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Reducing balance method is also known as Diminishing Balance and Written Down Value Method. In this method, the rate or percentage of depreciation is fixed instead of amount. The amount of depreciation is charged as a fixed percentage of book or depreciated value for every year. Since, the depreciation is charged at the rate of fixed percentage, the amount continues to diminish in succeeding years. Therefore, it is known as Diminishing Balance Method.This method is suitable for those assets having long life and is subject to addition and extension from time to time, such as land and building, plant and machinery. In this method, the scrap value cannot reach to zero. The scrap value should not be deducted from original value of assets to determine the amount of depreciation.
The following formula are used to calculate amount of depreciation:
R = 1 - \(\sqrt[n]\frac{s}{c}\)
Where,
R = Rate of Depreciation
n = Estimated life of asset
S = scrap value
C = Original Cost of asset
The advantages of reducing balance method are as follows:
The disadvantages of reducing balance method are as follows:
The following journal entries are passed while keeping the record of depreciation:
Assets a/c…………………….Dr
To Bank a/c
Depreciation a/c………………….Dr
To Assets a/c
Profit and Loss a/c……………………….Dr
To Depreciation a/c
Bank a/c……………………….Dr
To Assets a/c
Assets a/c…………………….Dr
To Profit and Loss a/c
Profit and Loss a/c……………….Dr
To Assets a/c
ILLUSTRATION 1:
A machine purchases for Rs.40000 and its scrap value if Rs. 10480 and the useful life of the machine is 6 years.
Required:
Rate of depreciation under diminishing balance method and amount of depreciation for three years.
Solution
Given, Cost of price of asset (C) = Rs.50000
Scrap Value (S) = Rs.10000
Useful life of asset (n) = 5 years
Rate of depreciation (R) = ?
Now,
R = 1 - \(\sqrt[n]\frac{s}{c}\)
=1 - \(\sqrt[6]\frac{10480}{40000}\)
= 1 - \(\sqrt[6]{0.262}\)
= 1 – 0.8 (by using log)
= 0.2
Hence,
Rate of Depreciation = 0.2 × 100
= 20 %
Depreciation for 1^{st} year = 40000 × 0.2
= Rs. 8000
Depreciation for 2^{nd} Year = (40000 – 8000) × 0.2
= Rs. 6400
Depreciation for 3^{rd} Year = (40000 – 8000 – 6400) × 0.2
= Rs. 5120
ILLUSTRATION 2:
A Company purchased furniture for Rs. 75000 and spent Rs. 5000 on its transportation and installation on 1^{st}Sharwan, 2065. Depreciation is charge @ 10% per annum on diminishing balance method.
Required: Furniture account for first three years
Machinery a/c
Date | Particulars | J.F | Amt | Date | Particulars | J.F | Amt |
1.4.65 | To Bank a/c (75000+5000) | 80000 | 31.3.66 | By Depreciation a/c | 8000 | ||
1.4.66 | To Balance b/d | 72000 | 31.3.67 | By Depreciation a/c | 7200 | ||
1.4.67 | To Balance b/d | 64800 64800 | 31.3.68 | By Depreciation a/c | 6480 | ||
1.4.68 | To Balance b/d | 58320 |
References:
Sharma, Narendra et.al., Principles of Accounting-XI, Bundipuran Prakashan, Kathmandu
Koirala, Yadav Raj et.al., Principles of Accounting-XI, Asmita Books Publication, Kathmandu
Shrestha, Dasharaha et.al., Accountancy-XI, M.K. Prakashan, Kathmandu
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