CHAPTER 36 DEPRECIATION Concept of depreciation Property, plant and equipment, except land, normally are usable for a number of years after which the assets have relatively little value either for service or for sale. [he difference between the original cost of a property and any remaining value when it is retired or worn out is an expense that should be distributed to the periods during which the asset is used. e portion that is allocated to expense in a particular period is referred to by three different terms: depreciation, depletion or amortization. e three terms are similar in meaning, the only difference lies in the type of asset involved. Technically, depreciation refers to property, plant and equipment, depletion to wasting assets and amortization to intangible assets. ‘Depreciation is defined as "the systematic allocation of the lepreciable amount of an asset over the useful life.” Depreciation is not so much a matter of valuation as it is a matter of cost allocation in recognition of the exhaustion of the useful life of an item of property, plant and equipment. The objective of depreciation is to have each period benefiting from the use of the asset bear an equitable share of the asset cost. 1i ments Depreciation in the financial stater : art of the cost of re Depreciation is an expense. It may ae ins Goods i spense. manufactured or an operating €XPe ch period shall be recognized ag The eciation char: r eal The depreciation charge for amount of another : rrying expense unless it is included in the carry? asset. jl property shall be depreciated Exce 7 2x stible land. a: tS i Except for nonexhausti ful life of the asset irrespective ona sy atic basis over the use of the earnings of the entity. ld be misstated if depreciation is The financia] statements wou ‘ : a loss and recognized when the omitted when the entity has entity has a gain. The omission of depreciation may somehow impair legal capital if and when dividends are declared out of earnings before provision for depreciation. Depreciation period Depreciation of an asset begins when it is available for use, meaning, when the asset is in the location and condition necessary for it to be capable of operating in the manner intended by management. Depreciation ceases when the asset is derecognized. Therefore, depreciation does not cease when the asset becomes idle temporarily. Temporary idle activity does not preclude depreciating the asset as future economic benefits are consumed not only through usage but also through wear and tear and obsolescence. PFRS 5, paragraph 25, provides that if the asset is "classified as held for sale" depreciation shall be discontinued.Kinds of depreciation There are two kind ee 8 of depreci: F 7 depreciation. and funet veonsnton, namely physi tonal or economic depreciation. Physical depreciation is re lated > depreciable « and tear and dete ed to the depreciable a "oration over a period, Physical depreciation may be caused by. a. Wear and tear due to fy Frequent use b. Passage of time due to nonuse ‘ ser the ; ements such as wind, sunshine, rain or dust : a Such as fire, flood, earthquake and other natural e. Disease — This physical cause is applicable to animals and wooden buildings. Accordingly, physical depreciation results to the ullimate nen of the property or termination of the service of the asset. Functional or economic depreciation arises from inadequacy, supersession and obsolescence. Inadequacy arises when the asset is no longer useful to the entity because of an increase in the volume of operations. For example, adequate buildings acquired at the inception of business may become inadequate or limited in their future service potential when unexpected business growth or expansion requires larger facilities for efficient operation. Supersession arises when a new asset becomes available and the new asset can perform the same function more efficiently and economically or for substantially Jess cost. Obsolescence is the catchall for economic or functional depreciation. For example, obsolescence arises when there is no future demand for the product which the asset produces. Obsolescence encompasses inadequacy and supersession. In other words, an asset becomes obsolete if it is inadequate or superseded.Factors of depreciation the amount of depreciation, thre, -der to properly compute : 1 In or proy ly depreciable amount, residua factors are necessary, name value and useful life. Depreciable amount ble cost is the cost of an asset Depreciable amount or deprecia t, less its residual value. or other amount substituted for cos plant and equipment with Each part of an item of property, h the total cost of the item cost that is significant 1n relation to shall be depreciated separately. For example, it may be appropriate to