W5_INDRA_Tanker Depreciation and Income Taxes

1.            Problem Recognition, Definition and Evaluation

Refer to Indonesian Finance Minister Regulation, there are 2 depreciation methods can be used for Oil Tanker income taxes calculation:

a.     Straight Line Method

b.    Declining Balance Method

Problem Statement

            Our new vessel already delivered. The price is 16,750,000 US $. What is the best depreciation method will be used for her?

2.            Develop of  the Feasible Alternatives

Based on the regulation, each method described as below :

a.     Straight Line Method, 5% of vessel price per year, 20 years amortization, no salvage value

b.    Declining Balance Method, 10% of vessel’s last book value per year, 20 years amortization, in year 20^th the depreciation same to salvage value

3.            Develop the outcomes for each alternative

We calculate the depreciation for each method as below :

Figure 1 : Straight Line Depreciation VS Declining Balance Depreciation

Next, we calculate the income tax and cash flow for each method as below :

Figure 2 : Comparison of Cash Flow for Each Depreciation Method

4.            Selection of the acceptable criteria.

Based on figure 2, both of the methods give same tax and cash flow in total but different allocating per year. It means we may use IRR as the criteria

5.            Analysis and comparison of the alternatives

Based on the criteria, we calculate and compare the IRR as below:

Figure 3 : IRR Comparison

6.            Select the preferred alternative

Based on the IRR, Declining-Balance Method is the best way to calculate depreciation. The most important thing, it’s legal!

7.            Performance Monitoring & Post Evaluation of Result

Next action we will do :

a.     Inform to finance department to implement Declining-Balance depreciation to this new asset

b.    Compare this method use other criteria like NPV and ERR (good topic for another blog posting)

We monitor the result by Investment Post Mortem Analysis. We report it every 3 months to our BOD.

Reference

i.        Depreciation Methods for Fixed Assets, Retrieved from:

http://www.ird.govt.nz/business-income-tax/depreciation/bit-depreciation-methods.html

ii.       Internal Rate of Return, retrieved from:

           http://finance.thinkanddone.com/irr.html

iii.      Indonesian Finance Minister Regulation 96/PMK.03/2009, retrieved from: http://www.ortax.org/files/lampiran/09PMK03_96lamp.html