Units of Production Depreciation: How to Calculate & Formula

Cody Cromwell
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How Units of Production Depreciation Works

The concept of Units of Production depreciation is quite similar to the costing approach of accounting. When we use a costing approach, we calculate how much money has been spent in the process of building a product, and we can find the amount of profit that has been created. Because of the productive assets used in the process, we decide to allocate the cost of the productive assets (such as land, buildings, tools, and machinery) to the specific process of manufacturing the product, and we allocate the cost of labor to the products we make. With this allocation, we can find the current value of the assets being used, and we can add the cost of the assets used to the cost of the finished product, to find the value of the product that we have produced. We can apply the same approach when calculating Units of Production Depreciation. Instead of combining the value of the products with the value of the cost of manufacturing facility, we will divide the value of the products with the cost of the manufacturing facility, so that we can find the value of the depreciable units.

When to Use Units of Production

It’s best to understand what a depreciation method is used for before moving on to discussing the use of units of production depreciation.

As defined by Wikipedia, depreciation … is "an adjustment to the depreciable basis of property, usually an asset of an economic entity, used to create an expense or loss which is recognized in the profit and loss statement of an entity."

An example of this would be the depreciation of a phone, computer, car or asset utilized by an entity. When you purchase these types of assets outright, these are recognized on the asset or equity side of your organizational books. However, keeping these assets in use for an extended period of time quickly depletes the value of these assets which then need to be replaced.

Depending on the exact accounting method chosen, you can either take on the expense of the devalued asset which is reflected on the expense side of the books or a depreciation expense is created to reflect the total amount of the asset that has been used.

How to Calculate Units of Production Depreciation

Another useful tool in accounts, Depreciation tables will provide you with quick information about your company’s production efficiency, a percentage of the company’s per year income.

The general format of the simplest form of depreciation table is a bar chart with a method for expanding the depreciation method into continuous depreciation curves. You can use the write-up below to assist in determining a depreciation method and its formula from the spreadsheet that calculates units of production depreciation; or use the spreadsheet to obtain the method or bookkeeping cost of the formula.

Bookkeeping costs can be calculated directly from the spreadsheet, once you determine the production process of your company. We used the table below to determine bookkeeping cost of the formula as well as the units of production depreciation.

Here’s how to determine the bookkeeping cost of a formula based on units of production.

$ Bookkeeping Cost = Sum of Product Descriptions $ Purchase Cost $ Expenses (Operation and Administration Costs) $ Profit $

Thus, a formula of this type might method would be:

$ Units Produced $ Purchases $ Expenses (Operations and Administration) $ (Product Cost) $ (Generated Margin) $ (Unit Profit) $ Profit = Units Produced – (Purchase Cost).

Calculate the Units of Production Rate

Before we talk about the Units of Production Depreciation formula, it’s essential to know what it is and what it’s all about.

The Units of Production Depreciation is the ratio of the change in the Number of Units produced (or Units of Production) to the change in the Cost of Production per Unit of output.

That’s the simple definition, but it’s still a bit of a mouthful. We need a bit more detail. We need to understand two things:

{1}. How to calculate the change in the Number of Units of output.
{2}. Factors affecting the change in factors which change the Cost of Production.

Calculate the Depreciation Expense

Every business owner wants to reduce their cost of doing business and for this reason, they should be mindful of their approach to depreciation.

Depreciation is essentially how you are allowed to depreciate the excess value of a certain asset for tax purposes. There are two main types of business assets – current assets and fixed assets. A current asset will possess a higher value than a fixed asset as a result of the passage of time. While a fixed asset will retain its value throughout the life of the business.

As a business owner, you need to weigh the benefits of expensing the depreciation of your current assets against the additional tax burdens that will be imposed on your company. As a business, your current assets span a wide range of different types, such as buildings, inventory, equipment, office equipment, vehicles, and so on. As a result of this wide range of assets, the cost of depreciation is wide-ranging.

However, when it comes to calculating revenue, depreciation, and tax expense, you need to make the distinction between current and fixed assets. This can be achieved by accurately accounting for the depreciation on these two types of assets.

Units of Production Depreciation Examples

Sewing Machine Annual Depreciation Expense Calculation

Sewing machines are a very common tool in any business. They are essential to create and improve the overall quality of the fabric used, along with the overall quality of the clothing made.

