Straight Line Method
Under Straight Line Depreciation, a fixed proportion of the original cost of the asset (less residual value) is written off each year so that the asset account may be reduced to its residual value at the end of its estimated economic life.
This method is often used for assets such as machinery and equipment, buildings, and land. Depreciation is calculated using an estimated life and then written off in equal amounts each year. The result is that the account reduces in value to the residual value at the end of the estimated life.
Points to be kept in mind
- Additional assets acquired throughout the year shall only be depreciated from the date of acquisition to the end of the accounting period.
- When no date of addition is specified, depreciation may be charged for the first half of the year under the premise that the addition occurred in the middle of the year.
- Sold assets must be depreciated from the beginning of the year until the selling date.
Benefits of SLM of Depreciation
- It is a straightforward and simplistic approach.
- It is possible to entirely write off the value of the asset, which means that the value can be decreased to zero in accordance with its assessed value as scrap.
- This strategy can be used in situations in which an asset, such as furniture, equipment, patents, leasehold property, and so on, loses value as a result of the passage of time.
- Over the course of an asset’s productive life, neither the rate nor the total amount of depreciation will shift in any way.
- The valuation of the asset on the balance sheet for each year is accurate to a reasonable degree.
Limitations of SLM of Depreciation
- It would appear that the assumption that the item will retain the same level of use throughout its life is unreasonable.
- The efficient exploitation of the asset is not taken into consideration in this analysis.
- Even though the asset is used in the same way from one period to the next, the overall cost of using the asset continues to rise on an annual basis despite this fact. This is due to the fact that the cost of repairs in each successive year goes up, despite the fact that an equal amount of depreciation is written off each year.
In conclusion, the straight-line depreciation method is a popular way to depreciate assets, as it is simple to understand and easy to use. However, there are some limitations to this method, such as its inability to account for the time value of money. For these reasons, it is important to weigh the benefits and drawbacks of using this method before making a decision.