Owning a company means investing time and money into assets that help your business run smoothly. Assets like computers and vehicles can be essential to achieving high business performance, but how do you anticipate and calculate when these investments begin to lose their value?

The straight-line depreciation method is a common way to measure the depreciation of a fixed asset over time. The method can help you predict your expenses, know when it’s time for a new investment and prepare for tax season. Continue reading to learn how to calculate straight-line depreciation and determine the value of your assets.

## Why is the straight-line depreciation method important?

The straight-line depreciation method is important because you can use the formula to determine how much value an asset loses over time. By using this formula, you can calculate when you will need to replace an asset and prepare for that expense.

You can use this method to anticipate the cost and value of assets like land, vehicles and machinery. While the upfront cost of these items can be shocking, calculating depreciation can actually save you money, thanks to IRS tax guidelines.

After using the straight-line depreciation method, the IRS allows businesses to use the straight-line method to write off certain business expenses under the Modified Accelerated Cost Recovery System (MACRS).

## Common instances to use straight-line depreciation

The best time to use the straight-line depreciation method is when you don’t expect an asset to have a specific pattern of use over time. Here are some examples of when to use the formula:

- Business accounting
- Preparing for tax season
- Creating an income statement
- Calculating an asset’s value
- Before making an investment

Straight-line depreciation is often the easiest and most straightforward way of calculating depreciation, which means it can potentially result in fewer errors.

## The straight-line depreciation formula

The straight-line depreciation equation measures how much value an item loses over time. The method assumes a fixed asset will lose the same amount of value each year of its useful life until it reaches its salvage value. Below is what the straight-line depreciation formula looks like:

**Annual depreciation expense = (purchase price − salvage value) / useful life**

To help you better understand this formula, let’s define a few key terms:

**Depreciation****:**The decrease in a physical asset’s worth.**Fixed asset:**A long-term tangible piece of property or equipment a company owns and uses to produce revenue.**Useful life**: An accounting measure of the number of years an asset could remain in operation and help generate revenue.**Salvage value:**The estimated value of an asset at the end of its useful life. Also called scrap value or residual value, salvage value calculates an asset’s annual depreciation cost.**Purchase price:**The total cost of an asset, including shipping, taxes, and any applicable fees.

By estimating depreciation, companies can spread the cost of an asset over several years. The straight-line depreciation method is a simple and reliable way small business owners can calculate depreciation.

## How to calculate straight-line depreciation

Now that you know what straight-line depreciation is and why it’s important, let’s look at how to calculate it.

### Step 1: Calculate the asset’s purchase price

The purchase price refers to the total cost of an asset. You can calculate an asset’s purchase price by adding the following figures together:

**Price:**the original price you purchased the asset for**Shipping:**any fees that relate to the delivery of your asset**Taxes****:**an additional fee that reflects a percentage of the asset’s price**Maintenance:**costs associated with maintaining the asset**Any applicable fees:**anything that adds to the cost of the asset

After you gather these figures, add them up to determine the total purchase price. Now it’s time to calculate the asset’s life span and salvage value.

### Step 2: Determine the asset’s life span and salvage value

You can calculate the asset’s life span by determining the number of years it will remain useful. It’s possible to find this information on the product’s packaging, website or by speaking to a brand representative.

Next, you’ll estimate the cost of the salvage value by considering how much the product will be worth at the end of its useful life span.

### Step 3: Subtract the salvage value from the purchase price

Now that you have calculated the purchase price, life span and salvage value, it’s time to subtract these figures.

Subtract the asset’s salvage value from the purchase price. This number will show you how much money the asset is ultimately worth while calculating its depreciation.

### Step 4: Calculate depreciation expenses

Once you understand the asset’s worth, it’s time to calculate depreciation expense using the straight-line depreciation equation.

This means taking the asset’s worth (the salvage value subtracted from the purchase price) and dividing it by its useful life. This number will give you an asset’s annual depreciation expense.

### Step 5: Divide by 12 for monthly depreciation (optional)

If you want to take the equation a step further, you can divide the annual depreciation expense by twelve to determine monthly depreciation. This step is optional, however, it can shed light on monthly depreciation expenses.

With these numbers on hand, you’ll be able to use the straight-line depreciation formula to determine the amount of depreciation for an asset on an annual or monthly basis.