However, just how much is the annual depreciation on a sewing machine? Which is the formula you need to calculate this? Let us take a simple example to find out.

Crane Annual Depreciation Expense Calculation

Cranes are a practical solution for lifting heavy objects and materials. Once you procure a crane for your company, it’s essential to know how to calculate depreciation of a crane for your annual income/expense report.

A big difference between a crane and other company assets is that it’s a major player in the game of fire and safety. The operator of the crane must always be on the lookout for potential hazards that could jeopardize the lives of people around the crane.

Once you have a crane in your office, your attention will gravitate to general maintenance, usage, and repairs. So when it’s time to file your annual income/expense report, you’ll have to know how to calculate depreciation of your crane. Let’s find out how.

Crane Annual Depreciation Expense Calculation

To calculate the depreciation expense of a crane, you must know the total acquisition price of the crane, the remaining useful life of the crane, and the estimated salvage value. Let’s talk about each of these steps in detail.

Step 1: Calculating the Total Acquisition Price (TAP) of the Crane

Advantages & Disadvantages of Using Units of Production Depreciation

There are two different methods of calculating a company’s depreciation, and they not only have different methods behind them, but also offer different advantages. We’ll look at more about the full-cost depreciation method as well as the units of production depreciation method and what they have over one another.

Advantages of Units of Production Depreciation

In this blog post, we will look at different formulas and rules that are applied to determine the units of production depreciation in accounting.

A business can choose to use one of these three depreciation rules every time to arrive at the correct amount of units of production depreciation. Both formulas can be used to determine the units of production depreciation and both formulas can be used to determine how long the business should take to depreciate the item.

The difference between these two methods of depreciating a fixed asset is that method one is straight line depreciation and method two is units of production depreciation.

Each method has certain advantages and disadvantages. Which one is the correct method is often determined by data and other information available to the accountant.

The following is an in-depth analysis of both formulas and rules of units of production depreciation, as well as a comparison between the two methods. Plus, we have identified an easy to follow formula for units of production depreciation.

Formulas for Units of Production Depreciation

There are two formulas that can be used to determine the units of production depreciation for a fixed asset.

Straight Line Depreciation (Method 1)

The formula to calculate units of production depreciation for straight line depreciation is as follows:

  • Units of Production Decl =
  • Where,
  • Units of Production Decl =
  • Period of Time Over which Units of Production Depreciation Occurs

Disadvantages of Units of Production

The most common problems associated with the UPD method is that it gives the wrong answer if the value of an asset is low when its useful life started, and it gives the wrong answer if more than one asset is capitalized at the same time or if the disposed asset was purchased after the useful life of some present asset.

In accounting, depreciation is the principle of allocating the cost of assets over the periods for which they are being used. The term depreciation is used in two similar but not identical contexts:

In accounting, depreciation is used to allocate the cost of fixed assets, such as buildings, machinery, and equipment, over the period of their useful lives. This process is used to measure costs and to keep useful assets in their most efficient state. It also provides information about the amount of money required to maintain the value of useful assets.

In the field of economics, depreciation is the process of allocating the cost of an asset over a period of time. Depreciation of investment is the sum of declines in value of investment.

How to Record Units of Production Depreciation for Accounting Purposes

The calculated depreciation is the amount of an asset used (used-up) and the cost of replacement of an identical asset. Depreciation differs from wear and tear because it can only be calculated by using historical cost.

Depreciation is the calculation of the amount of the decline in an asset's value over a period of time and is one of the most important operations in a business.

It is derived from method of production of a product which is a uniform and systematic way of using and consuming the resources in order to achieve the desired end.

If a firm is using the uniform and systematic method of method of production of a product, then the increase in the total outlay incurred or incurred by the firm during the production at all stages is known as production units in a year.

Therefore, the total units produced in a year will be the summation of the production units in all the stages.

It must be noted that the production units in all the stages may either be constant or variable.

Therefore, if the depreciation is to be calculated from the production units, then the value of which will be higher.

For an instance, if the production of a product by a firm is increased from five hundred units in the first month to six hundred units in the second month, then the costs incurred in the production will go up from the first month from five hundred hundred units to six hundred units.

