Straight-line depreciation:
spreading an asset's cost evenly over its life

What gets spread out

When a business buys a machine, vehicle or computer, it does not treat the whole cost as an expense in the year of purchase. Instead the cost is spread over the years the asset is expected to be useful. Straight-line depreciation divides that cost into equal yearly slices.

Not all of the cost is spread, though. If you expect to sell the asset for something at the end, that residual value (also called scrap or salvage value) stays on the books. Only the difference, the depreciable amount, is charged to expense.

Three inputs are needed: what you paid including costs to get the asset ready for use, your estimate of the residual value, and the useful life in years. All three are estimates or policy choices, so they should be documented.

The formula with a worked case

The depreciable amount is ₹1,20,000, which is 80% of the cost. Dividing by six gives ₹20,000 a year, or about 13.3% of the original cost per year. Expressed as a rate, that is 100 ÷ 6 ≈ 16.7% of the depreciable amount each year, which equals 13.3% of the full cost.

Book value over the asset's life

The book value declines by the same amount each year and lands on the residual value of ₹30,000 at the end of year six. That clean landing is the reason straight line is the default for many small businesses.

Buying part-way through a year

Assets are rarely bought on the first day of the accounting year. The usual approach is to prorate the first year by the months the asset was in use. A machine put to use on 1 October in a business with a 31 March year-end is used for six months in its first year.

The first-year charge is then ₹20,000 × 6 ÷ 12 = ₹10,000. The remaining years charge the full amount, and a final stub year picks up the other six months so the total still reaches ₹1,20,000. Whether a company prorates by months, by days or applies a half-year convention is an accounting policy, so follow the one your books use.

Choosing life and residual value sensibly

• Useful life is the period the business expects to benefit from the asset, which can be shorter than the physical life if technology changes quickly.
• Residual value should reflect what the asset could really be sold for, net of selling costs, at the end of that life. Setting it to zero is common for assets expected to be scrapped.
• A larger residual value or a longer life lowers the yearly charge and raises profit in the short term, so unreasonably optimistic estimates draw attention from auditors.
• Review estimates when circumstances change; revised estimates normally apply from that point forward, not retrospectively.

What gets recorded each year

Each year the business records a depreciation expense of ₹20,000 in its profit and loss account, which reduces reported profit by that amount, and adds ₹20,000 to accumulated depreciation, which reduces the asset's value on the balance sheet.

No cash leaves the business when depreciation is recorded. The cash went out when the asset was bought. Depreciation matches that cost against the years of benefit, which is why profit and cash flow can look quite different in a year with a large purchase.

If the asset is sold before the end of its life, compare the sale price with book value at that date. Selling at ₹70,000 after four years, when book value is also ₹70,000, produces neither gain nor loss. Selling at ₹85,000 produces a gain of ₹15,000, and selling at ₹55,000 a loss of ₹15,000.

Checking a schedule for mistakes

Three tests catch most schedule errors. First, the accumulated depreciation at the end of the life must equal cost minus residual value, ₹1,20,000 here. Second, the book value in the last year must equal the residual value. Third, every full year's charge must be identical.

If the totals do not match, look for a part-year at the start with no matching stub at the end, a residual value that was subtracted twice, or a useful life that was changed midway without restating the later charges.

When the estimated life or residual value changes, depreciate the remaining book value over the remaining life. For example, if after two years (book value ₹1,10,000) you decide the asset will last four more years with the same ₹30,000 residual value, the new yearly charge is (110000 − 30000) ÷ 4 = ₹20,000, coincidentally the same.

Where straight-line is not the best fit

Straight line assumes the asset delivers the same benefit every year. A delivery van that loses most of its resale value in the first two years, or a computer that becomes obsolete quickly, may fit a declining-balance method better. A machine whose use is tied to production volume may fit a units-of-output method.

When comparing methods for the same asset, remember that total depreciation over the whole life is identical, at ₹1,20,000 here. Only the timing differs, which changes reported profit year to year but not the overall cost. A total-cost tool is handy for adding up purchase and running costs to reach the figure that depreciation starts from.