Graduate Thesis Or Dissertation
 

Comparison of inflation-sensitive depreciation methods

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https://ir.library.oregonstate.edu/concern/graduate_thesis_or_dissertations/7s75dg074

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  • The issues featured in this study are the vulnerability to inflation of several depreciation methods allowed by the Internal Revenue Service (straight-line, sum-of-the years and declining balance), possible consequences when depreciation allowances are based on historical cost and are not updated to price level changes, two proposals under national consideration (First Year Capital Recovery System and Capital Cost Recovery Act) to modify the way in which depreciation allowances are calculated, and several suggested procedures to compensate for the loss of purchasing power in depreciation. It is concluded that under inflation and when depreciation allowances are expressed in present dollars, additional taxation occurs and the original rate of return of the project decreases. To mitigate these circumstances, adjustments are needed. The magnitude of adjustments is evaluated for each of the main existing depreciation methods. It is shown that straight line method is itself an inflationary force. Numerical examples are presented. Two current proposals to modify the way in which depreciation allowances are calculated are described. Under Capital Cost Recovery Act and First Year Capital Recovery System, the risk of purchasing power loss because of inflation is reduced, and the mechanics are simple. However, depreciation is still based on historical cost. As a consequence, capital recovery is not adequate, although, it is superior to the recovery provided for existing methods. It is shown that several procedures can provide for adjustments in depreciation charges according to price level changes and better recover funds invested in capital assets. However, uncertainty of future inflation rates, loss of tax revenue for the government and sometimes complicated mechanics are the primary disadvantages.
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