Depreciation is the loss of value of an asset due to its use, natural wear and tear or obsolescence. In corporate accounting, this depreciation is recorded as a percentage of the asset’s book value that is discounted over time, according to its expected useful life.
Depreciation is applied in the case of the assets that make up the permanent assets of the company, those that were acquired with the expectation of being used for more than one year. In general, permanent assets generally correspond to real estate assets, that is, assets that guarantee the activities of the company and that are used to obtain economic benefits. Some examples are real estate, machinery, equipment, and vehicles.
How is depreciation accounted for?
When the good is used directly in production, its depreciation rate will be recorded as a cost . Depreciation of goods that are not used directly in production is recorded as an expense .
The difference between one and another form of launch is that the costs can be attributed directly to the final product, which makes it easier to analyze the performance that this product generates. Expenses, since they are general in nature, can hardly be directly linked to the products and services offered by the company.
Impact on tax calculation
Accounting for the depreciation of company assets is important not only to increase control over finances and risks, but mainly because it has a direct impact on the calculation of taxes . This is because, when recorded as an inherent cost of production, depreciation will be deducted from the company’s net profit.
In addition to the impact on earnings, the depreciation record also corrects the value of the asset over the years, which can also have an impact on taxes owed. It is because of this depreciation that, for example, cars have lower IPVA (Motor Vehicle Property Tax) rates over the years, as they lose value over time.
Rules for recording depreciation
For tax purposes, depreciation must be recorded in the companies’ balance sheet in accordance with the rules and limits established in tax law. It is the Federal Revenue Service that determines the estimated useful life of an asset and, based on this, its annual depreciation rate.
Depreciation can start counting from the installation of the asset and, at the end of the useful life, cannot exceed the acquisition cost of the asset.
According to IRS charts, the estimated useful life is 25 years for real estate, 5 years for vehicles and computers, and 10 years for most machines, equipment, furniture, and utensils. The following table shows the annual depreciation rate of some of the main assets, according to the income rules.
Annual depreciation rate
|Furniture and utensils||10%|
|Machines and equipment||10%|
|Vehicles with a capacity of up to 10 passengers.||twenty%|
|Cargo vehicles, including most trucks.||25%|
|Computers and computer and communication equipment.||twenty%|
The depreciation rate depends on the wear and tear that the property suffers from use. For example, rubber conveyor and transmission belts, which need to be changed frequently, have annual depreciation rates of 50%. The complete table is found in the annexes of SRF Normative Instruction No. 1700, of March 14, 2017.
The existence of an IRS table does not prevent the company from calculating a different fee, which is more compatible with the effective depreciation conditions of its assets. However, if you use a rate based on a different life expectancy, you will need to test this adequacy.
The estimated useful life does not necessarily mean that the asset will have no value after completion, but that it has run out of time for economic use. The value of the asset at the end of its useful life is called the residual value or residual value .
In the case of used goods that are purchased , the annual depreciation rate must consider half of the useful life allowed for the new asset purchased or the rest of the useful life (considering the date of the first installation of the asset by the former owner). The applied rate should consider the period that is the longest between these two formulas.
Under the law, not all assets can be depreciated . The main exceptions are land and buildings and constructions that are not rented or used in production. The same is true for products that generally increase in value over time, such as works of art and antiques.
How is depreciation calculated?
From this expected life, we can calculate the annual depreciation of a good. The two most common methods of calculating depreciation are linear and the sum of digits.
The calculations below consider that the asset will have no residual value after the end of its useful life. If there is an estimated residual value, it must be subtracted from the acquisition value before calculating its depreciation. The residual values are also determined by law.
Linear depreciation is the simplest and most widely used calculation method. It is a method that assigns an equal depreciation rate for all periods . Using this method, it is sufficient to divide the total value of the asset by its useful life period to know its monthly depreciation in reais. To calculate the annual loss in percentage, just divide 100% by the total years of useful life.
For example, a vehicle has a book value of $ 30,000. Its expected life is 5 years. Therefore, the vehicle will have a depreciation of 20% per year, equivalent to $ 6 thousand.
Digit sum depreciation
This method assigns increasing or decreasing depreciation quotas, but the established useful life is also respected and, in the end, the sum of these quotas must also reach the total value of the asset.
To use this method, a denominator must be calculated. This calculation is made by adding the digits of each year of the useful life of the asset. Using the same example above ($ 30,000 vehicle with a 5-year life), it would look like this:
1 + 2 + 3 + 4 + 5 = 15
In this example, the denominator is 15 .
To calculate increasing depreciation, this denominator will be applied to the corresponding year to arrive at a fraction that will then be multiplied by the value of the asset. In the example above, it would look like this:
Year 1: 1/15 x $ 30,000 = $ 2,000
Year 2: 2/15 x $ 30,000 = $ 4,000
Year 3: 3/15 x $ 30,000 = $ 6,000
Year 4: 4/15 x $ 30,000 = $ 8,000
Year 5 : 5/15 x $ 30,000 = $ 10,000
That is, in the first year a depreciation of $ 2,000 would be recorded, in the second year of $ 4,000, in the third year of $ 6,000 and so on.
To apply a decreasing depreciation, it would be sufficient to invest the amounts, starting with a depreciation of $ 10,000 in the first year and reducing the cost in the following years.
Note that in all cases the sum of the depreciation shares must reach the full value of the asset at the end of its useful life.
What is accelerated depreciation?
The calculation of depreciation based on Federal Income rules considers a normal trip, of 8 hours of use of the company’s machines and equipment. However, some companies work more than one shift and their assets suffer greater wear and tear .
In such cases, accelerated depreciation is considered to exist. If the company works two shifts (16 hours of operation), the depreciation rate will increase by 50% over the normal rate. If the operation is not interrupted, that is, if the company performs three shifts per day, with a total of 24 hours of production, the depreciation rate will be twice normal.
Therefore, if an asset has a normal depreciation rate of 20% per year, if the company works two shifts, the depreciation will be 30% per year. If the asset is used 24 hours a day, the applied rate will be 40% per year.
The accelerated depreciation encouraged is a tax benefit that the government grants to some sectors, through special legislation, which ends up generating a reduction in taxes owed. An example is the permits for the total deduction of the value of certain goods in the year of acquisition granted by some incentive programs for rural activities and technological innovation.