Question

Mandall Company constructed a warehouse for \(280,000 on January 2, 2017. Mandall estimates that the warehouse has a useful life of 20 years and no residual value. Construction records indicate that \)40,000 of the cost of the warehouse relates to its heating, ventilation, and air conditioning (HVAC) system, which has an estimated useful life of only 10 years. What is the first year of depreciation expense using straightline component depreciation under IFRS?

(a) \(28,000. (c) \)16,000.

(b) \(14,000. (d) \)4,000.

Short answer

The correct option is option (c) $16,000.

Step-by-step solution

Meaning of IFRS

International Financial Reporting Standards (IFRS) is a collection of accounting standards produced by the International Accounting Standards Board(IASB), a non-profit organization. It is a collection of globally agreed accounting standards that lays out rules and procedures for accounting.

Explaining the correct answer

Depreciation expense for the warehouse:

Depreciation = $\frac{\mathrm{Warehouse}\mathrm{cost}-\mathrm{Cost}\mathrm{of}\mathrm{the}\mathrm{warehouse}\mathrm{relates}\mathrm{to}\mathrm{HVAC}\mathrm{system}}{\mathrm{Estimated}\mathrm{life}}$

=$\frac{\$280,000-\$40,000}{20}$

=$12,000

Depreciation expense for warehouse relates to HVAC system:

Depreciation = $\frac{\mathrm{warehouse}\mathrm{cost}\mathrm{relates}\mathrm{to}\mathrm{HVAC}\hspace{0.17em}\mathrm{system}}{\mathrm{Estimated}\mathrm{life}}$

= $\frac{\$40,000}{10}$

=$4,000

So, the total depreciation is $16,000 ($12,000 + $4,000).

Explaining the incorrect option

Option (a): The depreciation expenses can be $28,000 as the cost of the warehouse should be subtracted from the cost of the warehouse related to the HVAC system, and it should be divided by an estimated life of 20 years, not useful life of 10 years.

Option (b): Expense of $14,000 for depreciation is a totally wrong result as it does not follow the formula to determine the depreciation expense.

Option (d): Depreciation expense of $4,000 is the only depreciation expense for the warehouse related to the HVAC system. The combined depreciation for the warehouse and the warehouse related to HVAC should be ascertained for a correct result.