Depreciation: Which method is right for you?

If you own assets that depreciate over time, you have two choices in recording that depreciation: The “straight line” method and the “reducing balance” method.

In the straight line method, you depreciate the asset by the same amount over the life of the asset. So let’s say that you buy a piece of equipment for $10,000 and you reduce it by $1000 per year over 10 years. In the first year it’s worth $10,000; in the second year it’s worth $9,000, in the third year it’s worth $8,000, and so on.

In the “reducing balance” method, you deprecate the asset by a fixed percentage every year. Let’s say that you buy a piece of equipment for $10,000 and you reduce it by 10% per year. In the first year it’s worth $10,000. Then you reduce it by 10% ($1,000) and it’s worth $9,000 in the second year. Then you reduce that number by 10% ($990) and the asset is now worth $8,010. Then the next year, you reduce that number by 10% ($801) so the asset is now worth $7,299.

In the first method, the number reduces consistently over time; in the second method, the number reduces dramatically in the beginning but there is less depreciation over time.

So which should you choose? Whichever method you choose, you need to stick with it.

The “straight line” method is useful for situations where the asset will provide a consistent benefit over its lifetime. The theory is that you’ll match the consistent depreciation with a consistent earning of revenue.

The “reducing balance” method is useful for situations where the asset will provide more benefit up-front than later. Some equipment that might, over time, become less efficient or less useful might be better to depreciate at a greater rate up-front since you are also getting a larger economic advantage up-front.

Talk to your accountant about which depreciation method you should use.