Double Declining Balance Depreciation

What Is Double Declining Balance Depreciation?

The Double-Declining Balance method is a form of accelerated depreciation. In this approach, the asset is depreciated at double the rate as compared to straight-line depreciation. Hence, it’s called double declining balance depreciation.

Let us consider an example of an asset with a useful life of 10 years. In a straight-line depreciation method, the asset will be depreciated uniformly over 10 years at 10%. 

In the double declining balance depreciation method, the asset will be depreciated by 20% annually until the salvage value is reached.

When we use double declining balance depreciation, the depreciation expense is higher in the early years as compared to later years. However, the total amount depreciated over the asset's life remains the same.

The key distinction is that the rate of depreciation is more aggressive during the initial years when employing the double declining balance method.

This method is often chosen when the asset's value depreciates more rapidly in its early years, reflecting a more realistic depreciation pattern.

How To Calculate The Double-Declining Balance Depreciation

The steps involved in calculating depreciation expense using a double declining balance method are as follows:

1. Initial Cost: Begin by noting the asset's initial cost at the time of purchase.
2. Salvage Value: Establish the salvage value of the asset. (Salvage value is the price at which an asset can be sold or disposed of after its useful life.) 
3. Useful Life: Establish the useful life of the asset, which is the period for which the asset can be effectively used.                                                                               
4. Rate of Depreciation: Calculate the rate of depreciation. In the straight-line method, the rate is calculated as 1/ Useful life. In the double declining balance method, the rate is 2 * (1/ Useful Life).
5. Depreciation Expense for the Year: Multiply the rate of depreciation by the beginning of the year book value of the asset. This value is the depreciation expense for the year.
6. Carrying Value: Deduct the depreciation expense from the beginning of the year's asset value to get the carrying value at the end of the year.
7. Repeat Until Salvage Value: Continue these calculations each year until the carrying value reaches the salvage value. At this point, you've fully depreciated the asset.

Double Declining Balance Depreciation Example

Let us consider we have the following information:

• Initial cost of the asset = $1.5 million
• Salvage value = $200,000 
• Useful life = 10 years
• Depreciation rate = (1/ 10) * 2 = 20%

The carrying value at the start of the year is the same as the carrying value at the end of the previous year.

Depreciation Expense = Carrying value at the start of the year * 20%   

$960,000 * 20% = $192,000

Carrying value at the end of the year = Carrying value at the start of the year - Depreciation Expense

$768,000 = $960,000 - $192,000

The calculations accurately show how the asset's carrying value decreases each year while the depreciation expense is based on a fixed percentage of the remaining carrying value. This is a typical representation of how the double declining balance depreciation method works.

When To Use Double Declining Balance Depreciation?

The Double Declining Balance Depreciation method is best suited for situations where assets are used intensively in their early years and/or when assets tend to become obsolete relatively quickly. 

Here are some key scenarios where this method is commonly applied:

1. Assets with High Initial Usage: When an asset experiences heavy usage and wear and tear in its early years, the double declining balance method is a suitable choice. It accurately reflects the higher depreciation expense incurred during these periods.
2. Assets Prone to Rapid Obsolescence: Assets, particularly in the technology and electronics sector, often become obsolete quickly as new and improved models are introduced. The double declining balance method aligns with the declining value of these assets more accurately.
3. Vehicles: The method is frequently used for vehicles like trucks and cars. Vehicles tend to lose a significant portion of their value in the initial years due to factors such as wear and tear, mileage, and the introduction of newer models.

Effect Of Double Declining Balance Method On Financial Statements

The use of the Double Declining Balance Depreciation method has distinct effects on a company's financial statements, particularly on the income statement and net income. Here are the key impacts:

1. On the Income Statement 

• When a company uses the double declining balance method to depreciate an asset, the company recognizes a larger proportion of depreciable value in the early years, leading to a much higher depreciation expense.
• Compared to the straight-line method, which has a constant depreciation expense throughout the life of an asset, the double-declining balance method has a non-uniform depreciation expense.

2. On Net Income 

• The higher depreciation expense resulting from the method reduces the profit before tax or the company's operating income. 
• As profit before tax is reduced, it leads to a decrease in net income, which is the company's final profit after accounting for all expenses, including taxes.
• An advantage of using this method of depreciation is the lower tax expense. Depreciation expense is tax deductible. The larger the expense, the lower the amount on which a company pays taxes.

Summary

Double declining balance depreciation is an accelerated depreciation method. In this, the depreciation rate is twice the rate used in the straight-line method. 

This depreciation method is used when assets are utilized more in the early years and when assets become obsolete quickly. Using the double declining balance depreciation method increases the depreciation expense, reducing the tax expense and net income in the early years.

Since the net income is reduced in double declining balance, the profitability and operational efficiency ratios tend to get skewed negatively compared to the straight line method.

The choice of depreciation method between a straight line and a double declining balance only affects the depreciation expense. The overall depreciation recognized in the end is the same regardless of the method used.

Researched and written by Siddhanta Salunkhe | Linkedin

Reviewed and edited by Parul Gupta | LinkedIn

Free Resources

To continue learning and advancing your career, check out these additional helpful WSO resources:

• Accelerated Depreciation
• Accounting Depreciation vs Tax Depreciation
• Depreciation Expense
• MACRS Depreciation
• Straight Line Depreciation