Depreciation is an accounting process that allows a business to gauge the expense of long-term assets, and there are a few different ways to accomplish it. The double-declining balance method is an accelerated depreciation method, attributing more of an asset’s costs in the current year rather than later.
What Is Depreciation, and Why Does It Matter?
Depreciating an asset measures its cost to you over the defined period of its useful life. The depreciated value of an asset allows a business to gauge the expense on its balance sheet and other financial statements and for tax purposes. There are a few different ways to arrive at it. The double-declining balance is one.
The Double-Declining Balance Method of Depreciation
The double-declining balance method provides an alternative to straight-line depreciation. The straight-line depreciation method depreciates the value of your car by the same percentage each year during the useful life of the asset. The double-declining method focuses the greatest depreciation in the early years of the car’s useful life, accelerating it. Depreciation expenses are lesser in the later years with this option.
It effectively doubles the depreciation rate, but this doesn’t mean that the car’s total expense will be greater. The double-declining balance method is all about the timing.
How to Calculate Depreciation Using the Double-Declining Method
The double-declining depreciation formula basically involves seven steps, according to the Corporate Finance Institute:
- Determine the original cost or beginning value of the asset at the time you purchased it. This would typically be the cost of the asset or its purchase price, but you can use book value of the asset instead.
- Determine its useful life. The Internal Revenue Service calls this its “class life,” and it varies by asset. The IRS class life for a truck is five years.
- Find the salvage value of the asset. The
Arizona Department of Administration General Accounting Office defines this as the car’s anticipated fair market value at the time you’ll sell or dispose of it. Subtract the salvage value from the beginning value. The resulting number indicates the car’s total depreciation over the course of its useful life. Find the depreciation rate per year. This would be 20 percent if you assign the car a class life of five years: 100 percent divided by five years. Multiply the beginning value by twice your depreciation rate, or 40 percent. Subtract the result from the beginning value to find out your salvage or ending period value.
Now repeat these steps until the end result is the salvage value you determined in step three. The beginning value (step one) will reduce each year over five years to reflect the annual depreciation you’re claiming or the ending period value for each year.
An Example of Double-Declining Depreciation
Let’s assume that the beginning value of your car is $50,000. Its useful life is five years, and its salvage value is $10,000. In simplest terms, the equation would work out like this:
- $50,000 (beginning value) less $10,000 (salvage value) = $40,000 (depreciation over the car’s useful life)
- $50,000 times 40 percent (twice the depreciation rate) = $20,000
- $50,000 less $20,000 = ending period value of $30,000
These numbers will decrease each time you repeat them because the heaviest depreciation comes in the earliest years. It would look like this in the second year:
- $30,000 (ending period value from last year)
- $30,000 times 40 percent = $12,000
- $30,000 less $12,000 = ending period value of $18,000
The process continues until you wrap up the last of your car’s useful life through accumulated depreciation.
Pros and Cons of the Double-Declining Method
The double-declining method of depreciation offers both pros and cons.
As the saying goes, for everything you get, you must give up something. This can particularly be the case with issues of accounting.
- Corporate Finance Institute: Double Declining Balance Depreciation
- Rice University OpenStax: Explain and Apply Depreciation Methods to Allocate Capitalized Costs
- IRS: Depreciation - Frequently Asked Questions
- Arizona Department of Administration General Accounting Office: State of Arizona Accounting Manual – Computation of Depreciation, Amortization and Salvage Value
Beverly Bird has been writing professionally for over 30 years. She is also a paralegal, specializing in areas of personal finance, bankruptcy and estate law. She writes as the tax expert for The Balance.