Su14 IE 343 Session 23

8/9/2019 Su14 IE 343 Session 23

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8/9/2019 Su14 IE 343 Session 23


Depreciation and Income Taxes

•

The objective of Chapter 7 is to explain how depreciation afincome taxes, and how income taxes affect economic decisimaking.

• Income taxes usually represent a significant cash outflow. In

chapter we describe how after tax liabilities and after-tax caresult in the after-tax cash flow (ATCF) procedure.

• Depreciation is an important element in finding after-tax caand thus, will be discussed first.

7/18/2014 IE 343, Summer 2014, Engineering Economy (Sullivan, 16th)

8/9/2019 Su14 IE 343 Session 23


Depreciation

•

Depreciation is the decrease in value of physical properties passage of time.

• It is an accounting concept, a non-cash cost, that establishes an andeduction against before-tax income.

• It is intended to approximate the yearly fraction of an asset’s valuethe production of income.


8/9/2019 Su14 IE 343 Session 23


8/9/2019 Su14 IE 343 Session 23


Depreciation

•

Depreciable property is …

• tangible (can be seen or touched; personal or real) or intangible (copyrights, patents, or franchises).

• depreciated, according to a depreciation schedule, when it is put i

(when it is ready and available for its specific use).


8/9/2019 Su14 IE 343 Session 23


Depreciation, definitions

•

Cost Basis = initial cost of acquiring an asset• Book Value = the current worth of a depreciably property

• Market Value = amount a willing buyer pays for a property

• Recovery Period = the number of years a property is recove

• Recovery Rate = percentage for each year used to deduct pr

• Salvage Value = estimated value of property at the end of us

• Useful Life = expected period that a property will be used


8/9/2019 Su14 IE 343 Session 23


Straight-Line (SL) Method

•

Straight line (SL): constant amount of depreciation each yeadepreciable life of the asset.

• N = depreciable life

• B = cost basis

• d k = depreciaton in k

• BV k = book value at end of k

• SV N = salvage value


8/9/2019 Su14 IE 343 Session 23


Straight-Line (SL) Method


∗ = , 1 ≤ ≤

= − ∗

8/9/2019 Su14 IE 343 Session 23


8/9/2019 Su14 IE 343 Session 23


Straight-Line (SL) Method (example)


8/9/2019 Su14 IE 343 Session 23


Straight-Line (SL) Method (example)


8/9/2019 Su14 IE 343 Session 23


Depreciation, Declining-Balance (DB) M

•

Declining-balance (DB): a constant-percentage of the remaidepreciated each year.

• The constant percentage is determined by R, where R = 2/N200% declining balance is being used, R = 1.5/N when 150%balance is being used.


∗ = [1 − 1 − ]

8/9/2019 Su14 IE 343 Session 23


8/9/2019 Su14 IE 343 Session 23


DB Method (example)


8/9/2019 Su14 IE 343 Session 23


DB Method (example)


8/9/2019 Su14 IE 343 Session 23


8/9/2019 Su14 IE 343 Session 23


DB Method with Switchover to SL


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Su14 IE 343 Session 23