depreciate separately the airframe, engines, fittings (seats and floor coverings) and tires of an aircraft. The entity also depreciates separately the remainder of the item and the remainder consists of the parts of the item that are individually not significant. Residual value Residual value is the estimated amount that an entity would currently obtain from disposal of an asset, after deducting the estimated cost of disposal, if the asset were already of the age and condition expected at the end of the useful life. Simply stated, residual value is the estimated net amount currently obtainable if the asset is at the end of the useful life. The residual value of an asset shall be reviewed at least at each financial year-end and if expectation differs from previous estimate, the change shall be accounted for as a change in an accounting estimate. In practice, the residual value of an asset is often insignificant and therefore immaterial in the calculation of the depreciable amount.The residual value of an asset may increase to an amount equal to or greater than the carrying amount. If it does, the depreciation charge is zero unless and until the residual value subsequently decreases to an amount below the ying amount. Depreciation is recognized even if the fair value of the asset exceeds the carrying amount as Jong as the residual value does not exceed the carrying amount. Repair and maintenance of an asset do not negate the need to depreciate it. Useful life Useful life is either the period over which an asset is expected to be available for use by the entity, or the number of production or similar units expected to be obtained from the asset by the entity. Accordingly, the useful life of an asset is expressed as follows: a. Time periods as in years b. Units of output or production c. Service hours or working hours Factors in determining useful life a. Expected usage of the asset — Usage is assessed by reference to the asset's expected capacity or physical output. b. Expected physical wear and tear — This depends on the operational factors such as the number of shifts the asset is used, the repair and maintenance program, and the care and maintenance of the asset while idle. c. Technical or commercial obsolescence — This arises from changes or improvements in production, or change in the market demand for the product output of the asset. d. Legal limits for the use of the asset, such as the expiry date of the related lease. Incidentally, the service life of an asset should be distinguished from physical life. Service life is the ‘period of time an asset shall be used by an entity. The service life is the equivalent of useful life. Physical life refers to how long the asset shall last.Methods of depreciation 1. Equal or uniform charge methods ‘ a. Straight line b. Composite method c. Group method 2. Variable charge or use-factor or activity methods a. Working hours or service hours b. Output or production method 3. Decreasing charge or accelerated or diminishing balance methods a. Sum of years’ digits b. Declining balance method c. Double declining balance 4. Other methods a. Inventory or appraisal b. Retirement method c. Replacement method Under the straight line method, the annual depreciation charge is calculated by allocating the depreciable amount equally over the number of years of estimated useful life. In other words, straight line depreciation is a constant charge over the useful life of the asset. The formula for the computation of the annual depreciation following the straight line method is as follows: Cost minus residual value Annual depreciation = ——_____—_ Useful life in years Cost minus residual value equals depreciable amount. Depreciable amount multiplied by the annual straight line rate of depreciation also gives the amount of annual depreciation.The straight line vate is determined by dividing 100% by the life of the asset IO Vears, For example, if the useful life annual straight line rato by by of the asset is 5 years, the 8 20%, computed by dividing 100% This method Is adopted when the principal cause of depreciation is Passage of time. The straight line approach considers depreciation as a function of ime rather than asa function of usage. Examples of assets which depreciate principally because of passage of time are buildings, other structures such as radio and TV towers, dams, bridges, and office equipment such as typewriters, adding machines, computers. Although use and obsolescence contribute to the depreciation of such assets, such Causes are insignificant compared to the effects of time. The straight line method 18 widely used in practice because of its simplicity. Illustration The following data relate to an equipment acquired at the beginning of the first year: Equipment Residual value