Amy has a master's degree in secondary education and has taught math at a public charter high school.
After watching this video lesson, you will understand the differences between the different depreciation methods that are available to you. We will discuss three different methods depending on how you use the equipment that you want to calculate the depreciation for.
A 3D Printer
You are a designer, and you have a little design company. What you do is you make unique designs for the home, and you print them out using a 3D printer. These printers let you print 3D objects using different materials. Yes, these printers print in space starting from the bottom and working their way up. You can print vases, cups, and whatever other objects you can think of as long it is one continuous piece and not two separate pieces. These printers open up a whole new creative world to explore.
As part of your business, you use a 3D printer on a daily basis to print out new designs and orders for customers. You bought this printer for $20,000. It has a life expectancy of 10 years, and it is expected to print about 150,000 3D items in its life.
Because you spent so much money on this printer, you want to make sure you account for the loss in value of this printer with each passing year on your financial reports. Every year, the printer loses value because of aging and wear and tear from use. This loss in value is referred to as depreciation. There are three ways you can go about calculating depreciation.
The first and most basic is the straight-line depreciation. This method is used when you use the printer the same amount each year. This is when you calculate the depreciation based on the life expectancy years.
What you do is you divide the cost of the printer by the number of years of its life expectancy. This number then gives you the yearly depreciation of the printer.
For your 3D printer, you take $20,000 and divide it by 10. You get $2,000. So every year, you calculate a $2,000 depreciation amount for this printer. If you take a depreciation of $2,000 for the first year, the value of the printer drops to $20,000 - $2,000, or $18,000. Claiming another $2,000 depreciation for Year 2 drops the value of the printer to $18,000 - $2,000 = $16,000 for the year after that. You keep going until the value reaches $0.
Double Declining Balance Depreciation
If you end up using the printer more often the first few years, you can then use the double declining balance depreciation method. This method doubles the straight-line depreciation percentage you take every year.
For example, because your printer has a life expectancy of 10 years, each year you can claim 10% (100% / 10 years) of the cost of the printer. With the double declining balance method, you then take 20% of the current value of your printer each year.
So, the first year depreciation is $20,000 (the current value)*20% = $4,000. For Year 2, the current value is $20,000 - $4,000 = $16,000. The depreciation for Year 2 then is calculated to be $16,000*20% = $3,200. For Year 3, the current value is $16,000 - $3,200 = $12,800. The depreciation is $12,800*20% = $2,560. You keep going until your value reaches 0.
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The third method we are going to discuss is the units of production depreciation method. This method is used if you print different amounts from the printer each year. This method calculates the cost to print each item. This printer can print 150,000 in its life, so the cost to print each item is $20,000/150,000 = 0.13333, or approximately $0.13. Of course, this doesn't include the cost of materials used to print each item, but this cost is included in your financial reports elsewhere.
Using this method, your depreciation is based on the number of items you print each year. So, if in Year 1 you print 10,000 items, then your depreciation for this year is 10,000*0.13 = $1,300. In Year 2, if you print 20,000 items, your depreciation is 20,000*0.13 = $2,600. You keep going until the number of items reaches the number of items the printer is expected to produce in its life.
Let's review what we've learned now. Depreciation is loss in value. You report this in your financial reports. We discussed three different ways to report this depreciation.
The first is straight-line depreciation. Using this method assumes that you use the printer the same amount each year. To calculate this depreciation, you divide the cost of the printer by its life expectancy.
The second method is the double declining balance depreciation method. This method is used if you use the printer more in the beginning of its life. To calculate this depreciation, you double the percentage of your straight-line depreciation. The percentage of your straight-line depreciation is 100% divided by the life expectancy. Double this percentage to get the percentage for your double declining balance depreciation. Then, your yearly depreciation is the current value of your item times the percentage.
The third method, units of production depreciation, is used if you print different amounts each year. This method divides the cost of the machine by the number of items it can produce in its life. Then, the depreciation each year is calculated by multiplying the number of items printed that year by the cost per item.
Once you are done with this lesson you should be able to:
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