Generally, for the calculation of actual value of depreciation, the process of Straight line is followed, which has certain negative aspects associated with it. To remove all those negative points, this written down value method has been used.
Since in that caseequal amount of depreciation is being charged every year, hence problem can arise regarding the last years of that asset, when its productivity is on the declining side. Even in those years, it is proved to be in the similar arena which is almost impossible, since maintenance costs are higher in those latter years.
It is to detect such problems and find a better solution that this Diminishing Method has been introduced into the market.
What is the written down value method?
In this system, that asset’s value on which this depreciation is to be charged decreases with every passing year, and on an extension, total amount of depreciation that is to be charged also decreases with passing years.
Example: When depreciation is 10% on an machine that costs $1,00,000, by virtue of this written down method, it can be stated that,
- For YEAR 1: $ 100,000 @ 10% =10/100 x 1 ,00,000 = $ 1 0,000
- For YEAR 2: $ 90,000, i.e., $ 1,00,000- 10,000 = 90,000 x 10/100 = $. 9,000
- For YEAR 3:$ 81,000, i.e., $. 90,000 – 9,000 = 81,000 x 10/100 = $ 8,100
- For YEAR 4: $ 72,900, i.e., $ 81,000-8,100 = 72,900 x10/ 100 = $ 7,290.
This will keep continuing in an according pace.
Here two points need to be considered:
- Value of the asset goes on diminishing
- Depreciation will also decrease with every passing year.
Hence, in most cases, it is this method that is applied.