Sinking Fund Method of Depreciation
SINKING FUND METHOD OF DEPRECIATION
In
this method of depreciation, the book value decreases at increasing rates with
respect to the life of the asset
Let
P = first cost of the asset,
F = salvage value of the asset,
n = life of the asset,
i = rate of return compounded annually,
A = the annual equivalent amount,
Bt = the book value of the asset at the
end of the period t, and
Dt = the depreciation amount at the end
of the period t.
The
loss in value of the asset (P-F) is made available in the form of cumulative
depreciation amount at the end of the life of the asset by setting up an equal
depreciation amount (A) at the end of each period during the life time of the
asset.
A
= (P-F) * (A/F,i,n)
The fixed sum depreciated at the end of every time period earns an interest at the rate of i% compounded annually, and hence the actual depreciation amount will be in the increasing manner with respect to the time period. A generalized formula for Dt is
Dt
= (P-F) * (A/F,i,n) * (F/P,i,t-1)
The
above formula to calculate the book value at the end of period t is
Bt = P-[(P-F) *
(A/F,i,n) * (F/A,i,t)]