## Accelerated depreciation vs straight-line depreciation

The straight-line depreciation method is not to be confused with accelerated depreciation. The two systems differ in a few ways:

**Accelerated depreciation:**an assets loses value fasterin th beginning of its lifespan and depreciation begins to slow down over time.**Straight-line depreciation:**an asset loses value at the same rate over time.

Now that you know the difference between the depreciation models, let’s see the straight-line depreciation method being used in real-world situations.

## Straight-line depreciation examples in the real world

Straight-line depreciation is used in everyday scenarios to calculate the with of business assets. To get a better understanding of how to calculate straight-line depreciation, let’s look at a few examples below.

### Tree removal service example

Let’s say you own a tree removal service, and you buy a brand-new commercial wood chipper for $15,000 (purchase price). Your tree removal business is such a success that your wood chipper will last for only five years before you need to replace it (useful life).

You believe after five years you’ll be able to sell your wood chipper for $3,000 (salvage value). Here’s how you would calculate your wood chipper’s depreciation using the straight-line method:

Annual depreciation per year = (Purchase price of $15,000 − salvage life of $3,000) / useful life of five years

Annual depreciation per year = $12,000 / 5

Annual depreciation per year = $2,400

According to the straight-line method of depreciation, your wood chipper will depreciate $2,400 every year.

### Fishing business example

Now, let’s assume you run a large fishing business that sets out on the Bering Sea every summer to capture fresh salmon. You buy a new vessel for $280,000 to help increase production.

According to the IRS’s standard use of life, vessels fall under the 10-year property life. Once that 10-year period is up, you believe you can sell your vessel for $70,000. Using the straight-line depreciation formula, here’s how much your fishing vessel will depreciate each year:

Annual depreciation per year = (Purchase price of $280,000 − salvage life of $70,000) / useful life of 10 years

Annual depreciation per year = $210,000 / 10

Annual depreciation per year = $21,000

When crunching numbers in the office, you can record your vessel depreciating $21,000 per year over 10 years using the straight-line method.

### Real estate example

Lastly, let’s pretend you just bought property to build a new storefront for your bakery. You installed a fence around the entire plot of land, which falls under the 15-year property life. The initial cost of the fence was $25,000, and you think you can scrap the wood for $3,000 at the end of its useful life.

Using the straight-line depreciation method, here’s how much your fence will depreciate each year:

Annual depreciation per year = (Purchase price of $25,000 − salvage life of $3,000) / useful life of 15 years

Annual depreciation per year = $22,000 / 15

Annual depreciation per year = $1,467

After building your fence, you can expect it to depreciate by $1,467 each year. Additionally, you can calculate the depreciation rate by dividing the depreciation amount by the total depreciable cost (purchase price − estimated salvage value).

In this case, the depreciation rate of your fence will be 6.67% ($1,467 / $22,000 = 0.067 x 100). With an asset’s depreciation rate, you can create a depreciation schedule to see how much value an asset loses each year.

## Other depreciation methods to consider

The straight-line method of depreciation isn’t the only way businesses can calculate the value of their depreciable assets. While the straight-line method is the easiest, sometimes companies may need a more accurate method. Below are a few other methods one can use to calculate depreciation.

The straight-line depreciation method differs from other methods because it assumes an asset will lose the same amount of value each year.

### Double-declining balance method

With the double-declining balance method, higher depreciation is posted at the beginning of the useful life of the asset, with lower depreciation expenses coming later. This method is an accelerated depreciation method because more expenses are posted in an asset’s early years, with fewer expenses being posted in later years.

This approach calculates depreciation as a percentage and then depreciates the asset at twice the percentage rate.

### Units of production method

Manufacturing businesses typically use the units of production method. This method calculates depreciation by looking at the number of units generated in a given year. This method is useful for businesses that have significant year-to-year fluctuations in production.

If your company uses a piece of equipment, you should see more depreciation when you use the machinery to produce more units of a commodity. If production declines, this method lowers the depreciation expenses from one year to the next.

## Streamline your accounting and save time

You can use the straight-line depreciation method to keep an eye on the value of your fixed assets and predict your expenses for the next month, quarter, or year.

If you’re ready to take your business performance to the next level, consider investing in accounting software that tracks your income and expenses.

*This article originally appeared on the QuickBooks Resource Center and was syndicated by MediaFeed.org.*

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