Reducing balance

The reducing balance method of depreciation is an alternative to the commonly used straight line (equal amounts each year) method. It is often used for tax purposes, but less often in published accounts.

Rather than charging a fixed amount every year, a (fixed) percentage of the remaining value of the asset is charged every year. A £10,000 asset depreciated at 25% a year will be depreciated by £2,500 in the first year, but by 25% × (£10,000 - £2,500) in the second year. Compared to the straight line method, depreciation is more heavily weighted towards early years.

Although the reducing balance method usually more closely reflects the actual diminution in the market value of an asset, the straight line method is generally preferred as it better conforms to the principle of matching. If an asset provides the same benefit every year, then the best matching is provided by charging the same depreciation every year.

In the UK, writing down allowances (the equivalent to depreciation for tax purposes) on most assets are calculated on a reducing balance basis. The main exceptions are certain buildings, and those assets that are immediately written off in full.

Copyright Graeme Pietersz © 2005-2019