Reducing Balance Depreciation

Level 3 Worksheet: Reducing Balance Depreciation

1. Key Concepts (Recap)

• Definition of Reducing Balance Depreciation:

  • Reducing Balance Depreciation is a method of calculating depreciation where a fixed percentage is applied to the opening book value of an asset each year.

• Formula for Depreciation Calculation:

  • \text{Depreciation} = \text{Opening Book Value} \times \text{Depreciation Rate}

2. Worked Example (Model)

• Example Asset: Machine

  • Initial Cost: £20,000

  • Depreciation Rate: 25% per year

Yearly Breakdown:

• Year 1:

  • Opening Book Value: £20,000

  • Depreciation:

  • Calculation: £20,000 \times 0.25 = £5,000

  • Closing Book Value:

  • Calculation: £20,000 - £5,000 = £15,000

• Year 2:

  • Opening Book Value: £15,000

  • Depreciation:

  • Calculation: £15,000 \times 0.25 = £3,750

  • Closing Book Value:

  • Calculation: £15,000 - £3,750 = £11,250

• Year 3:

  • Opening Book Value: £11,250

  • Depreciation:

  • Calculation: £11,250 \times 0.25 = £2,812.50

  • Closing Book Value:

  • Calculation: £11,250 - £2,812.50 = £8,437.50

3. Student Practice Questions

Question 1

• Equipment Cost: £12,000

• Depreciation Rate: 20%

  • (a) Year 1 Depreciation:

  • Calculation: £12,000 \times 0.20 = £2,400

  • (b) Book Value End of Year 2:

  • Year 1 Closing Value: £12,000 - £2,400 = £9,600

  • Year 2 Depreciation: £9,600 \times 0.20 = £1,920

  • Year 2 Closing Value: £9,600 - £1,920 = £7,680

  • (c) Complete 3-Year Schedule:

  • Year 1 Opening: £12,000, Depreciation: £2,400, Closing: £9,600

  • Year 2 Opening: £9,600, Depreciation: £1,920, Closing: £7,680

  • Year 3 Opening: £7,680, Depreciation: £7,680 \times 0.20 = £1,536, Closing: £7,680 - £1,536 = £6,144

Question 2

• Vehicle Cost: £18,000

• Depreciation Rate: 30%

  • (a) Year 1 & 2 Depreciation:

  • Year 1 Depreciation: £18,000 \times 0.30 = £5,400

  • Year 1 Closing Value: £18,000 - £5,400 = £12,600

  • Year 2 Depreciation: £12,600 \times 0.30 = £3,780

  • Year 2 Closing Value: £12,600 - £3,780 = £8,820

  • (b) Book Value End of Year 3:

  • Year 3 Depreciation: £8,820 \times 0.30 = £2,646

  • Year 3 Closing Value: £8,820 - £2,646 = £6,174

  • (c) Reason why Reducing Balance Suits Vehicles:

  • Reducing balance depreciation is appropriate for vehicles because they tend to lose value more quickly in the initial years of ownership. This reflects the loss of value due to wear and tear, technological advancements, and changes in demand for used vehicles.

Question 3

• Laptop Cost: £1,500

• Depreciation Rate: 40%

  • (a) Book Value after 3 Years:

  • Year 1 Depreciation: £1,500 \times 0.40 = £600

  • Year 1 Closing: £1,500 - £600 = £900

  • Year 2 Depreciation: £900 \times 0.40 = £360

  • Year 2 Closing: £900 - £360 = £540

  • Year 3 Depreciation: £540 \times 0.40 = £216

  • Year 3 Closing: £540 - £216 = £324

  • (b) Accumulated Depreciation after 3 Years:

  • Accumulated Depreciation: 600 + 360 + 216 = 1,176

  • (c) Comment on Depreciation Pattern:

  • The depreciation pattern exhibits a diminishing expense over time, as the absolute amount of depreciation decreases due to the lower book value of the asset each year.

Question 4 - Conceptual

• Difference between Reducing Balance and Straight-Line Depreciation:

  • Reducing Balance: Depreciation expense decreases over time as a fixed percentage is applied to the decreasing book value of the asset.

  • Straight-Line: An equal amount of depreciation expense is deducted from the asset's value each year.

• Advantages of Reducing Balance:

  • More accurately reflects the usage and decreasing value of many types of assets, particularly those that suffer rapid decline in value.

• Disadvantages of Reducing Balance:

  • Can be more complex to calculate than straight-line depreciation, potentially leading to errors.

4. Challenge Tasks

Task A - Choosing a Depreciation Method

• Asset List:

  • Delivery van

  • Office desks

  • Digital cameras

  • Warehouse shelving

Task B - Reverse Engineering

• Best Method:

  • Reasoning for each asset regarding why reducing balance may be chosen based on initial and perpetual usage.

• Given Values: Opening value £9,720; Depreciation £1,944.

  • (a) Rate Calculation:

  • Rate = \frac{£1,944}{£9,720} \approx 0.20 or 20%

  • (b) Closing Value Calculation:

  • Closing Value = £9,720 - £1,944 = £7,776

  • (c) Opening Value Last Year Calculation:

  • Given depreciation rate, use known depreciation to find the previous year’s value.

5. Blank Reducing Balance Depreciation Schedule

• Layout for student practice: