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Salvage value refers to the estimated value of an asset after it has provided as much use to the owner as possible. Calculating this value usually involves allowing for the depreciation of the asset over an extended period of time. Taking into account the accumulated depreciation makes it possible to determine the selling price for the asset, allowing the owner to obtain the last bit of value before parting with the investment.
The actual calculation of salvage value usually begins with the purchase price of the asset. By utilizing a projection of the anticipated useful life of the item, it is possible to determine the amount of depreciation that can be applied to the asset for each year of that useful life. This can be somewhat complicated, especially with assets that are anticipated to undergo a higher rate of depreciation for the first year or so, then depreciate at a slower pace for the remainder of its life. With a straight-line basis approach to the depreciation, the asset will decline in value as a set pace for the entire useful life, ultimately arriving at the salvage value at the end of that life.
Knowing the salvage value is important in several scenarios. For example, if an individual buys a new vehicle for $20,000 US dollars (USD) and chooses to sell the vehicle after five years, determining an accurate salvage value will allow the owner to set a reasonable sale price for the used car or truck. By allowing for whatever rate of depreciation occurred during each of those five years in the interim, the owner has a good idea of how much he or she can recoup from the original investment in terms of cash. Ideally, the salvage value will be enough to provide the resources to manage the down payment on a new vehicle, allowing the older vehicle to provide one last amount of benefit to the original owner.
The salvage value of an asset is also important when it comes to claiming tax deductions on donated items. For example, if the owner chooses to donate the used vehicle to a charity after using it for five years, the estimated salvage value will determine how much of a tax deduction he or she could claim on the tax return relevant to the date the donation took place. In many instances, specific formulas are used to determine the salvage value, effectively preventing owners from donating assets and then reporting an inflated market value as a means of receiving a larger deduction.