Depreciation methods, useful life and residual value

Choosing a depreciation method changes profit in every year of an asset's life, even though the total charge is the same. This guide works one delivery van through straight-line, reducing balance and units of production, and explains how useful life, residual value and method are set and reviewed.

By Muhammad Bilal, Chartered Accountant. Reviewed by Awais Jameel, Chartered Accountant. Checked against official sources on . 3 minute read.

Short answer

Depreciation methods under IAS 16 must reflect how an asset is used up: IAS 16 allows any method that reflects the pattern in which an asset's future economic benefits are consumed. The three common methods are straight-line, a constant charge each year; reducing balance, a fixed rate on the falling carrying amount, giving higher charges early; and units of production, a charge based on actual use. Each depreciates the same total, cost less residual value, over the useful life. For a CU 40,000 van with a CU 4,000 residual value and a 5-year life, all three depreciate CU 36,000.

At a glance

Straight-line
Same charge each year
Reducing balance
Fixed rate, higher early
Units of production
Based on actual use
Depreciable amount
Cost less residual value
Reviewed
At least each year end
Excel
Depreciation and revaluation schedule
Depreciation methods, useful life and residual valueStraight-line: Same charge each year; Reducing balance: Fixed rate, higher early; Units of production: Based on actual use; Depreciable amount: Cost less residual value; Reviewed: At least each year end; Excel: Depreciation and revaluation schedule.KEY FACTS AT A GLANCEDepreciation methods, useful life and residualvalueStraight-lineSame charge each yearReducing balanceFixed rate, higher earlyUnits of productionBased on actual useDepreciable amountCost less residual valueReviewedAt least each year endExcelDepreciation andrevaluation scheduleChecked against official sourcesTax BakersDepreciation methods, useful life and residual valueStraight-line: Same charge each year; Reducing balance: Fixed rate, higher early; Units of production: Based on actual use; Depreciable amount: Cost less residual value; Reviewed: At least each year end; Excel: Depreciation and revaluation schedule.KEY FACTS AT A GLANCEDepreciation methods, useful lifeand residual valueStraight-lineSame charge each yearReducing balanceFixed rate, higher earlyUnits of productionBased on actual useDepreciable amountCost less residual valueReviewedAt least each year endExcelDepreciation and revaluation scheduleChecked against official sourcesTax Bakers
Key facts at a glance, as set out in this guide.

A depreciation example: one van, three methods

A courier buys a delivery van for CU 40,000. It expects to use it for 5 years and 200,000 km, and to sell it for CU 4,000 at the end. Expected use is 50,000, 45,000, 40,000, 35,000, 30,000 km a year.

YearStraight-lineReducing balance at 36.9%Units of production
17,20014,7629,000
27,2009,3148,100
37,2005,8777,200
47,2003,7086,300
57,2002,3405,400
Total36,00036,00036,000
Depreciation each year: three methods (CU)Depreciation each year: three methods (CU)7,20014,7629,000Year 17,2009,3148,100Year 27,2005,8777,200Year 37,2003,7086,300Year 47,2002,3405,400Year 5Straight-lineReducing balanceUnits of production
Same total of CU 36,000; different timing.

How do the depreciation methods work?

  • Straight-line: (cost - residual value) / useful life = (40,000 - 4,000) / 5 = CU 7,200 a year. Suits assets used evenly, such as buildings and office equipment.
  • Reducing balance: a fixed percentage of the carrying amount at the start of each year. The rate that takes 40,000 down to 4,000 in 5 years is 1 - (4,000/40,000)^(1/5) = 36.9%. Suits assets that lose most value early, such as vehicles and technology.
  • Units of production: (cost - residual value) / total expected units x units used = CU 0.18 per km. Suits machines and vehicles whose wear follows use.

Depreciation methods based on revenue generated are not appropriate, because revenue reflects factors other than consumption of the asset, such as prices and sales volumes.

How is useful life set?

Useful life is the period the company expects to use the asset, not its physical life. It considers expected usage, physical wear given the repair programme, technical or commercial obsolescence, and legal limits such as lease terms. A company that replaces vans every five years uses five years, even if vans last ten.

What is residual value?

The amount the company would currently obtain from disposing of the asset, after disposal costs, if it were already of the age and condition expected at the end of its useful life. It is often small or nil. If residual value rises to equal or exceed the carrying amount, depreciation stops until it falls back below.

When are estimates reviewed?

Residual value and useful life are reviewed at least at each year end, and the method whenever the pattern of consumption changes. Changes are changes in accounting estimates under IAS 8: applied prospectively, spreading the remaining carrying amount over the remaining life, with no restatement.

What about land and buildings?

Land and buildings are separate assets, even when bought together. Land usually has an unlimited life and is not depreciated, unless it is used up, such as a quarry, or includes site restoration costs. Buildings have a limited life and are depreciated.

Is tax depreciation the same?

Rarely. Tax rules often allow faster depreciation, creating a temporary difference and deferred tax. The accounting method should reflect use, not the tax rate. See deferred tax with examples.

When does depreciation start and stop?

It starts when the asset is available for use, in the location and condition needed to operate as intended, even if it is not yet used. It stops when the asset is derecognised or classified as held for sale. Idle assets continue to be depreciated, unless units of production gives a nil charge.

Compare the methods for your own assets in the Depreciation and revaluation schedule (Excel), and see IAS 16 explained.

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Questions people ask

What depreciation methods are allowed under IAS 16?

Any method that reflects how the asset's benefits are consumed, commonly straight-line, reducing balance and units of production. Revenue-based methods are not appropriate.

How do you calculate straight-line depreciation?

Cost less residual value, divided by useful life.

How is a reducing balance rate calculated?

One minus (residual value divided by cost) raised to the power of one over the useful life.

Is a change in depreciation method a change in accounting policy?

No. It is a change in accounting estimate, applied prospectively.

Sources

Every fee, date and rule on this page was taken from these official and primary sources.

  1. IFRS Foundation: IAS 16 Property, Plant and Equipment

Rules and fees change. If you are reading this long after October 4, 2026, confirm the figures with the source before you rely on them.

IAS 16IAS 16 property, plant and equipment explainedIAS 16Component depreciationIAS 16The revaluation model and revaluation surplus

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This guide is general information. It is not tax or legal advice for your situation.