On January 3, 2018, Pawnee Company paid $230,000 for a computer system. In addition to the basic purchase price, the
On January 3, 2018, Pawnee Company paid $230,000 for a computer system. In addition to the basic purchase price, the company paid a setup fee of $1,000, sales tax of $6,000, and $28,000 for a special platform on which to place the computer. Pawnee’s management estimates that the computer will remain in service for five years and have a residual value of $15,000. The computer will process 30,000 documents the first year, with annual processing decreasing by 2,500 documents during each of the next four years (that is, 27,500 documents in 2019; 25,000 documents in 2020; and so on). For help with deciding which depreciation method to use, the company president has requested a depreciation schedule for each of the three depreciation methods. If rounding is necessary, use two decimal places for the depreciation amount per document.
1. For each of the generally accepted depreciation methods, prepare a depreciation schedule showing asset cost, depreciation expense, accumulated depreciation, and asset book value.
2. For financial reporting purposes, Pawnee uses the depreciation method that maximizes reported income in the early years of an asset’s use. For income tax purposes, the company uses the depreciation method that minimizes income tax payments in those early years. Consider the first year Pawnee Co. uses the computer. Identify the depreciation methods that meet Pawnee’s objectives, assuming the income tax authorities permit the use of any of the methods.
3. Net cash provided by operations before income tax is $157,000 for the computer’s first year. The company’s income tax rate is 40%. For the two depreciation methods identified in requirement 2, compare the net income and net cash provided by operations (cash flow). Show which method gives the net income advantage and which method gives the cash flow advantage.
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