Equipment Depreciation: What You Need to Know

Bar chart graph displaying equipment depreciation
Bar chart graph displaying equipment depreciation

Calculating equipment depreciation is a priority for many businesses. Whether you’re planning to invest in new equipment or considering the retirement of older assets, it’s essential to monitor both your equipment’s depreciation rates, maintenance history, and real-time performance. 

This blog will review the most common methods for calculating depreciation, providing insights into this important process. Learning more about this accounting method will help you manage your assets more effectively,  and make better financial decisions.

What is Equipment Depreciation?

Equipment depreciation is an accounting method used to measure the gradual decrease in the value of your assets over time (or its useful life). Generally, equipment depreciation is important to businesses for tax and accounting purposes. 

Most types of equipment, including machinery, vehicles, computers, technology, and more, can be subject to depreciation. However, the IRS rules will affect which assets are ultimately depreciated; the depreciation rates and methods will vary based on equipment type, industry, and expected lifespan. 

What Assets Depreciate?

The general guidelines outlined in IRS Publication 946 specify certain criteria that must be met for an asset to be eligible for tax depreciation. These requirements include:

  1. Ownership: The individual or entity claiming depreciation must be the legal owner.
  2. Business Usage: The asset should be employed in activities that generate income for the business.
  3. Durability: The asset should have a minimum useful life expectancy of two years.

Types of Equipment That Depreciate

Machinery

Industrial machines, production equipment, etc., used in manufacturing or other industrial processes.

Vehicles

Business vehicles such as trucks, cars, and vans for commercial purposes.

Computers and Technology Equipment

Encompasses desktops, laptops, servers, and other technology-related hardware.

Office Furniture

Includes desks, chairs, cabinets, and other furniture used in a business setting.

Construction Equipment

Heavy machinery like bulldozers, cranes, and excavators for construction projects.

Medical Equipment

Equipment used in healthcare settings includes MRI machines, X-ray machines, and patient monitors.

Restaurant Equipment

Commercial appliances and tools used in food preparation and service.

Important Disclaimer: Depreciation rates will vary based on industry and asset type. It is necessary to consult with a certified accountant to determine the exact equipment depreciation rates for your organization for tax purposes.

Calculating Equipment Depreciation

There is more than one method used to calculate equipment depreciation. And each method has its own associated formula. We’ve listed the most common methods below for consideration:

  1. Straight-Line Depreciation: This is a simple way to determine equipment depreciation. The formula is as follows:

Annual Depreciation = (Cost of Asset − Salvage Value) / Useful Life

For example, consider a machine that costs $10,000, with a salvage value of $2,000 and a useful life of 5 years. Now, using the formula:

Annual Depreciation = ($10,000 − $2,000) / 5 years = $8,000 / 5 = $1,600

The machine would depreciate at $1,600 annually

  1. Declining Balance Method: This method accelerates depreciation, taking larger depreciation expenses in the early years of an asset’s life. 

DDB = Book Value × (2 / Useful Life)

‘Book Value’ refers to the asset’s current value after accounting for depreciation from previous years. ‘Useful Life’ is the total expected lifespan of the asset. The factor “2” represents the accelerated depreciation rate. This method depreciates the asset at twice the rate of the straight-line method.

For example, if an asset has a book value of $10,000 at the beginning of the year and a useful life of 5 years, the depreciation for that year would be:

DDB = $10,000 × (2 / 5) = $10,000 × 0.4 = $4,000

The asset would depreciate by $4,000 for that year.

  1. Units of Production Method: This method ties depreciation to the usage or production levels of the equipment. This method calculates depreciation expenses using the depreciable base (purchase price minus salvage value). 

Important Equipment Depreciation Terms

Cost of Asset

The initial purchase price of the equipment.

Salvage Value

The estimated value of the equipment at the end of its useful life.

Useful Life

The estimated period over which the asset is expected to be used before it is fully depreciated.

Annual Depreciation

The amount of depreciation expense allocated for each year.

Book Value

The value of an asset in the business books, considering its cost minus accumulated depreciation.

Depreciable Base

The total amount that can be depreciated over the asset’s life is calculated as the Cost of the Asset minus the Salvage Value.

Units of Production

The total units produced or hours used during a year.

LLumin’s CMMS+ Software & Equipment Depreciation

LLumin’s Computerized Maintenance Management System (CMMS+) can be pivotal in tracking important accounting values such as equipment depreciation and other custom variables. 

LLumin can also help you track each asset’s real-time performance levels, helping you make data-driven, informed decisions regarding equipment retirement, replacement, or refurbishment 

How LLumin’s CMMS+ Supports Asset Management

Asset Tracking

LLumin can track each asset’s purchase costs, current value, equipment depreciation rate, and other custom variables.

Financial Planning

LLumin can help guide your retirement and replacement decisions based on depreciation value versus maintenance costs. Investing in new equipment might be advisable when older assets start to break down.

Capital Investment

The system can help you forecast your capital needs with its ability to track important KPIs and analyze equipment depreciation rates.

Maintenance Planning

LLumin can align your maintenance activities with equipment value and condition, dramatically reducing downtime while increasing asset lifespan.

Tax and Compliance Reporting

Fully automates tax and compliance reporting.

Asset Performance

Analyzes real-time maintenance data to identify performance trends and potential developing issues, indicating misuse or inefficiencies.

Track Equipment Depreciation With LLumin’s CMMS+

CMMS+ is highly customizable and can support your business needs, no matter your industry. Our cloud-based, mobile-ready system can integrate with your existing financial and accounting systems, helping your business run smoother from day one. LLumin CMMS+ is a complete asset management solution that helps teams work better together, ensuring everyone is on the same page. When you choose LLumin, you gain access to features that will help you save money, get more done, and work smarter (not harder). Handling your finances will become easier and clearer. Everything you need to manage critical assets and keep an eye on how quickly they lose value can be accessed in one location.

Getting Started With LLumin

LLumin develops innovative CMMS software to manage and track assets for industrial plants, municipalities, utilities, fleets, and facilities. If you’d like to learn more about the total effective equipment performance KPI, we encourage you to schedule a free demo or contact the experts at LLumin to see how our CMMS+ software can help you reach maximum productivity and efficiency goals.

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