Prepare the Units of Production Depreciation Expense Journal Entry

For your first journal entry, make the following entry:

U.O.P. Depreciation Expense/ 2

The symbol “/2” is a shortcut if you are giving yourself some wiggle room. You only need to enter two double-zeroes (“0000000”) as a positive number. This entry simply erases the negative amount already recorded and reset the purchase to the value you want for the new cost.

This journal entry is a special case because it needs a reason for the deduction. You are correct to assume depreciation expense is the normal reason you would enter an expense in it’s own account in the accounts receivable journal entry. In this case, however, the cost for depreciation is not part of an asset you wrote off. It’s simply a cost that you are recording that is already a permanent part of the company as you own it. You therefore don’t need to give a reason for it as it has already been given.

Maintain Records on the Assets

Prepare Depreciation Schedules

Depreciation is an annual allowance or deduction made to an asset over the earlier periods, in order to charge the asset to book value and prepare the depreciation expense that will be shown in the financial statement and balance sheet. If your business has more than one machine, it cannot simply use straight-line depreciation or the "base-year method" to determine its depreciation expense. You need to know whether you want to expense straight-line or accelerated depreciation. You also need to know the appropriate depreciation method and the useful life of each asset in the early years. You can use the accounting software to calculate these depreciation values. The records will help you make an informed choice for the appropriate depreciation methods and disclose the depreciation in your quarterly or annual financial reports.

In order to prepare depreciation schedules to figure out the period over which the assets should be depreciated and to prepare depreciation reserve, you need to follow the following steps:

Depreciate the assets on a systematic and rational basis. Calculate the depreciation expense using the straight-line method.

Step 1: Divide the total depreciable value of the fixed asset by its estimated useful life.

How QuickBooks Can Help Calculate Units of Production Depreciation

Depreciation is a process that occurs over a period of time when an item loses market value. For instance, when a baseball bat begins to lose its spring because of heavy use, it has experienced a depreciation. Eventually, it will be replaced.

Units of Production Depreciation is a method that businesses use to account of this depreciation. It is usually calculated by dividing the assets acquired for the company into different units of production. Once the assets have been used for the particular production, they depreciate.

In the end, if the company uses the manufacturing method of calculating its depreciation, the total depreciation is divided between the production of finished products and the goods that were not turned into finished products. If a company uses the guideline of using one unit – then it may break down the value of the finished product to assign depreciation costs in the beginning of each period.

Meanwhile, many businesses will use a fixed percentages for depreciation calculating. It is called the straight-line method.

In both cases, multiply the assets by the percentage rates associated with the asset group. After the calculation, the value remaining will be the units of production depreciation.

For example: The spreadsheet below shows two examples. Test A, in which the Assets are measured in terms of finished products; Test B, in which Assets are measured in terms of value remaining.

Set Up the Asset Account

For the investor and the accountant, customers and sales, the people carrying out the productive activities, the asset created by the productive activities is the product.

So the Colloquial Phrases …

  • … … product produced by the productive activities
  • … … the product
  • are all right.

So you can compare it with the goodwill of a company.

And when you convert goodwill to the value of the product produced by the productive activity you get the value of the product.

That is the basis of all accounting: goodwill, the cost of the product.

Goodwill is the product that was sold and was sold at what cost?

So goodwill tells us how much you have sold in terms of revenue for product.

And that generates the revenue and the profit and you discover the net is the cost of what was sold and then that gives you the capitalization of the manufacture of the product.

Run a Chart of Accounts Report

A Chart of Accounts report is one of the oldest reports in accounting and is very useful in clarifying your company’s financial situation.

To run the CHA report, simply click on the Accounts tab in QuickBooks (Payables and Receivables reports are also available). Enter the dates you want to view in the Account drop down. Select those that apply to the chart of accounts that you want to use.

Click on the Chart of Accounts drop down menu and choose the chart of accounts that you want to view. QuickBooks will ask you for permission to make changes to the chart you choose. Select the check mark – Create Changes to Components Impacts.

The Chart of Accounts for a particular period is not a complete list of all accounts in the chart of accounts. Instead, it shows a list of the major balances in the chart of accounts for the chosen period.

One of the advantages of the CHA report is that it shows the impact of adjusting each account. This means that you can see which accounts have an impact on the overall balance, which have a negative impact, and which effects are neutral.

You can also use this report to quickly find the total balance in each account. Simply open the account drop down filter and select Temporary Indefinite. Click on Chart of Accounts and you will be presented with the total balance.

