Canadian Securities Course (CSC) Level 1 Practice Exam

How do you calculate depreciation using the straight line method?

1. Divide total assets by the number of years of useful life

2. Subtract residual value from original cost and divide by useful life

3. Determine a fixed percentage of book value each year

4. Apply a fixed percentage to the outstanding balance

The correct answer is: Subtract residual value from original cost and divide by useful life

The straight line method of calculating depreciation is based on the idea of systematically allocating the cost of a tangible asset over its useful life. By taking the original cost of the asset, subtracting its estimated residual value (the value it is expected to have at the end of its useful life), and then dividing the result by the number of years the asset is expected to be in use, you obtain the annual depreciation expense. This approach is straightforward and results in equal depreciation expenses being recorded in each accounting period throughout the asset's useful life. It is particularly useful for assets whose economic usefulness is presumed to be consistent over time, making it a common practice in accounting. The other options refer to different methods of depreciation. For instance, determining a fixed percentage of book value or applying a percentage to the outstanding balance aligns more with methods like declining balance depreciation rather than the straight line method. These methods have different implications for how expenses are recognized over time, contributing to variances in reported financial performance.