Useful life 5yearsDepreciation table ~ straight line (a) (b) Accumulated Carryin, Year Particular Depreciation depreciation amount Acquisition cost 105.000 1 Depreciation for first year 20,000 20,000 55,000 2 Depreciation for second year 20.000 10,000 65,006 3 Depreciation for third year 20,000 60,000 45,000 4 Depreciation for fourth year 20,000 80,000 25.009 5 Depreciation for fifth year 20,000 100,000 100,000 (a) Depreciable amount of P100,000 divided by 5 years equals P20,000 or the annual rate of 20% multiplied by P100,000 equals P20,000. Se Preceding balance of accumulated depreciation plus column (a). Thus, the accumulated depreciation at the end of the second year is equal to P20,000 (preceding balance, end of first year) plus the depreciation for the second year, P20,000, equals P40,000. « Acquisition cost of P105,000 minus column (b). Thus, at the end of the first year, P105,000 minus accumulated depreciation balance of P20,000 equals P85,000; at the end of the second year, P 105,000 minus P40,000 equals P65,000, and so on. At the end of the useful life of the asset, the carrying amount should equal the residual value. The residual value is P5,000 which is the carrying amount at the end of the 5th year. Journal entry Depreciation 20,000 Accumulated depreciation 20,000 The adjusting entry for depreciation is prepared at the end of every accounting period.Statement presentation When a statement of financial position is prepared at the end of the first year, the equipment account is classified as property, plant and equipment. Equipment 105,000 Accumulated depreciation ( 20,000) Carrying amount The carrying amount is the amount at which an asset is recognized in the statement of financial position after deducting any accumulated depreciation and accumulated impairment loss.* Composite and group method Large entities own various individual depreciable assets. For these entities, making detailed depreciation computation for each individual asset referred to as unil depreciation is time consuming and costly. Therefore, large entities find it more practical to compute depreciation by treating many individual assets as though they were a single asset. The two methods of depreciating various individual assets as a single asset are composite method and group method. Under the composite method, assets that are dissimilar in nature or assets that have different physical characteristics and vary widely in useful life, are grouped and treated as a single unit. Under the group method all assets that are sintilar in nature and in estimated useful life are grouped and treated as a single unit. The accounting procedure and the method of computation for the composite and group method are essentially the same. In other words,. the average useful life and the composite or soup rate are computed, and the assets in the group are depreciated on that basis.Accounting procedures a d. Depreciation is reported in a single accumulate depreciation account. ‘Thus, the accumulated depreciagig, account is not related to any specific asset account, The composite or group rate 1s multiplied by the total Cost of the assets in the group to get the periodic depre lation, When an asset in the group is retired, no gain or losg is reported. The asset account is credited for the cost of the asset retired and the accumulated depreciation account ig debited for the cost minus salvage proceeds. When the asset retired is replaced by a similar asset, the replacement is recorded by debiting the asset account and crediting cash or other appropriate account. Subsequently the composite or group rate is multiplied by the balance of the asset account to get the periodic depreciation. Composite method The following computation is necessary in determining the composite life and composite rate: (a) (b) (a + b) Residual Depreciable Usefullife Annual Asset Cost value amount. in years depreciation Building 650,000 50,000 -~—-600,000 15 40,000 Machinery 220,000 20,000 ~—-200,000 8 25,000 Equipment _ 130,000 30,000 100,000 4 25,000 1,000,000 100,000 — 900,000 90,000 The composite life is determined by dividing the total depreciable amount by total annual depreciation. Thus. P900,000 divided by P90,000 equals 10 years. The composite rate is determined by dividing the total annual depreciation by the total cost. Thus, P90,000 divided by P 1,000,000 equals 9% composite rate.All of the assets in the group are acquired at the beginning of current year. The annual depreciation for the current year is recorded as follows: Depreciation 90,000 Accumulated depreciation 90,000 mulated depreciation account is not related to any sset account in the group. The a specifi Thus, a statement of financial position prepared at the current year-end would report the property, plant and