Scrap value is the remaining worth of a machine, building or similar asset when it reaches the end of its useful life.
Assets are the valuables that your business owns, such as property, vehicles, or inventory. The scrap value is the amount someone would be willing to pay for a fixed asset once it’s no longer useful.
Examples of items with scrap value are an excavator that has succumbed to wear and tear, or an office space that is run-down and is no longer adequate to cover your business’ needs.
Scrap value can also be called residual value or disposal value. They’re all used for the value of an asset when it’s no longer in use, slated for disposal or scrapping, or abandoned.
How to find the scrap value
Identifying the scrap value is a standard practice when selling or scrapping an asset that’s no longer useful. You also identify the scrap value so that you can work out how to accurately depreciate an item, more on that later.
How you identify the scrap value of an item varies from country to country. It depends on whether you’re using the GAAP or the IFRS accounting principles, as well as on local rules and regulations.
You should check with an accountant or a tax specialist to figure out which rules apply to you.
Why scrap value matters
Understanding the value of your assets, even the ones you’re disposing of or abandoning, is important for accurate financial planning.
When you know the scrap value of your items, you can also depreciate them correctly, and ensure that their recorded value in your accounts matches the expected resale value.
Knowing the scrap value is also useful for reporting the value of your assets, such as submitting financial statements, and so it impacts your tax liability. In other words, it impacts how much tax you pay.
What is depreciation?
Depreciation is an accounting term used to describe a valuable asset’s loss of value over time. Depreciation is only used for fixed assets, which are assets above a certain value with a long lifespan, such as property or cars.
Depreciation is necessary because their value declines over time, and your accounts should be updated to reflect this.
An example of how scrap value impacts depreciation
Let’s say you buy a company car. The car is worth $50,000 and you expect it to have a useful life of 5 years. The scrap value is estimated to be $10,000—in other words this is what you think the car will be worth when it’s no longer useful.
We subtract the scrap value from the cost to find the depreciable amount:
Depreciable amount = 50,000 − 10,000 = 40,000
That means you have to depreciate the value of the car by $40,000 over 5 years.
Annual depreciation: 40,000 / 5 = 8,000 per year
Once the asset is fully depreciated, meaning that you’ve depreciated for as many years as it’s anticipated to last, the scrap value is what remains in your accounts. At the end of 5 years the total depreciation will be $40,000, and the scrap value will be $10,000.
This is just an example of depreciation and scrap value, you’ll have to check what applies to you.