Question

Small Valley Ltd. purchased machinery on January 2, 2015, at a total cost of $85,000. The machinery's estimated useful life is 8 years or 60,000 hours, and its residual value is $5,000. The tax rate for CCA is 30%. During 2015 and 2016, the machinery was used 7,000 and 7,500 hours, respectively

Required:

1. Compute depreciation under straight-line, units-of-production, and declining-balance methods for 2015 and 2016.

2. If management’s objective in 2015 is to maximize income which method would you prefer? If it was income smoothing which method would you prefer?

3. It was decided in 2015 that Small Valley would use the straight-line method of depreciation. In December 30, 2016 Small Valley sold the equipment for $55,000 cash. Prepare ALL journal entries relating to the equipment and disposal in 2016.

4. It was decided in 2015 that Small Valley would use the deminishing balance method of depreciation. In December 30, 2016 Small Valley sold the equipment for $55,000 cash. Prepare ALL journal entries relating to the equipment and disposal in 2016.

5. Looking at your answers in part c) and d) explain why there was a difference in the gain or loss recorded from the sale of the equipment.

Answer 1

a) depreciation for year: 2015 e 2016 is straight line method. ... depreciation original cost - salvage value useful life = $ 85000 – $ 5000 8 years I = $10,000 per year depreciation for 2015= -> fog 2016: til $10,000 $10,000 i units of production method depreciatio= perhous original cost - salvage value Goooo houry $85000 - $5000 Goooo hours = 1.33 per hour

a) depreciation for 205= 7000 housy x $ 9310 $1.33 for 2016= 7500 hours x $ 1.33 = $.9975 iii) declining balance method in CCA rate = 30%. original Cost = $ 85000 n. on = ($255ool - depreciation for 2015 ( 85000x 30%). written down value $59500 stor so depreciation for 2016 ($17850) ($595000 30%) written down value $41650 il (2016) depreciation for 2015 = $25500 ► 2016 $17850.

6 depreciation for 2015.. straight line method = $ 10,000 → units of production method = $ 9310 - diminishing balance method a $ 25500 If management objective is to maximize income, it should use units of production method because depreciation I expense is less compared to other methods If managements objective is income smoothing it should use straight line method of depreciation. In come smoothing refers to reducing "fluctuations in earnings. under straight line method, since depreciation is charged uniformly eveay year, there wout would be Less fluctuations in earning compared to other two methods.

c) calculation of gain/ loss on disposal. In 2015, straight line method is used. original cost = $85000 (-) depaeciation • 2015 = $ 10000) 2016 = ($ 10000) Book value = $ 65000 Loss on disposal & salevalue - Book value C 2016) = $55000 - $65000 = $10,000/-

c) entries of small valley ltd Journal in 2016 debit I caredil Date particulars $10,000 $10000 30-12-2016 Depreciation o to machinery (being depreciation of $10,000 charged to asset). 30-12-2011 $10,000 $10000 Income statement to depareciation (being depaeciation for sds chalged to income statement) & 65000 30-12-2016 cash Al $55000 Income statement $10,000 to machinery (being machinery sol for cash of $55000 E loss of $10,000 is charged to income statement),

(2) calculation of if diminishing used. gain / loss on disposed! balance method is depreciation for 2016(al steady calculated in (as) $17850 written down value at end of 2016 already calculated in part (a)). at h e $41650 Gain on dispose of machinery in 2016 sale value - written down value - $5500o - $.41650 -$ 13350.

of small d) Journal entries in books Valley Led for 2016 Date particulars debit I credit $ 17850 $17850 December 30, 2016. Depreciation to machinery (being depreciatior. charged to asset account) $17850 Dec-30, 2016 $17850 Income statement to depreciation cbeing depreciation for year 2016 chalsed to Income statementh e Dec-30 2016 Cash Al $ 55ooo to machinery ale to income statement $41650 $13350 (being machinery sold for cash of $55000 & gain of & 13350 is credited to income stakment)

e) The difference in gain disposal in partic & due to depreciation used. loss on pastra are method In pastic , straight lime method chalged less amount of depreciation which in turn increased book value of machinery. There fore sale value appeared to be less than book value l' which resulted in loss In pastad, diminishing balance method charged more amount of depreciation , ce book value became much lower than sale value which resulted in profit I gain