equipment as follows: Building 650,000 Machinery 220,000 Equipment 130,000 Total 1,000,000 Accumulated depreciation 90,000) Carrying amount 910,000 If the equipment is retired after four years and sold for P20,000, the journal entry is: Cash 20,000 Accumulated depreciation 110,000 Equipment 130,000 If there are no proceeds from the retirement of the equipment, the journal entry is: Accumulated depreciation 130,000 Equipment 130,000 After the retirement of the equipment, the remaining cost of the assets in group is P870,000 (P1,000,000 minus P 130,000). Consequently, the annual depreciation is no longer P90,000. The annual depreciation starting the fifth year would be P78,300, computed by multiplying the composite rate of 9% by the remaining cost of P870,000.i ent, the same is replace, Upon the retirement of the equipmen® nena. ced by a similar asset costing P160,000. re the total cost of ) ass a 30,000. the assets in the group is NOW P1,0¢ preciation starting the fifth yea, Accordingly, the annual de 92,700 should be 9% times P1,030,000 or Depreciation shall be discontinued when the same would result to a carrying amount of the assets in a group which is below the residual value of the assets 1 the group. Group method An entity purchased 100 similar machines on January 1, 2015 at a total cost of P1,000,000 or at an average cost of P10,000 per machine The machines have an average useful life of 5 years or an annual depreciation rate of 20%. The machines are retired as follows: Date Number of machines Salvage proceeds December 31, 2018 30 None December 31, 2019 40 10,000 December 31, 2020 30 20,000 The journal entries to record the depreciation and retirement of the machines are: 2015 Depreciation i 200,000 Accumulated depreciation 200,000 2016 Depreciation » 200,000 Accumulated depreciation 200,000 2017 Depreciation 200,000 Accumulated depreciation 200,000 2018 Depreciation : 200,000 Accumulated depreciation 200,000 Accumulated depreciation 300,000 Machinery : 300,000 Retirement of 30 machines.2019 Depreciation 140,000 Accumulated depreciation 140,000 Depreciation on ronwiningy, TO machines coating "700,000 aban annual rate of 20% Cash. 10,000 Accumulated depreciation 390,000 Machinery 400,000 Retirement of 40 machines. On December 31, 2019 when accounts are posted, the machine account has a debit balance of P800,000 representing the cos! of the remaining 80 machines, On said date, the accumulated depreciation account has a credit, balance of P 50,000, The carrying amount of the machinery then at the end of 2019 is - P50,000. Thus, for 2020, the maximum de ation is equal to the carrying amount minus salvage prc Journal entry Depreciation 30,000 Accumulated depreciation 30,000 Carrying amount. 50,000 Salvage proceeds (20,000) Depreciation for 2020 If normal computation procedure is followed, that is, multiplying the average rate by the remaining cost of the assets in the group, the depreciation would be P60,000 (20% x P300,000). Quite obviously, the resulting figure is more than carrying amount of the asset. Depreciation should be limited to the remaining carrying amount of the asset reduced by salvage Proceeds, if any. When the remaining 30 machines are retired on December 31, 2020, the journal entry is: Cash 20,000 Accumulated depreciation 280,000 Machinery 300,000Variable charge or activity methods ume that depreciation sin Sah nethods ass e The variable or activity ™ ease Ob Gm : Sf g if an is more a function of use rather than p seful li » asset is considered in terms of the output The useful life of the a ie it produces or the number of hours 1 i Thus, depreciation is related to the estimated Production capability of the asset and is expressed in a rate per unit of output or per hour of use. There are two variable methods, namely: a. Working hours method b. Output or production method These methods are adopted if the principal cause of depreciation is usage. The use of these methods is based on the following: a. Assets depreciate more rapidly if they are used full time or overtime. b. There is a direct relationship between utilization of assets and realization of revenue. If assets are used more intensively in production, greater revenue is expected. The variable methods are found to be appropriate for assets such as machineries. The major objection to these methods is that the units of output or service hours which serve as the basis of depreciation may be difficult to estimate.Illustration Machinery. at cost Residual value ee Estimated useful hfe: Nor Years ee Service hours 5 years oe a“ 60,000 hours 50.000 unite Actual operations Servicehours Output Nret year 14,000 34,000 Second year 13,000 32,000 Third year 10,000 25,000 Fourth year 11,000 29,000 Fifth year RAPHE zen Under this methed, a depreciation rate per hour is computed by dividing the depreciable amount by the estimated useful life in terms of service hours. 