Master Depreciation Methods with and without Excel’s Powerful Functions
🚀 Quick Navigation
Straight-Line Sum of Years Declining Balance Double-Declining Variable Declining Compare MethodsWhat is Depreciation? 💰
Depreciation is the systematic allocation of an asset’s cost over its useful life. Instead of expensing the entire purchase price right away, businesses spread that cost across several accounting periods. As a result, expenses are matched to the revenue the asset helps generate.
For example, if a company buys equipment for $50,000 with a ten-year life, the value does not stay the same for all ten years. Instead, part of the cost is recognized each year as depreciation expense. The IRS allows you to delete your assets using different depreciation methods.
What Are Fixed Assets?
Assets used in daily business operations, and not held for resale, are classified as fixed assets. These typically include furniture, machinery, buildings, and computer equipment. In addition, equipment that is used only occasionally, such as backup machinery, is also considered a fixed asset.What Costs Are Included in an Asset?
The cost of a fixed asset is more than just the purchase price. Specifically, it includes all expenses required to get the asset delivered and ready for use. These costs may include shipping, insurance, taxes, and labor for installation.Furthermore, second-hand equipment may involve extra expenses such as painting, repairs, or replacement parts. Therefore, all of these costs are added together to determine the asset’s total initial cost.
Why Do Companies Depreciate Assets?
Companies track asset values to help determine the overall value of the business. More importantly, accounting follows the matching principle, which means revenues must be matched with related expenses.Because of this, the cost of a fixed asset is spread over the periods in which it is used. If an asset has a useful life of less than one year, however, it is expensed immediately instead of being depreciated.
Depreciation vs. Market Value
Depreciation for accounting purposes is not based on changes in market value. Rather, it is an allocation of cost over time, not a measurement of resale price.Useful Life and Salvage Value
All fixed assets, except land, usually depreciate over time. However, land used for natural resource extraction may also be depreciated. Because companies cannot know the exact lifespan or resale value of an asset, both useful life and salvage value must be estimated. The salvage value is the amount expected from selling the asset at the end of its life. Sometimes, the salvage value is zero or even negative if disposal costs are involved.Different Methods and Tax Impact
A company is not required to use only one depreciation method. Instead, it may apply different methods to different asset types. Finally, as assets depreciate, their book value decreases. Consequently, companies generally pay less tax on those assets over time.- Accurately reflects asset value on financial statements
- Provides tax deductions that reduce taxable income
- Helps in budgeting for asset replacement
- Matches expenses with revenue (matching principle)
🔑 Key Depreciation Method Terms
| Term | Definition | Excel Example |
|---|---|---|
| Cost (Basis) | Original purchase price of the asset | $50,000 |
| Salvage Value | Estimated value at end of useful life | $5,000 |
| Useful Life | Expected years of productive use | 10 years |
| Book Value | Cost minus accumulated depreciation | $35,000 |
| Depreciable Base | Cost minus salvage value | $45,000 |
💡 The Matching Principle & Depreciation
In accrual accounting, expenses must be matched with the revenues they help generate. This is known as the matching principle. When a business purchases a long-term asset (machinery, equipment, vehicles, buildings), the asset provides benefits over many accounting periods. Instead of expensing the full cost in the year of purchase, we:
- Capitalize the asset on the Balance Sheet, and
- Allocate its cost as depreciation expense over its useful life.
This ensures each period reports only the portion of the asset’s cost that was “used up” to generate that period’s revenue.
💡 Depreciation and the Contra-Asset Account
Depreciation is not recorded by directly reducing the asset account. Instead, accounting uses a contra-asset account called:
Accumulated Depreciation
This account:- Has a credit balance (opposite of the asset’s normal debit balance)
- Appears on the Balance Sheet directly below the related asset
- Shows the total depreciation taken to date
💡 Annual Formulas vs Monthly Recording
Depreciation formulas are typically calculated on an annual basis, for example:
Purchased a Truck on May 1
Cost: $45,000
Salvage value: $4,000
Useful life: 6 years
Method: Straight-Line
Annual Depreciation = 45000 − 4000 6 = 6,833.33 per year
Step 2 — Monthly Depreciation
6,833.33÷12 = 569.44 per month
The depreciation for each month would be recorded by debiting the Depreciation Expense for the Truck and crediting Accumulated Depreciation for the truck.
Cr Accumulated Depreciation – Truck 569.44
💡 Depreciation Does Not Represent Market Value
A very common misconception:
Book value ≠ Market valueDepreciation:
- Is based on accounting estimates (life, salvage value, method).
- Is designed for expense matching, not valuation.
- Fully depreciated and still highly valuable, or
- Hardly depreciated and nearly worthless in resale.
🎯 Depreciation Methods
Excel provides six built-in depreciation functions, each suited for different accounting scenarios and business needs. There are 5 depreciation methods for time based depreciaiton and 1 for units based depreciation. Choose the method that best matches your asset type and regulatory requirements.
Straight-Line
Equal depreciation each year. Simple, predictable, and most commonly used for assets that lose value consistently.
Declining Balance
Fixed-rate accelerated method. Calculates depreciation as a percentage of remaining book value.
Double-Declining
Most aggressive accelerated method at 200% of straight-line rate. Perfect for technology and vehicles.
Sum of Years’ Digits
Accelerated method with higher depreciation in early years. Ideal for assets that lose value quickly initially.
Variable Declining
Flexible method allowing switches between declining balance and straight-line within the asset’s life.
Units of Production
Usage-based or activity-based depreciation method that allocates an asset's cost based on its actual use, output, or production rather than the passage of time
💡 When to Use Each Depreciation Method
⭐ Best Practices
- Match method to asset type: Use accelerated for assets that lose value quickly
- Consider tax implications: Accelerated methods provide earlier tax benefits
- Stay consistent: Don’t change methods mid-stream without justification
- Document assumptions: Record salvage value and useful life estimates
- Review annually: Reassess if actual usage differs from estimates
- Comply with standards: Follow GAAP, IFRS, or IRS guidelines as required
🆚 Compare All Depreciation Methods
See side-by-side comparisons with interactive charts and real-world examples. Find the perfect method for your assets!
🎓 Real-World Example: Delivery Van
Scenario:
Asset: Delivery Van
Purchase Price: $35,000
Salvage Value: $5,000
Useful Life: 5 years
Depreciable Base: $30,000
| Method | Year 1 | Year 2 | Year 3 | Best For |
|---|---|---|---|---|
| Straight-Line | $6,000 | $6,000 | $6,000 | Stable usage |
| Double-Declining | $14,000 | $8,400 | $5,040 | Heavy early use |
| Sum of Years | $10,000 | $8,000 | $6,000 | Moderate acceleration |
🚀 Ready to Master Excel Depreciation?
Explore each depreciation method in detail with step-by-step tutorials, downloadable templates, and interactive examples. Build professional depreciation schedules that impress your managers and auditors!
For a deeper technical explanation of depreciation methods, see the Investopedia guide on depreciation .