Amortization

Amortization

Amortization (depreciation) methods

Amortization of fixed assets is a gradual transfer process of fixed assets cost on production price with the purpose of funds accumulation for their subsequent repairing (complete compensation of depreciation by buying or new capital assets building). Thus depreciation is a money term of fixed assets wear, and the annual sum of depreciation decrees must correspond to the fixed assets wear degree for a year and determined in accordance with the amortization quota (depreciation rate).

Aq=*100%,

Aq — Annual amortization quota

T — Term of the fixed assets object useful use

Amortization period must take into account both physical and moral wear of fixed assets.

Amortization (depreciation) methods.

linear method;

diminishing method of fixed assets residual value;

depreciation methods by the sum of years number of the useful term use;

depreciation methods proportionally to the volume of the products produced;

accelerated amortization;

Linear method

It is a method which consists of even depreciation charge (начисление износа) during the useful use of fixed assets object term. At this method depreciation charge, coming from the original cost (первоначальная стоимость) of object and amortization quota (норма амортизации), calculated from the useful term of the object’s use. It is the most simple and most often meeting calculation method. Disadvantage of this method is of during the equipment service term there are his outages, breakage and incomplete loading for changing. It results that during the real production equipment erratically (неравномерно) wears out at times. In addition, this method does not take into account the obsolescence of the fixed assets, which reduces the cost of the machines made or diminishes their use value due to introduction to exploitation of new, more effective machines and equipment. It stipulates (это обуславливает) a pre-schedule (досрочное), i.e. to completion of physical wear, leaving of out-of-date technique and conducts to its underamortization. For example, an enterprise bought an equipment, which term of the useful use is eight years, then a rate of depreciation on renovation will be 12,5% in a year, here. The rate size of depreciation does not change during all period of fixed assets exploitation.

Sam annual =

Diminishing of fixed assets residual value (способ уменьшения остаточной стоимости)

The annual sum of depreciation charges (амортизационные отчисления) is determined coming from the residual value (остаточная стоимость) of fixed assets object’s on the beginning of a year and amortization quota on renovation, calculated coming from the term of this object useful use:

amortization linear method disadvantage

Sam annual =

Essence of method consists in the sum of depreciation charges, taken on prime cost, will be diminishing with each by the subsequent year of this object exploitation.

Depreciation methods for the sum of years number of the useful term use (метод амортизации по сумме чисел лет полезного использования)

This method from point of the financial planning is preferable that allows already at the beginning of exploitation to discard greater part of fixed assets cost. The rate of charge-off is slowed further, that provides the cost unit decline. The annual sum of depreciation charges is determined by formula:

Sam annual =* residual valuei

— sum of remaining years of the useful term of the object’s use;

Residual value — remaining period of the useful term of the object’s use in i-year depreciation methods proportionally to the volume of the produced products (метод списания стоимости пропорционально объёму продукции)

In this case depreciation charge is produced coming from the natural index of products (works) volume in a reporting period (отчётный период) and correlation of original object’s cost and supposed volume of products for all period of the useful use:

Sam annual = original cost * ,

— Actual products production in i year

— planning volume of products production for all period of the useful use.

Application of this method will allow to enterprises to take into account a physical wear and mode of the object’s use (режим использования объекта).

At application any of methods an extra charge to depreciation is produced monthly coming from a 1/12 annual sum, depreciation decrees are discarded on a original price during a period to which they belong and charged extra regardless on enterprise activity results during this period.

The objects of fixed assets consumer properties of which do not change in time are not subject to depreciation (lot lands and other objects of nature management).

Accelerated amortization

An actual value of the accelerated depreciation is a postponement of obligations redemption under the income tax, as in the first years of equipment exploitation considerable part of profit yield heads for forming of depreciation decrees, but not arrived.

The set aside tax in the conditions of market economy means an interest-free loan for indefinite term, given to the taxpayer. At the same time extra charge to depreciation even with the ordinary method after the overvalues of the fixed assets means for enterprises exceeding of prime price above a profit yield from the products realization and absence of enterprise sinking fund earnings. At low production profitability an effect from reduction of obligations under an income tax isn’t high also.

From point of profitability, overstating of depreciation is ruinous, from point of money facilities streams — effectively to the moment, while the financial activity result is positive. If an enterprise is «on a card index» there is no sense to get tax benefits due to the mechanism of the accelerated depreciation.

Also in the conditions of high inflation depreciation decrees as a source of investments lost the value in connection with the enterprise orientation on a short-term survival and use of depreciation on circulating assets lack coverage. Thus, depreciation is an ambivalent economic concept. From one side, depreciation is a money term of capital assets wear, and depreciation contributions are one of constituents of unit cost, depreciation growth results on the prime price increase and the decline of enterprise income (accordingly and income tax). On the other hand, depreciation contributions after products realization are accumulated in a sinking fund which setting consists of providing of capital assets necessary reproduction. By this reason increase of sinking fund, as an investments source, due to the speed-up of capital assets cost charge-off is economic expedient for an enterprise.