What is Depreciation Basis?

Depreciation basis is the amount of a fixed asset's cost that can be depreciated over time. This amount is the acquisition cost of an asset, minus its estimated salvage value at the end of its useful life. Acquisition cost is the purchase price of an asset, plus the cost incurred to put the asset into service. Thus, the acquisition cost can include sales taxes, customs duties, freight charges, on-site modifications (such as wiring or a concrete pad for the asset), installation fees, and testing costs.

Many organizations plan to use an asset and then scrap it. If so, they assume that there will be no salvage value, in which case the depreciation basis of an asset is the same as its cost. The use of no salvage value in the derivation of depreciation basis is the standard approach, since it reduces the complexity of the depreciation calculation.

Example of Depreciation Basis

A business buys a machine for $90,000, and pays an additional $1,000 in customs duties, $3,000 in shipping charges, $4,000 for the installation of a concrete pad on which to place the machine, and $2,000 for special electrical connections between the machine and the local power grid. The result is a total machine cost of $100,000. In addition, the accountant estimates that the machine will have a salvage value of $10,000 at the end of its useful life. Therefore, the depreciation basis of the machine is $90,000, which is calculated as follows:

$100,000 Purchase price - $10,000 Salvage value = $90,000 Depreciation basis

The company then uses a depreciation method, such as the straight-line method, to gradually charge the $90,000 depreciation basis to expense over the useful life of the machine.