Lesson 1. Activity 3 Show Some Depreciation

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1 A Project Funded by USDA BFRDP Grant # Development Partners Include: Lesson 1. Activity 3 Show Some Depreciation Introduction In Lesson 1 Activity 2 Simple Budgets, the non-cash expense representing depreciation was provided to you for the sake of the speeding up the activity. However, calculating depreciation is very important and from this point forward, you must calculate depreciation on your own. Depreciation concerns durable, long-lived assets that decrease in value over time due to wear and obsolescence. Essentially, think of depreciation as the cost of ownership. The minute you purchase a new car, it begins to lose value because it is no longer new and therefore its life as a new car is beginning to decrease. Another way to consider depreciation is the cost of replacement for the car you just bought. There are some exceptions to purchases when considering depreciation. For example, land will typically appreciate, or increase in value over time. So keep in mind that not all items will depreciate. When they do depreciate, you will show that as a cost of business. There are several ways to calculate depreciation, such as straight-line, declining balance, and sum-of-the-digits methods. For simplicity, most people use straight-line depreciation. Materials Students will need to have the following materials to complete this exercise: Pencil Computer with access to Excel or other spreadsheet program - or - Calculator Lesson 1. Activity 3 Show Some Depreciation Page 1

2 Student Instructions Use straight-line depreciation method to calculate the depreciation for the following purchases. Formula for straight-line depreciation: (Purchase Price - Salvage Value) Years of Useful Life Purchase price: the cost of the new item at the time of purchase Salvage value: the estimated market worth of an item after the years of useful life Useful life: the duration of ownership (expected time before replacement) or the period in which the item will be used beyond reasonable condition for the operation (i.e. farm equipment is typically 5-10 years because of wear and tear and replacement with new technology) Example: Purchase combine for $100,000 Sell after six years for $40,000 Step 1 ($100,000 - $40,000) 6 Years Step 2 $60,000 6 Years Complete: $10,000 Lesson 1. Activity 3 Show Some Depreciation Page 2

3 Part 1 Example Problems Calculate straight-line depreciation for the following scenarios. Show your work in the steps modeled by the example. Practice Problem 1 Charles Chevy Charles bought a new Chevrolet pickup to pull his livestock trailer to local shows. The pickup was $39,400 and has a life of 15 years. The salvage value for the truck will be $12,000. Calculate the annual depreciation for Charles truck: Practice Problem 2 Lisa s Land Lisa bought 20 acres to raise cut flowers for her enterprise. Lisa paid $28,000 for the land and she knows that it will be worth nearly $40,000 after the 10 years she expects to run her operation. Calculate the annual depreciation for Lisa s flower garden: Lesson 1. Activity 3 Show Some Depreciation Page 3

4 Practice Problem 3 Tim s Table Saw Tim makes furniture from trees that he and his father harvest on their land. Tim purchased the new table saw for $1,800. The saw will last for 10 years and then be worth approximately $500. Calculate the annual depreciation for Tim s saw: Practice Problem 4 Tiffany s Tractor Tiffany purchased a tractor for her roadside farmer s market enterprise. The tractor costs $18,000 and has a typical life expectancy of 10 years. A similar used tractor was selling on lot for $8,200 and the dealer said this is the expected salvage value for her new tractor after ten years. Calculate the annual depreciation for Tiffany s tractor: Lesson 1. Activity 3 Show Some Depreciation Page 4

5 Practice Problem 5 - Apply what you know Tiffany needed a rototiller for the new tractor. She found a slightly used one in the local paper for $750. The tiller costs $1,200 new and has a life expectancy of eight years. Tillers after eight years become higher maintenance and are only worth $200. The person Tiffany purchased the tiller from said it was three years old. Determine a depreciation schedule for the original owner by filling out the following table. Once you complete the table answer the questions that follow. Year Starting Value January 1 Amount of Annual Depreciated Ending Value December 31 1 $1,200 $ $ $ 2 $ $ $ $ 3 $ $ $ $ 4 $ $ $ $ 5 $ $ $ $ 6 $ $ $ $ 7 $ $ $ $ 8 $ $ $200 $ Running Total of Depreciation Claimed Question According to the depreciation schedule, is the used purchase price of $750 a good deal for this piece of equipment? Explain. Student Reflection 1. How is depreciation calculated for durable and long-life items? 2. Why is depreciation calculated and how is this value used for accounting purposes? 3. How making a depreciation schedule help with determining a reasonable value for used equipment? Lesson 1. Activity 3 Show Some Depreciation Page 5