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Amortization and Depreciation

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Glossary  -> 
Small Business -> Amortization and depreciation

Amortization

Amortization is the gradual expensing of an asset over a number of years, instead of expensing it in the year of purchase.  Usually relates to intangible assets such as goodwill.  Depreciation is the term usually used for amortization of a fixed asset.

Amortization is also the term used when a loan is being repaid over time.  The amortization schedule is a document which shows the payment dates, payment amount, interest and principal portion of each payment, and the balance of the loan after each payment, until the balance reaches zero.

Depreciation

Depreciation is the expensing, over a period of years, of the cost of fixed assets (except land), usually based on the estimated useful life of the fixed asset.  There are various methods of depreciation, with two of the most common being straight line and declining balance (usually double declining balance).  

Declining Balance Depreciation

With declining balance depreciation, a fixed percentage is applied to the remaining book value (undepreciated balance) each year to determine the depreciation amount.  With double declining balance, a percentage of twice the straight line rate is used.

Example showing the first 5 years of declining balance depreciation:

bulletmachinery with an estimated useful life of 5 years, original cost $50,000
bulletdouble declining balance depreciation amount, using 40% depreciation rate:
Year Depreciation
Expense
Accumulated
Depreciation
Book
Value
0     $50,000
1 50,000 x 40% = 20,000 20,000 30,000
2 30,000 x 40% = 12,000 32,000 18,000
3 18,000 x 40% = 7,200 39,200 10,800
4 10,800 x 40% = 4,320 43,520 6,480
5 6,480 x 40% = 2,592 46,112 3,888

Straight Line Depreciation

Straight line depreciation - the original cost of the asset is written off in equal amounts over the estimated useful life.  
Example:  machinery with an estimated useful life of 5 years, original cost $50,000.
Straight line depreciation amount = $50,000/5 (or $50,000 x 20%) = $10,000 each year

Accumulated Depreciation

Accumulated depreciation is the accumulated total of all depreciation which has been written off over the years against fixed assets.

Capital Cost Allowance

When fixed assets are depreciated for tax purposes, the depreciation is called capital cost allowance (CCA), and the method of depreciation is usually declining balance, using a rate designated by the Income Tax Act and Regulations.

Revised: September 19, 2017

 

 

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