The Assets are important to businesses because they can be used to fund day-to-day operations and pay ongoing expenses. There is no asset that will last forever. After already been used for running the business the asset’s value may decrease especially for tangible assets. This terms is known as depreciation. Depreciation is really helpful to find out the taxable income and it may reduce it. Just take a look this illustration below:

Any company earning may be taxed and the depreciation value will pay lower tax bill. Can you imagine if we take out the depreciation? of course we may have less net income profit. Simple formula to compute the profit is any earnings minus cost and the depreciation is put in cost category. The lower taxable income the higher you may get the profit.

There are some rules to depreciation asset including:

1. Assets used in business or held for production of income
2. Assets having a definite useful life and a life longer than one year (you can never depreciate land)
3. Assets that must wear out, become obsolete or lose value

A qualifying asset for depreciation must satisfy all of the three conditions above. Ex: buildings, machinery, equipment, vehicles   etc. The depreciated assets are not valid to inventory or stock sale, or investment property (of course the value of land is accelerated, it never wears out, so it is not depreciated asset, include golds)

To compute the depreciation of an assets, the company should collect the important data such as:

1. Useful life – how many years will an asset be useful to a company?
2. Salvage value – Asset’s estimated value at the end of its useful life. (basic rule but it may depends: 10% rule of the initial value)
3. Book value or BVt – Remaining undepreciated capital investment in year t

meanwhile, there are several depreciation method but most of the counties used these:

Straight of Line Depreciation (SLD ) is the simplest and commonly used by many people. The method results a constant depreciation value every year.

Sum of Years Digits Depreciation (SOYD) results larger depreciation value than SLD. It charges big value in the beginning of year but slowly decrease after the useful life ends. The method use fraction between the remaining depreciable life at beginning of year and sum of years digit. The denominators of the fraction is the sum of years digit. Let say, the asset will last 4 years then the denominator is 1+2+3+4= 10=SOYD then 4/10; 3/10; 2/10 and 1/10 are the fractions for year 1 to 4.

Double Declining Balance Depreciation (DDBD) or Diminishing Balance Deprectiation also result higher depreciation value because it actually derived from SLD formula but 200% SLD rate. Since 200% is twice that SLD rate then the method  is called Double Declining Balance Depreciation. Both DDBD and SLD is permitted to be used in Indonesia.

 

Reference: Newnan et al (2013)

pic credit: Photo by Jp Valery on Unsplash