Double Declining Balance Method: Calculating DDB Depreciation

Depreciation is the process of deducting value from an asset, according to its valuable or useful life. The useful life of the asset refers to the length of time you predict being able to use it. Over time, assets progressively lose value due to deterioration or obsolescence, and at the end of its useful life, the asset has only its salvage value, also known as scrap value.

Businesses can use several methods to depreciate their assets. They include sum-of-the-year’s-digits depreciation, unit of production method, straight-line depreciation method, and the double declining balance method. Depreciation can be tax-deductible but must be reported to the Internal Revenue Service (IRS).

The double declining balance (DDB) method is sometimes called the accelerated depreciation method because it depreciates the value of an asset at twice the rate of the straight-line depreciation method. This accelerated method of depreciation entails writing off large annual depreciation expenses in early years and less in following tax years. Although the overall amount of depreciation is the same with both methods, the DDB method allows you to write off a different amount each year and recover more of your asset’s value during the earlier period of ownership.

The double declining balance formula is:

2 x Straight-Line Depreciation Rate x Asset Book Value

Note that the book value is the asset’s value at the beginning of the tax year, not the initial cost of the asset.

Although the double declining balance formula looks straightforward, there are a number of steps you need to perform when calculating depreciation with this method.

1. 1. Determine the cost of the asset and its salvage value. The amount you pay for the asset is its cost. The salvage value is what the asset will be worth at the end of its useful life.
2. 2. Identify the recovery period. This is the number of years during which you plan to depreciate the asset. At the end of the recovery period, you’ll no longer be able to expense the asset and will be left with the salvage value.
3. 3. Calculate the straight-line depreciation rate. The basic rate of depreciation is one divided by the number of years in the recovery period. For instance, an asset with a recovery period of twenty years would have a straight-line depreciation rate of 1/20, or 5%.
4. 4. Calculate the book value of the asset. The first year, the book value of the asset will be the same as the original cost of the asset. To calculate the book value in the second year and following, subtract the amount you wrote off from the previous year. This results in accumulated depreciation applied to your book value, which is then reduced each year.
5. 5. Plug the variables into the depreciation formula. Multiply the straight-line depreciation rate by the book value and double the total. This will leave you with the accelerated depreciation rate for that tax year.
6. 6. Stop when the book value has reached the salvage value. When the value of an asset has reached its salvage value, you can no longer deduct depreciation.

Say you have a piece of equipment that costs $50,000. It has a useful life of five years and a salvage value of $5,000. The straight-line depreciation rate would be one divided by five, or 20%.

• First year: The basic rate of depreciation (20%) multiplied by the book value ($50,000, same as the cost of the asset in the first year) is $10,000. Multiplied by two, the amount of depreciation claimed in the first year would be $20,000.
• Second year: The rate of depreciation remains the same, but the book value has now declined to $30,000 (the original cost of the asset minus the depreciation claimed in year one). Multiplying the new book value by the depreciation rate and doubling the total results in $12,000 that you can claim in depreciation.
• Third year: The asset’s book value now decreases to $18,000 ($50,000 – $20,000 – $12,000 = $18,000). Applying the DDB formula (2 x 20% x $18,000) comes out to $7,200 in depreciation.
• Fourth year: The DDB formula produces a depreciation amount of $2,880 in the fourth year. However, since the salvage value is $5,000 and the book value for this year is $7,200, you can only claim a maximum of $2,200 in depreciation. The asset has now reached the end of its recovery period and can be depreciated no further.

The DDB depreciation method work is beneficial in some scenarios but is not always the best choice. Here are some instances in which businesses choose to use the double declining balance method:

• Rapid projected decline in asset value: Businesses typically use the double declining balance method of depreciation when an asset, such as a new vehicle, becomes obsolete more quickly. This may also apply to assets like computers, cell phones, and other rapidly-developing technology.
• Tax deferral: Businesses may also use the DDB method to minimize profitability and defer taxes. This can sometimes result in a lower net income during the early periods of asset ownership.
• Consistency on financial statements: The double declining balance method can also be useful for financial income statements by providing a consistent combined depreciation expense and estimating maintenance expenses on balance sheets.

While this depreciation method is not a solution that fits every scenario, it comes with certain advantages.

• Expediting cost recovery: Writing off larger depreciation can result in larger tax benefits at the beginning of the recovery period. This can be helpful with repaying the cost of an asset, particularly if you’ve used credit or a loan to purchase it and can pay off a larger principal amount and reduce overall interest payments.
• Maximizing tax deductions: Many assets deteriorate and require greater repair and maintenance expenses over time, and this costs more money. These expenses are tax-deductible. By writing off greater amounts when you’re not paying high maintenance costs in the earlier years, you can claim larger overall tax write-offs within the tax deduction limits. This may balance out in later years when you claim lower asset values but higher maintenance expenses. As such, you might be able to take advantage of more predictable expenses and income as well as maximize income tax deductions.

As is the case with any business decision, there are disadvantages to the DDB depreciation method.

• Complexity: The double declining balance method is more complicated than methods like straight-line depreciation.
• Less predictability: Since the double declining balance method calculates different amounts each year, you may also have more difficulty predicting overall business income when it comes to completing estimated quarterly taxes and accounting for cash flow.
• Greater vulnerability: If your business experiences a slower or more expensive year, you may face a higher tax bill. Using the straight-line method means that you initially receive less money from depreciation deductions but can avoid unnecessarily higher taxes.

All investments and investment strategies entail inherent risks and introduce the potential for financial loss or the depreciation of assets. The information presented in this article is for educational, informational, and referential purposes only. Consult a professional investment advisor before making any financial commitments.

Get the MasterClass Annual Membership for exclusive access to video lessons taught by business luminaries, including Sara Blakely, Chris Voss, Robin Roberts, Bob Iger, Howard Schultz, Anna Wintour, and more.