Frequently Asked Questions (FAQs) About Units of Production Depreciation

What is units of production depreciation?

Units of production depreciation is the process of accounting for the loss in value of capital goods over the useful life of the capital goods. The process is also referred to as the units of production method and is also the basis on which we assess the cost of capital inventory items and record them in our profit and loss (P&L) account.

Units of production depreciation calculations are widely used to account for the declining value of capital assets such as machinery and equipment, office equipment, and computer hardware and software.

Where can I learn more about units of production depreciation?

There are several books that can tell you more about units of production depreciation. We have selected three that you may find helpful. You may also find other books and Internet resources useful.

Units of Production Depreciation by Robert J. Benway and Jerome R. Achen: This is a book that teaches you how to calculate the "replacement cost" of a partially depreciated capital asset. Units of Production Depreciation identifies how the capital asset is depreciated using a single number called the "unadjusted depreciable cost".

Replacement Cost Accounting: A Guide for Managers by William F. Gray: This is an advanced book that teaches you how to appraise the cost of the asset, depreciation expense, and the market value.

How do you calculate units of production depreciation?

Knowing how to calculate units of production depreciation can be a life saver!

Used right, it is a valuable tool in determining the amount of depreciation that’s being charged or recaptured. It also helps to be able to identify the key components involved so that you can understand how to calculate the depreciation per unit of production.

Because we don’t actually write the big dollars in the spot where we write our formulas, we need to deal with some decimals. Though, for those who like math, the amounts are negligible! So let’s do some simple multiplication and division while learning how to calculate units of production depreciation.

The formula for units of production depreciation is:

  • (Depreciable Cost – Net Sales) / Number of Units Produced
  • Formula Steps and Explanation for Units of Production Depreciation

This top-level formula is made up of three parts. Let’s take a look at each one of these, starting with the first part.

First, there is the formula element that has the word ‘depreciable.’ This is an important summary component that gives us the key information in determining the depreciation. Namely, it tells us with some precision what the cost is for the units produced.

What is the units of production method?

Theo Menke is a Certified QuickBooks Advisor and the founder of OMGU Resources. He has a simple definition of depreciation: “The purchase of an asset causes a loss of value in that asset from the date of purchase until the asset is sold or the value becomes used up.”

This valuation of an asset’s value against itself is known as the units method. There are two types of units method – actual cost (in this case, the cost of the asset less its remanufacturing value) and classes of depreciation (now known as the units of production method).

Both are formulas and work for calculating depreciation. But Class of Depreciation does it in a more precise manner.

A few years ago, the IRS began to scrutinize the units method of tracking assets. This was due to several discrepancies in depreciation methods. However, in light of the IRS’s inquiry, Intuit, the maker of QuickBooks, created the class of depreciation method to address the discrepancy.

Class of Depreciation is a way to more accurately track assets and always ensure that perfect bookkeeping procedures are followed.

What is the units of activity method?

This method is used to calculate the depreciation of fixed assets. It is among the most frequently used methods. This method can be used even if the company does not properly develop a manual of depreciation plans.

Factors Affecting the Units of Activity Method

dž Depreciation can be calculated by any simple method; the choice of the method is based on the cost and the life of the fixed assets and their location.

dž The units of activity method can only be used in the case of fixed assets whose location cannot be changed.

dž Depreciation can be carried out at any point of time.

dž the Unit of Activity Can Be Freely Selected; It Can Be in the Terms of Costs or in the Terms of Output

Factors Affecting the Fixed Assets

dž The fixed asset is the building or movable asset, for example, building, ship.

dž The production fixed assets are fixed assets used in the production process.

dž The usable fixed assets include depreciation which is charged to one’s profit.

dž It can be a group or a set of fixed assets; it can also be a parcel of land.

Bottom Line

How to Calculate Useful Depreciation Amounts

The concept of depreciation is important for both accounting and economics. We first need to know the various ways in which it is calculated, and then review some key formulas for useful depreciation amounts.

Depreciation can be calculated using different formulas to arrive at a useful amount. You will need to know some basic formulas like the Modified Accelerated Cost Recovery System (MACRS), Modified Accelerated Cost Recovery System (MACRS) (straight line method) and Modified Accelerated Cost Recovery System (MACRS) Cost Depletion.