How do I estimate the useful life of a capital asset?

There are norms around estimating useful life, which may vary by sector. These are often set by, or influenced by, tax authorities.

In the commercial world, where companies pay income tax on their profit, depreciation policies are important for taxation, because by shortening or extending the amortization period, a company can affect its bottom line. The Canada Revenue Agency’s term for depreciation is “capital cost allowance,” and you can find information on its rules here.

Capital cost allowance (CCA) works on the “declining balance” method of depreciation, where you expense a percentage of the asset’s remaining undepreciated value each year. Nonprofits often use the simpler “straightline” method, where you divide the cost by the estimated years of useful life, and expense an equal amount each year.

Not-for-profit organizations generally do not pay income tax, and so do not have to deal with capital cost allowance rules. However, it’s interesting to know how things work in the commercial sector, because we often follow similar patterns.

As with the CCA rules, nonprofits typically group their assets together in a way that makes sense. Thus, computers and office equipment are commonly depreciated over five years. Within that group, you might have a laptop computer that you don’t expect will last more than three or four years, and a photocopier that you think will probably last something over five years. However, on the whole, five years is considered to be a reasonable estimate for purchases of this sort.

Grouping saves you from having to estimate useful life for each item, and track every capital purchase separately.

Vehicles are often depreciated over five years, office furniture and fixtures over seven years, and buildings over 40 years. These may be common periods, but you and your accountant need to discuss what makes sense for your organization and its belongings.

This process of grouping streamlines bookkeeping duties. From time to time, you will need to make special calculations when you dispose of an asset earlier than your accounting estimate.