On January 1, 2006, Torey Inc. purchased a machine for $120,000. They estimated that the machine would have an eight year useful life. They depreciate the equipment using the sum-of-the-year’s digits method. They record depreciation expense of $18,000 for the fiscal year ending on December 31, 2008. What was the estimated salvage value on the equipment?

Salvage value = $12000

Explanation:

Sum-of-year's digits is a form of accelerated depreciation which believes that the productivity of an asset reduces overtime, hence so does its depreciation cost. This is calculated as follows:

(Remaining useful life of the asset / sum of the year's digits) x depreciation cost

OR

(Remaining useful life of the asset / sum of the year's digits) x (Cost of asset - salvage value)

In this case however, we are unaware of total depreciation cost as well as the salvage value. We can use the information provided to obtain these and ultimately answer the question :)

We can obtain the sum of years depreciation as follows:

Total number of useful life years = 8

Hence, sum of the year's digits is = 1 + 2 + 3 + 4 + 5 + 6 + 7 + 8 = 36

We also know the depreciation expense for the third year, which is $18000.

In January 2018 (third year), the remaining useful life of asset is = 8 - 2 = 6

If we substitute this into the equation, we can find the depreciation cost.

Depreciation cost x (6/36) = 18000

Depreciation cost = 18000 x (36/6)

Depreciation cost = $108,000.

Now to calculate salvage value:

Cost of asset - Depreciation cost = Salvage value

Salvage value = $120,000 - $108,000 = $12000

b is the correct answer