The double declining balance depreciation method can help businesses depreciate assets more quickly for tax benefits, making it especially useful for vehicles and other rapidly depreciating assets.
- The double declining balance (DDB) method of depreciation enables you to depreciate assets more quickly in the first few years following purchase.
- The majority of accounting software makes it simple to use and track the DDB depreciation technique.
- If you sell an item before the end of its useful life, the DDB depreciation technique may result in larger depreciation recovery.
- For business owners and professionals with an interest in accounting procedures and software.
A technique of accounting known as the double declining balance (DDB) depreciation method entails depreciating some assets at a rate that is twice that of straight-line depreciation. As a result, depreciation increases during the first year of ownership and decreases thereafter.
Given the DDB depreciation method’s characteristics, it is best saved for assets like vehicles and heavy machinery that depreciate quickly in the initial few years of ownership. By using the DDB depreciation technique, you may accelerate the depreciation of these assets, collecting tax advantages sooner, and lowering your initial tax obligation.
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What is the double declining balance (DDB) depreciation method?
The straight-line depreciation technique, another and arguably even more frequent type of depreciation, depreciates an asset’s value at a rate that is half that of the DDB depreciation method.
When a firm depreciates an asset, it lowers the item’s worth over time from its cost basis—the price it paid for the asset—to some eventual salvage value over a predetermined number of years (considered the useful life of the asset). A firm can claim tax deductions each year for the alleged lost worth of the asset over that year by lowering the asset’s value on the company’s records.
The most typical depreciation techniques are as follows:
This strategy evenly depreciates an asset over a certain period of time from purchase price to salvage value (the useful life). The total depreciation amount (purchase price less salvage value) divided by the projected useful life of the item yields the yearly depreciation amount.
Double declining balance depreciation.
Assets are depreciated using this approach at double the rate of straight-line depreciation. The amount permitted under straight-line depreciation for year one is first calculated by users of this approach, who then multiply it by two. They determine the remaining depreciable balance the following year, divide it by the remaining years, and multiply by two. They continue doing this every year until the asset’s final year of usable life, at which point they depreciate any remaining value over the asset’s salvage value.
Sum-of-the-years digits depreciation.
In order to utilize this strategy, you must sum up the years in the useful life of an asset (5+4+3+2+1 for a five-year useful life, for example). The entire year value is divided by the asset’s remaining depreciation years, starting with the greatest number. The remaining asset’s depreciable value is then multiplied by the final percentage.
Units of production depreciation.
Only machinery, often owned by major manufacturers, is employed in this manner. A small fraction of the machine’s overall depreciation is allotted to each individual item produced within a specific time period. Depreciation is based on the useful life of the machinery and projected production throughout that time. You multiply the per-unit depreciation rate by the quantity of units produced over a specific time period to get production.
DDB depreciation, in contrast to straight-line depreciation, is largest in the first year before declining over the following years. This makes it perfect for possessions whose value normally declines the greatest in the first few years of ownership. It’s also not very challenging to put into practice, in contrast to some other depreciation strategies.
When to use the DDB depreciation method
The DDB depreciation method works best for assets whose value depreciates rapidly during the first few years of ownership. Although it may also apply to company assets like computers, mobile devices, and other technologies, this is more usually the case for items like automobiles and other vehicles.
When a business owner wishes to spread out the tax advantages of depreciation across the useful life of a product, DDB depreciation is less favourable. This is ideal for companies that quickly replace their equipment or for those who may not yet be profitable and so may not be able to benefit from bigger depreciation write-offs.
Another depreciation method could be preferable if you anticipate selling a depreciating item before the end of its useful life because the DDB depreciation method could result in you recapturing more depreciation and having to pay more in taxes.
DDB depreciation formula
A bit more work goes into the DDB depreciation approach than the straight-line method. The formula for figuring out how much should be depreciated annually is as follows:
With the exception of the final year of an asset’s useful life, this formula is applicable to every year that you depreciate an item. The amount to be depreciated in that year will be the difference between the asset’s book value at the start of the year and its eventual salvage value (this is usually just a small remainder).
The asset is deemed completely depreciated and cannot be further depreciated once it is valued on the company’s records at its salvage value. However, if the business later sells that asset for more than it is worth on its books, it will be required to pay taxes as a capital gain on the difference. The term for this is depreciation recapture.
DDB is typically not a straightforward depreciation mechanism to adopt, in general. Leading accounting software may also be used to monitor an asset’s value while it is being depreciated, albeit depending on the programme and depreciation method you use, you might need to manually compute the yearly depreciation amount each year.
How to calculate DDB depreciation
To calculate an asset’s depreciation using the DDB depreciation technique, follow these steps:
Determine your cost basis in an asset.
This covers both the purchasing cost and any other expenses, such as broker fees, legal fees, and closing costs.
Identify the useful life of the asset.
These are made available by the IRS and range in price and asset type.
Look up the asset’s salvage value.
The asset’s estimated value at the end of its useful life is given here. The IRS offers advice on calculating salvage value as well.
Determine the depreciation for the first year.
To calculate your depreciation for the first year, use the calculation above.
Calculations should be continued until salvage value is reached.
Repeat this procedure each year until the last year, at which point you deduct any leftover depreciable sum.
Although it may appear difficult, accounting software may make calculating DDB depreciation simple. Check out our list of the best accounting programmes or some of our individual product evaluations, like those of Zoho Books and Intuit QuickBooks accounting software, to discover which programme could be ideal for you.
Example of DDB depreciation
Consider a maker of widgets who spends $200,000 on a packing equipment with a five-year useful life and an estimated salvage value of $25,000. The equipment loses value according to the DDB depreciation technique at a rate of $80,000 in the first year, $48,000 in the second, and so on until it reaches its salvage value of $25,000 in year five.
DDB depreciation is the most suitable method of depreciation for this sort of asset since the equipment has a five-year useful life and is projected to rapidly depreciate in value during the first few years of usage.
Here is a deeper look at the annual depreciation:
Now contrast this with depreciation that occurs linearly. When utilizing straight-line depreciation, the schedule for the identical $200,000 asset would seem as follows:
The identical asset, using the aforementioned example, would lose $35,000 in the first year and then continue to lose money each year until it reached its complete depreciation in year five. The DDB depreciation technique clearly results in significantly bigger amounts of the asset’s value being written off in the early years, leading to greater tax savings in the early years, as can be seen by comparing the two schedules above.
This also implies that, if you sold the equipment for $180,000 in year three, the DDB depreciation technique would result in a substantially higher tax burden due to depreciation recapture than the straight-line approach would.