Comparison between straight-line and reducing methods of depreciation

 

Methods Advantages Disadvantages Effect on Net Profit
1. Straight Line

a. Dep = (HC-SV) Useful Life

OR

b. Dep = HC x % Rate

• Simple to apply

• Calculation of dep easy to understand

• For assets like furniture that has a constant rate of use

• Not suitable for assets like machinery where the benefits obtained from using the assets in each period are not of fixed amounts. Constant reduction of a fixed amount
2. Reducing Balance

 

Dep = NBV x % Rate

• More accurately reflect pattern of usage of assets if assets provide most benefits during initial years

More maintenance and repairs costs in later years so total expenses incurred for asset more or less become constant over its life (since more dep charge in early years)

• May never fully depreciate asset

• High depreciation charge in the early years of assets’ life

• Higher reduction in the early years compared to the later years

* HC = Historical cost

* SV = Scrap value

* NBV = Net book value

= Cost – accumulated depreciation