Question

Novak Company acquired a plant asset at the beginning of Year 1. The asset has an estimated service life of 5 years. An employee has prepared depreciation schedules for this asset using three different methods to compare the results of using one method with the results of using other methods. You are to assume that the following schedules have been correctly prepared for this asset using (1) the straight-line method, (2) the sum-of-the-years'-digits method, and (3) the double-declining-balance method.

Year Straight-Line Sum-of-the-Years'-Digits Double-Declining-Balance
1 $15,750 $26,250 $35,000
2 15,750 21,000 21,000
3 15,750 15,750 12,600
4 15,750 10,500 7,560
5 15,750 5,250 2,590
Total $78,750 $78,750 $78,750

Required:
a. What is the cost of the asset being depreciated?
b. What amount, if any, was used in the depreciation calculations for the salvage value for this asset?
c. Which method will produce the highest charge to income in Year 1?
d. Which method will produce the highest charge to income in Year 4?
e. Which method will produce the highest book value for the asset at the end of Year 3?
f. If the asset is sold at the end of Year 3, which method would yield the highest gain (or lowest loss) on disposal of the asset?

Answer 1

a. What is the cost of the asset being depreciated?

the cost of the asset = $35,000 / 0.4 = $87,500

b. What amount, if any, was used in the depreciation calculations for the salvage value for this asset?

salvage value = $87,500 - (5 x $15,750) = $8,750

c. Which method will produce the highest charge to income in Year 1?

double declining results in the highest depreciation expense

d. Which method will produce the highest charge to income in Year 4?

straight line results in the highest depreciation expense

e. Which method will produce the highest book value for the asset at the end of Year 3?

straight line, book value = $87,500 - (3 x $15,750) = $40,250

f. If the asset is sold at the end of Year 3, which method would yield the highest gain (or lowest loss) on disposal of the asset?

double declining balance, since the carrying value is lowest = $87,500 - $35,000 - $21,000 - $12,600 = $18,900

e.g. if the assets is sold at $30,000, the gain = $11,100

under straight line method a $30,000 resale price would result in a loss(= $30,000 - $40,250 = -$10,250), while sum of years' digit would result in a gain = $30,000 - ($87,500 - $26,250 - $21,000 - $15,750) = $5,500