Residual Value - Explained
What is Residual Value?
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Table of ContentsWhat is Residual Value?How is Residual Value Used?Uses of Residual ValueCalculating Depreciation/Amortization Using Residual ValueAcademic Research on Residual Value
What is Residual Value?
The residual value refers to the anticipated amount an asset is expected to yield at the end of its useful life. It is the value a company expects to realize from a fixed asset at the end of its useful life or lease. The amount a lessee pays for using an asset over a period of time is determined through its residual value. Generally, the value of a fixed asset diminishes based on the longer time it is being used. Hence, an asset used for a really long period would have a low residual value.
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How is Residual Value Used?
Simply put, a residual value of an asset refers to the amount or value the asset i worth after being used for a period of time. The time during which an asset is used refers to its useful, the amount the asset is worth at the end of its useful life is its residual value. There are models used for calculating the residual value of an asset, oftentimes, the bank that leases or issues an item for lease determines its residual value using past models and future predictions. The residual value determines the amount a lessee pays for using an item for a period of time, interest and tax and also taken into account. Companies use residual value for capital budgeting, it is the value that determines how much an asset can be sold after its useful life. Residual value is used in different industries and assigned varying meanings.
Uses of Residual Value
The uses of residual value are highlighted below;
- It is the value that determines how much an asset will be sold after its useful life has ended.
- The worth of an asset of its lease period is known through the residual value.
- This value determines the amount a lessee pays to the lesser for using an asset for a duration.
Calculating Depreciation/Amortization Using Residual Value
Another importance of residual value is that it is used when calculating the depreciation or amortization of assets owned by a company. The annual amortization rate of assets is important for accounting purposes. Tangible or fixed assets such as machinery or equipment, property and others depreciate over time. The management of companies consider the residual value of such assets when calculating their depreciation value.