000 Thus, the rate per hour is P10, computed by dividing P600,000 by 60,000 hours. The depreciation rate per hour is then multiplied by the actual hours worked in one period to get the depreciation for that period. Depreciation Table - Working Hours Method Accumulated Carrying Year Particular Depreciation depreciation amount Acquisition cost 600,000 1 14,000 x 10 140,000 140,000 460,000 2 13,000 x 10 130,000 270,000 330,000 3 10.000 x 10 100,000 370,000 230,000 4 11,000 x 10 110,000 480,000 120,000 5 12,000 x 10 120,000 600,000 600,000uch repair cost shoul 5 d be ¢ ‘ qestch eee tllocated ove he useful | And uniform basis It has been observe of the asset, hence large during the d that re : i a Mt repairs lend to increase with the age late tts te small in the emrlier years and ater venrs, Therefore, fo! ving . se Se ng the decreasing charge method, the overall : Se tiform charge because the decreasing amount of depreciation ¢ i : 1 i and the increasing repairs y saualize edch Gehae ing repairs will tend to There are three decreasing charge methods, namely sum of years' digits, declining balance and double declining balance. Sum of years’ digits The sum of years’ digits method provides for depreciation that is computed by multiplying the depreciable amount by a series of fractions whose numerator is the digit in the useful life of the asset and whose denominator is the sum of the digits in the useful Jife of the asset. The fractions are developed by getting the sum of the digits in the useful life of the asset. For example, if the useful life is 4 years, the sum of year's digits is 1+ 2+3+4or10. Thus, the depreciation would be 4/ 10 for the first year, 3 / 10 for the second year, 2 / 10 for the third year and 1 / 10 for the fourth and last year. What happens if the useful life of the asset is 25 years? How then would the sum of years’ digits be computed? Thankfully, the mathematicians have developed a formula which permits easy calculation of the sum of years’ digit (SYD) as follows: Life +1 SYD = Life ¢ 2» digits of 25 years ; Applying the formula, the sum of the digits of 25 years ig computed as follows. +1 25(———) 2 25 (13) 325 W SYD nou Sum of half years' digits If the useful life of the asset is 2 1/2 years, the procedure is to multiply the useful life by 2 in order to get the useful life of the asset in half years. Thus, the useful life of the asset in half years would be 5 (2 1/2 years x 2). The sum of half years’ digits would then be 15, computed as follows: 7 5+1 5(——___ 2 Hence, the depreciation may be computed as follows: First year Two fractions: 5/15 and 4/15 (each fraction pertaining to half year or six months) Second year Two fractions: (3/15 and 2/15) Third year One fraction: 1/15 Illustration — sum of years' digits Machinery 430,000 Residual value 30,000 Estimated useful life Ayears 4+1 SYD = 4¢ ) = 10 2Depreciation table ~ sum of years’ digits Accumulated Carrying Year Particular Depreciation depreciation amount Acquisition cost 430,000 1 4/10 x 400,000 160,000 160,000 270,000 2 3/10 x 400,000 120,000 280,000 150,000 3 2/10 x 400,000 80,000 360,000 70,000 4 1/10 x 400,000 . 400,000 0,000 Fractional depreciation — sum of years’ digits Cost of asset 300,000 Residual value None Date of acquisition April 1, 2015 Estimated useful life 3 years 384+1 SYD = 3 (——_—_) = 6 2 The depreciation for each year of the useful life of the asset is computed as follows: From April 1, 2015 to March 31, 2016 (3/6 x P300,000) 150,000 From April 1, 2016 to March 31, 2017 (2/6 x P300,000) 100,000 From April 1, 2017 to March 31, 2018 (1/6 x P300,000) _ 50,000 300,000ecg — calendar perj Computation of depreciation ee Period Depreciation for 2015: | 2015 to December 31, 2015) - 112.599 P150,000x.9/ 12 (April 1. 509 Depreciation for 2016: eae i Drag.000x 3/12 (danuary 1 to March 31, a 87.500 P100.000x 9/12 (April 1 to December 31, 2 75.009 112.509 Depreciation for 2017: ee P100,000x.3/ 12 @January 1 to March 31, 2017) P 50,000x 9/12 (April 1 to December 31, 2017) Depreciation for 2018: . P50,000 x 3/12 (January 1 to March 31, 2018) _ 12,500 Declining balance method Under the declining balance method, a fixed or uniform rate ig multiplied by the declining carrying amount of the asset in order to arrive at the annual depreciation Because of the use of a fixed rate, this method is also known as fixed rate on diminishing carrying amount method. ‘Lhe problem in this method is the determination of the fixed rate to be applied against the carrying amount. Formula for fixed rate n V_ Residual value = Cost The “n” in the formula is the useful life of the asset. Rate = Observe that the nature of the method is such that the value