Petunia Company owns 100% of Sage Corporation. On January 1, 2017 Petunia sold equipment to Sage at a gain. Petunia had owned the equipment for four years and used a ten-year straight-line rate with no residual value. Sage is using an eight-year straight-line rate with no residual value. In the consolidated income statement, Sage's recorded depreciation expense on the equipment for 2017 will be reduced by:

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Since Petunia sold the equipment to Sage, a wholly-owned subsidiary, any gain on sale must be eliminated in consolidation. The depreciation expense recorded by Sage needs to be adjusted to reflect the original cost basis of the equipment as if the sale had not occurred. Given that Petunia used a ten-year straight-line depreciation method and sold the equipment after four years, it had depreciated 40% of the equipment's cost. Sage is using an eight-year straight-line method, which implies an annual depreciation rate of 12.5%. To align Sage's depreciation expense with the consolidated view that ignores the intra-entity sale, the depreciation expense for 2017 must be adjusted by 12.5% of the gain on sale, reflecting the difference in depreciation expense as if the equipment were still being depreciated by Petunia over its original useful life.

Petunia Company Owns 100% of Sage Corporation