What is a Depreciation Method?
A depreciation method is a system used to allocate the cost of a tangible asset over its useful life. The purpose of depreciation is to match the cost of the asset with the revenue it generates.
TL;DR
Depreciation Method: It’s a system to spread the cost of a tangible asset over its useful life, aligning cost with generated revenue.
Common Methods: Straight-line (even allocation), Declining balance (front-loaded), and Units-of-production (based on production) are popular choices.
Advantages: Straight-line is simple, declining balance accelerates tax benefits, and units-of-production closely matches value decline.
Disadvantages: Straight-line may not closely match value decline, declining balance might fully depreciate an asset early, and units-of-production can be complex to calculate.
There are a number of different depreciation methods, each with its own advantages and disadvantages. The most common depreciation methods are:
- Straight-line depreciation: This method allocates the cost of an asset evenly over its useful life. It is the simplest and most straightforward method of depreciation.
- Declining balance depreciation: This method allocates a greater amount of depreciation in the early years of an asset’s life and a smaller amount of depreciation in the later years. This method can be used to accelerate the tax benefits of depreciation.
- Units-of-production depreciation: This method allocates depreciation based on the number of units produced by an asset. This method is used for assets that are used to produce a product or service.
The method of depreciation that is used will depend on the specific asset and the company’s accounting policies.
Here is a table summarizing the three most common depreciation methods:
| Depreciation Method | Description | Advantages | Disadvantages |
| Straight-line depreciation | The cost of the asset is allocated evenly over its useful life. | Simplest and most straightforward method. | Depreciation expenses are not as closely aligned with the asset’s decline in value. |
| Declining balance depreciation | A greater amount of depreciation is allocated in the early years of an asset’s life and a smaller amount of depreciation in the later years. | Can be used to accelerate the tax benefits of depreciation. | The asset may be fully depreciated before it is no longer useful. |
| Units-of-production depreciation | Depreciation is allocated based on the number of units produced by an asset. | Depreciation expenses are more closely aligned with the asset’s decline in value. | Can be more complex to calculate than other methods. |