of the asset cannot be reduced to zero and that the formula cannot be used unless there is a residual value. Thus, a residual value must aly be assigned to the asset. In the absence of any residual value, a nominal amount of P1 should be assumedHlusteation atnaset sidaal value ated usefil lite 500,000 60,000 Syeara Computation of fixed rate 5 Rate \ V50,000 + 600,000 1- 6 V.t0 To solve the mathematical equation, a table of logarithms must be used to extract the fitth root of .10. Accordingly, the fifth yoot of 10 is 632, Depreciation table - declining balance Accumulated Carrying Year Particular Depreciation depreciation amount quisition cost 500,000 1 x 500,000 184,000 184,000 316,000 2 x 316,000 116,288 300,288 199,712 3 36.8% x 73,194 373,782 126,218 4 36.8% 46448, 420,230 79,770 5 36.8% o* 450,000 50,000 450,000 * 36.8% times P79,770 equals P29,355. But the depreciation provided for the fifth year is P29,770. The difference of PA15 is due to rounding of figures and the computation of the fixed rate uses limited decimal places. Note that the fixed rate of 36.8% is multiplied by the total cost of P500,000 in the year and not by the depreciable amount of P450.000. Meanwhile, the residual value is ignored. The declining balance method is not used extensively in practice because the calculations are complex.Double declining balance method The common application of the declining balance method ig the “double declining balance.” The procedure for the double declining ee method is the same as the declining balance method in that a fixed tale is multiplied bs the declining carrying amount of the asset lo arrive at the annual depreciation. Actually, the double declining balance method is an approximation of the declining balance method. The difference between the tye lies in the determination of the rate to be used. Under the The term “double declining balance” came to its name because the straight line rate is doubled. Thus, this method is also known as “200% declining balance method”. Illustration Cost of asset ; 500,000 Date of acquisition danuary 1, 2015 Rocddaalvaiae Cert porte aoe) lack year ea wuieatter 50,000 Estimated -useful life 5 years Straight line rate (100% / 5 years) 20% Double declining rate ( 20% x2 ) 40% Accumulated Carrying Year Particular Depreciation depreciation amount Acquisition cost 500,000 2015 40% x 500,000 200,000 200,000 300,000 2016 40% x 300,000 120,000<* 320,000 180,000 2017 40% x 180,000 72,000 392,000 108,000 2018 40% x 108,000 43,200 435,200 64,800 2019 64,800- 50,000 _ 14,800 450,000 - _50,000 450,000As in the declining balance method, the residual value is ignored in the first year in the computation of depreciation. Thus, for 2015, the rate of 40% is multiplied by the total cost of 500,000. However, in the last year 2019, the fixed rate of 40% is no longer multiplied by the carrying amount. The depreciation for 2019 is simply the difference between the carrying amount of P64,800 and the residual value of 50,000. In application and procedure, this method is the same as the double declining balance. Under double declining balance, the fixed rate is twice or 200% of the straight line rate. Under the 150% declining balance method, the fixed rate is 150% of the straight line rate. Illustration Cost of asset 500,000 Residual value 50,000 Date of acquisition January 1, 2015 Useful life 5years Straight line rate (100% /5 years) 20% Fixed rate (150% x 20% ) 30% Depreciation for 2015: (30% x P500,000) 150,000 Inventory method The inventory method consists of merely estimating the value of the asset at the end of the period. The difference between the balance of the asset account and the value at the end of the year is then recognized as depreciation for the year. In recording depreciation, no accumulated depreciation ercount is maintained. The depreciation is credited directly to the asset account.This depreciation approach, is applied cones. te assets whieh are small and relatively inexpensive se as hand tools 6, utensils. It is defended on practical grounds. rr The major objection to this depreciation method is that it jg mat systematic, No set formula is involved and a great deal of subjectivity a often encountered in the determination of the value of the Asset at the end of the year. Illustration An entity uses the inventory method to account for numerous small tools. The following transactions concerning small tools occurreq during the current year. Tools account, January 1 100,000 Acquisition, at cost 90,000 Sale of used tools, at residual value 2,000 Inventory of tools on December 31, at cost 125,000 Journal entries 1. Torecord the acquisition: Tools 90,000 Cash 90,000 2. Torecord the sale of used tools at residual value Cash, 2,000 Tools A 2,000 3. Torecord the depreciation of tools: