On August 3, Cinco Construction purchased special-purpose equipment at a cost of

Question

On August 3, Cinco Construction purchased special-purpose equipment at a cost of $7,461,000. The useful life of the equipment was estimated to be eight years, with an estimated residual value of $34,160.

a. Compute the depreciation expense to be recognized each calendar year for financial reporting purposes under the straight-line depreciation method (half-year convention).

b. Compute the depreciation expense to be recognized each calendar year for financial reporting purposes under the 200 percent declining-balance method (half-year convention) with a switch to straight-line when it will maximize depreciation expense.

c. Which of these two depreciation methods (straight-line or double-declining-balance) results in the highest net income for financial reporting purposes during the first two years of the equipment’s use?

Explanation / Answer

a. Compute the depreciation expense to be recognized each calendar year for financial reporting purposes under the straight-line depreciation method (half-year convention).

Depreciation =($7,461,000-$34,160)/8 =

b. Compute the depreciation expense to be recognized each calendar year for financial reporting purposes under the 200 percent declining-balance method (half-year convention) with a switch to straight-line when it will maximize depreciation expense.

1/8*2 =25%

Which of these two depreciation methods (straight-line or double-declining-balance) results in the highest net income for financial reporting purposes during the first two years of the equipment’s use?

Answer is Straight line method as depreciation is less as compared to double-declining-balance

Depreciation 1 464177.5 2 928355 3 928355 4 928355 5 928355 6 928355 7 928355 8 928355 9 464177.5

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