 20,000 (100,000 / 5). So after 5 years, there is 1,000,000.00.

Net Book Value (NBV)

• The amount remaining to be depreciated (or recovered) after a period of depreciation.
• Formula: NBV = OV - Σ Depreciation
  • Example: After 3 years of a car being depreciated, with depreciated amounts of 20,000 each year. 20,000.00 + 20,000.00 + 20,000.00 = 60,000.00. Thus, there is 40,000.00 left to recover. 100,000.00 - 60,000.00 = 40,000.00 (this is the NBV).

Depreciation Systems

• Different types of depreciation systems exist: linear/constant and declining.

Linear Depreciation Principles:

• A predetermined depreciation period is set.
• The NBV is considered zero at the end of the period.
• Annual allowances are calculated on the original value (OV), by dividing OV by n or multiplying OV by rate.
  • Example: A technical installation with a value of 500,000 is depreciated over 8 years.

Linear Depreciation Formula

• Method 1: Depreciation = OV / n (500,000 / 8 = 62,500)
• Method 2: Depreciation = OV x R, where R = 100 / n (R = 12.50%) . Then Depreciation = 500,000.00 x 12.50% = 62,500.00
• Depreciation is calculated from commissioning date, not acquisition date, if different.
• For tax purposes, a company can choose between the dates.

Depreciation Timing

• Prorata temporis basis needs to be used if a depreciable asset is put into service during the fiscal year, for the first and last allowances
  • First allowance = OV x Depreciation rate x (n / 12)
  • Last allowance = OV × Depreciation rate x (m / 12)
• Any fraction of a month is considered a whole month in depreciation calculations.

Declining Depreciation Principles

• Includes a conventional lifespan.
• The Net Book Value (NBV) is considered zero at the end of the period.
• The declining rate is equal to the linear rate x coefficient.
• There are three coefficients:

1. 5 for n = 3 or 4 years
2. 2 for n = 5 or 6 years
3. 3 for n strictly greater than 6 years

• Example: For a linear rate of 20%, declining rate = 20% x 2 = 40%, if assets n is for 5 years.
• If n = 8 years,
  • Linear rate = 100 / 8 = 12.50%.
  • Declining rate = 12.50% x 3 = 37.50% (because the coefficient is 3).
• First year depreciation is calculated on the original value.

Declining Allowance Calculation

• Subsequent years use the NBV.
• Formula: Always apply the prorata temporis rule.

Straight Line rate

• Declining depreciation is calculated each year until the straight-line annuity becomes greater than the declining annuity. In such a case, the straight-line rate is applied on a prorata basis to the remaining depreciation period, expressed in the number of months. StraightLine Rate (monthly) = Number of months of asset use during the fiscal year/Number of months remaining in the asset's lifespan
• If the straight-line rate exceeds the declining rate, the company uses the straight-line rate.

Accounting Treatment of Depreciation

• Record the depreciation allowances at the end of each fiscal year by:
  • Debiting an expense account: 619...619...(depreciation allowance) and 659...659 (exceptional)
  • Crediting an asset account: 28... Depreciation of... (followed by the digits of the asset account starting from the second digit)
    • Example: Transportation equipment (account 234)
      • Debit account 61934: Depreciation Allowance for transportation equipment
      • Credit account 2834: Depreciation of transportation equipment
    • Example: technical installations (account 233)
      • Debit the account 61933: Depreciation Allowance for technical installations, machinery, and equipment
      • Credit the account 2833: Depreciation of technical installations, machinery, and equipment.
• Accounting entries include:
  • Debit: Operating Depreciation Allowance(Expense)
  • Credit Accumulated Depreciation (Asset)

Accounting Treatment of Declining Depreciation

• Accounting occurs at two levels, depending on whether:
  • Tax Depreciation (TD) > Economic Depreciation (ED):
    • For the portion of ED: Debit an expense account (619 or 659), Credit an asset account (28)
    • For the excess of TD over ED: Debit account 65941 Non-current allowances, Credit account 1351 Provision
  • Economic Depreciation (ED) > Tax Depreciation (TD):
    • For the portion of ED: Debit an expense account (619 or 659), Credit an asset account (28)
    • For the excess of ED over TD: Debit account 1351 Provision, Credit account 75941 Reversals

Disposal of a Depreciable Asset

• Calculate and record extra depreciation between the beginning and disposal date
• Recognize the NBV of depreciation.
• Record the disposal product.