What Is a Business? The term business refers to an organization or enterprising entity engaged in commercial, industrial, or professional activities. Businesses can be for-profit entities or they can be non-profit organizations that operate to fulfill a charitable mission or further a social cause. Businesses range in scale from sole proprietorships to international corporations and can range in size from small to large.
The term business can also be used to define the efforts and activities of individuals to produce and sell goods and services for profit
*A business is defined as an organization or enterprising entity engaged in commercial,
*industrial, or professional activities.
*Businesses can be for-profit entities or non-profit organizations.
*Business types range from limited liability companies, sole proprietorships, corporations, and partnerships.
*There are businesses that run as small operations in a single industry while others are
*large operations that spread across many industries around the world.
*Apple and Walmart are two examples of well-known, successful businesses.
Now Details read the main Title meanings:
- The double declining balance (DDB) depreciation method lets you depreciate assets more in early years after you buy them.
- The DDB depreciation method is easy to implement and track in most accounting software.
- The DDB depreciation method can lead to greater depreciation recapture if you sell an asset before the end of its useful life.
- This article is for entrepreneurs and professionals interested in accounting software and practices.
The double declining balance (DDB) depreciation method is an approach to accounting that involves depreciating certain assets at twice the rate outlined under straight-line depreciation. This results in depreciation being the highest in the first year of ownership and declining over time.
Given the nature of the DDB depreciation method, it is best reserved for assets that depreciate rapidly in the first several years of ownership, such as cars and heavy equipment. By applying the DDB depreciation method, you can depreciate these assets faster, capturing tax benefits more quickly and reducing your tax liability in the first few years after purchasing them.
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What is the double declining balance (DDB) depreciation method?
The DDB depreciation method is a common accounting method of depreciation wherein an asset’s value depreciates at twice the rate it would under straight-line depreciation – another and perhaps even more popular method of depreciation.
When a business depreciates an asset, it reduces the value of that asset over time from its cost basis (what it paid to acquire the asset) to some ultimate salvage value over a set period of years (considered the useful life of the asset). By reducing the value of that asset on the company’s books, a business is able to claim tax deductions each year for the presumed lost value of the asset over that year.
These are the most common depreciation methods:
- Straight-line depreciation. This method depreciates an asset from purchase price to salvage value by even amounts over a defined term (the useful life). The annual depreciation amount is equal to the total depreciation amount (purchase price minus salvage value) divided by the asset’s estimated useful life.
- Double declining balance depreciation. This method depreciates assets at twice the rate of the straight-line method. Users of this method start by calculating the amount allowed under straight-line depreciation for year one and then doubling it. The next year, they calculate remaining depreciable balance, divide by remaining years and multiply by two. They do this each year until the final year of the asset’s useful life, where they depreciate any remainder over the asset’s salvage value.
- Sum-of-the-years digits depreciation. This method requires taking the useful life of an asset and adding up the number of each year (i.e., 5+4+3+2+1 for a five-year useful life). Each year, you divide the number of years left to depreciate the asset (starting with the highest number) by the year-value total. Then you multiply the resulting percentage by the remaining depreciable value of the asset.
- Units of production depreciation. This method is used exclusively for machinery typically owned by large manufacturers. Depreciation is based on the useful life of machinery and anticipated production over that time, with a tiny portion of the machine’s total depreciation allocated to each individual item produced in a given period. To get production in a given time period, you multiply the per-unit depreciation rate by the number of units produced during that time frame.
In contrast to straight-line depreciation, DDB depreciation is highest in the first year and then decreases over subsequent years. This makes it ideal for assets that typically lose the most value during the first years of ownership. And, unlike some other methods of depreciation, it’s not terribly difficult to implement.
When to use the DDB depreciation method
The DDB depreciation method is best applied to assets that quickly lose value in the first few years of ownership. This is most frequently the case for things like cars and other vehicles but may also apply to business assets like computers, mobile devices and other electronics.
DDB depreciation is less advantageous when a business owner wants to spread out the tax benefits of depreciation over the useful life of a product. This is preferable for businesses that may not be profitable yet and therefore may not be able to capitalize on greater depreciation write-offs, or businesses that turn equipment over quickly.
If you think you may sell a depreciating asset before the end of its useful life, the DDB depreciation method may cause you to recapture more depreciation and incur greater tax liability, so another depreciation method may be better.
DDB depreciation formula
The DDB depreciation method is a little more complicated than the straight-line method. Here’s the formula for calculating the amount to be depreciated each year:
(Cost of Asset / Length of Useful Life in Years) x 2 x Book Value at the Beginning of the Year
This formula works for each year you are depreciating an asset, except for the last year of an asset’s useful life. In that year, the amount to be depreciated will be the difference between the book value of the asset at the beginning of the year and its final salvage value (this is usually just a small remainder).
Once the asset is valued on the company’s books at its salvage value, it is considered fully depreciated and cannot be depreciated any further. However, if the company later goes on to sell that asset for more than its value on the company’s books, it must pay taxes on the difference as a capital gain. This is called depreciation recapture.
On the whole, DDB is not a generally easy depreciation method to implement. You can also use leading accounting software to track the value of an asset while you depreciate it, though you may need to calculate the annual depreciation amount manually each year, depending on the software and depreciation method that you use.
Key takeaway: Just because you may need to calculate your depreciation amount manually each year doesn’t mean you can change methods. Once you choose a method, you need to stick with it for the duration.
How to calculate DDB depreciation
Follow these steps to calculate depreciation of an asset using the DDB depreciation method:
- Determine your cost basis in an asset. This includes not only the acquisition price, but also any ancillary costs, such as broker fees, legal charges and other closing costs.
- Identify the useful life of the asset. These are provided by the IRS and vary by value and type of asset.
- Look up the asset’s salvage value. This is an estimate of the asset’s value at the end of its useful life. Guidance for determining salvage value is also provided by the IRS.
- Calculate the first year of depreciation. Use the formula above to determine your depreciation for the first year.
- Continue calculations until you reach salvage value. Repeat this process until the final year, when you write off any remaining depreciable amount.
Calculating DDB depreciation may seem complicated, but it can be easy to accomplish with accounting software. To see which software may be right for you, check out our list of the best accounting software or some of our individual product reviews, like our Zoho Books review and our Intuit QuickBooks accounting software review.
Example of DDB depreciation
Consider a widget manufacturer that purchases a $200,000 packaging machine with an estimated salvage value of $25,000 and a useful life of five years. Under the DDB depreciation method, the equipment loses $80,000 in value during its first year of use, $48,000 in the second and so on until it reaches its salvage price of $25,000 in year five.
Because the equipment has a useful life of only five years it is expected to quickly lose value in the first few years of use – making DDB depreciation the most appropriate method of depreciation for this type of asset.
Here’s a closer look at the depreciation each year:
|Year||Net book value at beginning of year||DDB depreciation||Net book value at end of year|
Now compare this with straight-line depreciation. This is what the schedule would look like when depreciating the same $200,000 asset using straight-line depreciation:
|Year||Net book value at beginning of year||Straight-line balance depreciation||Net book value at end of year|
Using the example above, the same asset would lose $35,000 in the first year and each subsequent year until it was fully depreciated in year five. Comparing the two schedules above, it’s clear that much larger portions of the asset’s value are written off in early years using the DDB depreciation method, creating greater tax savings in early years.
However, this also means that, if you sold the equipment for $180,000 in year three, you would incur much greater tax liability from the DDB depreciation method as a result of depreciation recapture than you would using the straight-line method.
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