Depreciation 63,000 Tools 63,000 Balance of tools account 188,000 Inventory of tools - December 31 (125,000) Depreciation 63,000Retirement and replacement method Under the retirement method of depreciation, no depreciation is recorded until the asset is retired. The amount of depreciation is equal to the original cost of the asset relired minus salvage proceeds, Under the replacement method, no depreciation is recorded until the asset is retired and replaced, The amount of depreciation is equal to the replacement cost of the asset retired, minus salvage proceeds. If the asset retired is not replaced, the original cost of the asset retired but not replaced is recognized as depreciation. The retirement and replacement method may be used in much the same situations as the inventory method Such methods are suitable when a large number of similar items are employed by the entity and the items are constantly being retired and replaced. These methods are frequently used by public utility entities which have a large number of virtually identical items that are being installed, retired and replaced such as poles, lines, meters and telephone receivers, Illustration The following data relate to the tools account for the current year. Balance — January 1, 1,000 units at P50 per unit 50.000 Acquisition — 2,500 units at P70 per unit 175,000 Retirement of tools — 1,200 units Proceeds from retirement of tools 5,000Retirement method 1. To record the acquisition: ‘Tools 175,000 : rd Cash 175,000 2. To record the retirement: 5,000 Cash 5, Depreciation 59,000 Tools 64,000 Cost of tools retired (FIFO): 1,000 units x 50 50,000 __ 200 units x 70 14,000 4,000 Replacement method 1. To record the acquisition of tools in excess of the retirement (2,500 — 1,200 equals 1,300): Tools (1,300 x 70) 91,000 Cash 91,000 2. To record the replacement of the tools retired: Depreciation 79,000 Cash 79,000 Replacement cost of tools retired (1,200 x 70) 84,000 Proceeds from retirement (5,000) Depreciation 79,000Change in useful life Unexpected physical deterioration or technological improvement may indicate that the useful life of the asset is less than that originally estimated. On the other hand, improved maintenance procedures or revision of operating Procedures may prolong the useful life of the asset beyond the original estimate. The useful life of an item of Property, plant and equipment shall be reviewed at least at each financial year-end and if expectations are significantly different from previous estimate, the change shall be accounted for as qa change in accounting estimate. Therefore, the depreciation charge for the current and future periods shall be adjusted. Illustration A depreciable asset costing P500,000 is originally estimated to have a useful life of 5 years. At the beginning of the third year, the original useful life is revised to 8 years. Thus, the asset has a remaining useful life of 6 years. Past depreciation is not corrected. The procedure is simply to allocate the remaining carrying amount of the asset over the remaining revised useful fe in order to get the subsequent annual depreciation. Accordingly, the annual depreciation starting the third year is determined as follows: Cost, 500,000 Accumulated depreciation (500,000/5 x 2) 200,000) Carrying amount — beginning of third year 300,000 Annual depreciation starting the third year (300,000 / 6) 50,000Change in depreciation method IL reflect the pattern in whj,, © expected to be consumed od by sthod used ion me {'s economic benef the < the entity. ion method shall be reviewed at least at Cach end and if there has been a significant change iy omic benefits embodied in the asset | to reflect the new pattern, —" The depreci financial yea the expected pattern of econ the method shall be changed preciation method is necessary, th asa change in accounting estimate e for the current.and future When such a change in de change shall be accounted for and the depreciation charg! periods shall be adjusted. Illustration - ‘An entity decided to change from SYD to the straight line method of depreciation on January 1, 2015. The asset is acquired on January 1, 2018 at a cost of P1,000,000 and has an estimated useful life of 4 years. The carrying amount of the asset on January 1, 2015 is determined as follows: Cost— January 1, 2013 1,000,000 ‘Accumulated depreciation: 2013 (4/10x 1,000,000) 400,000 2014 (3/10x 1,000,000) 300,000 ~* 700,000 300,000 Carrying amount — January 1, 2015 . The procedure is simply to allocate the remaining carrying amount of P300,000 over the remaining useful life of 2 yeals 3 using the new depreciation method which is the straight line Accordingly, the depreciation for 2015 is recorded as follows: Depreciation (300,000 / 2) 150,000 Accumulated depreciation ‘ 150,000