Daily Dose 016 | Engineering Economics
How do you calculate MACRS depreciation?
How do you calculate MACRS depreciation on an engineering asset?
Look, I get it, there is a reason we became engineers and not CPAs…we design – they crunch numbers.
But the reality is, to provide the most value to the communities we represent, we must know enough to get dirty in the world of economics.
In this lesson, we jump in to a problem that is covered within the subject of ENGINEERING ECONOMICS, specifically, diving in to determining the DEPRECIATION on an investment using the method of MODIFIED ACRS (MACRS).
What is MACRS Depreciation?
The Modified Accelerated Cost Recovery System (MACRS) is a method used for depreciating business property and assets.
The advantages of MACRS over historical methods are that an asset may be fully depreciated before the end of its service life, a zero salvage value is assumed, and tables given to us in the NCEES FE Reference Handbook make the system simple to apply.
MACRS allows for a larger depreciation deduction in the earlier years of an asset’s life and lesser deduction in the later years, compared to the straight-line method which spreads the deduction evenly over the life of an asset.
What is the least squares process?
As engineers, we not only design and innovate, but we also stand at the crossroads where technical ingenuity meets financial wisdom.
And it’s here that we must understand the value of assets over time.
As machines and other engineering assets experience wear and tear over the years, their real value decreases as well.
But how are we to quantify this decrease in value? That’s where depreciation comes into play.
Depreciation isn’t merely a decline in value; it’s a representation of resource consumption, wear and tear, obsolescence, or other factors that might cause an asset’s worth to decrease over time.
Among the various methods to calculate depreciation, the Modified Accelerated Cost Recovery System (MACRS), shines bright.
But how do you calculate MACRS depreciation when presented with this problem on the FE Exam?
The following procedure gives you a general framework to calculate MACRS depreciation fast and efficiently for any engineering asset.
Let’s run through the steps:
- Identify the Property Class
- Consult the Appropriate MACRS Table
- Calculate Annual Depreciation
- Dj = (MACRS factor)C
- Dj = Depreciation in year j
- MACRS factor = The factor defined using the MACRS table for year j
- C = The initial cost of the asset
- Accumulate Depreciation
Read through the problem statement and determine the class life of the asset based on its type and use. This will define whether it’s a 3-year, 5-year, 7-year or 10-year property, etc.
Unless provided in the problem statement, using the asset’s class life, refer to the MACRS depreciation table provided in the NCEES FE Reference Handbook to define the appropriate MACRS Factor.
Using the formula:
Multiply the cost (basis) of the asset by the appropriate percentage from the MACRS table for each year to get the annual depreciation amount.
For subsequent years, continue to refer to the MACRS table for the applicable percentage and calculate the depreciation until the asset is fully depreciated or disposed of.
And with all of that being stated, check out the video and see how we can go about solving this type of problem in the most efficient manner.
As always, we are here to help, Prepineer