At the beginning of Year 1, Herkimer & Co. purchases a set of seven laptops for its new employees. Each laptop costs $2,300 and has a residual value of $500. The company expects to use the laptops for three years.
Calculate the annual depreciation rate for the group of laptops.
The Correct Answer and Explanation is:
Correct Answer:
To calculate the annual depreciation rate using the straight-line depreciation method, follow these steps:
- Cost per laptop: $2,300
- Residual (salvage) value: $500
- Useful life: 3 years
- Depreciable amount per laptop = Cost − Residual value
= $2,300 − $500 = $1,800 - Annual depreciation expense = $1,800 ÷ 3 = $600
- Depreciation rate = Annual depreciation ÷ Cost = $600 ÷ $2,300 ≈ 26.09%
Explanation
Depreciation is an accounting method used to allocate the cost of a tangible asset over its useful life. In this case, Herkimer & Co. has purchased a set of seven laptops, each costing $2,300. The company anticipates these laptops will be used for three years and have a residual (salvage) value of $500 at the end of that period.
The straight-line depreciation method is one of the most commonly used and assumes that the asset loses value evenly over its useful life. Under this method, the annual depreciation expense is calculated by subtracting the residual value from the cost and dividing the result by the asset’s useful life.
For each laptop:
- The depreciable base is the difference between the purchase cost ($2,300) and the residual value ($500), which equals $1,800.
- Dividing this amount by the three-year useful life results in an annual depreciation expense of $600.
- To express this as a percentage of the original cost, we divide $600 by $2,300, which yields approximately 26.09%.
This means that each year, about 26.09% of the laptop’s original cost is recognized as a depreciation expense in the company’s financial records.
Calculating and applying depreciation is crucial for matching expenses with revenues in the correct accounting periods and for accurately representing the book value of assets on the balance sheet. It also has tax implications, as depreciation reduces taxable income. By applying the 26.09% rate annually, Herkimer & Co. ensures a systematic reduction in the asset’s value over its useful life.
