Depreciation

Depreciation

What is depreciation?

Non-current assets

Vehicles, computers, equipment, shop fittings etc (are controlled by the business) and provide future economic benefit for the business for more than 12 months.

But.......They do not last forever, as they

• age• wear out • lose value over time and • their ability to earn revenue.

Every year....

• Part of the value of the non-current asset is consumed over time

• Therfore the annual consumption becomes an expense

• Depreciation calculates this annual consumption (expense)

On 1st July 2014, Woodrow Farm purchased a computer for $3,000 (plus $300 gst) cash. It will be kept for 3

years and estimated it is worth $0 after 3 years

Non current asset:- a future economic benefit to the farm, controlled by the farm and will benefit the farm for more than 12 months.

Computer has life of 3 years. Why?

• the value of the computer consumed should be written off each year as an expense called depreciation

• the unconsumed portion is reported as a non current asset

Depreciation - the allocation of the cost of a non-current asset over its useful life.

Purpose

• Ensure that an accurate (reliable) profit is determined by calculating the expense that is inccurred in the current reporting period.

How to calculate depreciation?

The formula:-

Historical cost less scrap value Useful Life

Depreciation of the computer would be:$3000 less $0

3$1,000 per year

The ledger accounts affected

• Depreciation – shows the annual expense (debit entry)

• Accumulated depreciation – displays the reduction in the value of the computer ie a ↓ in asset (credit entry)

How it would look in the first 12 months?

Depreciation

Accumulated Depreciation

1 Jul 15

$1000Depreciation

$1000Accumulated Depreciation

1 Jul 15

Reporting time:- - close revenue and expense accounts,- balance assets, liabilities

Depreciation (expense)

Accumulated Depreciation (↓ asset)

1 Jul 15

$1000Depreciation

$1000Accumulated Depreciation

1 Jul 15

P and L Summary30 Jun 16 $1000

After three years, the ledgers would look like.....

Depreciation of Computer

Accumulated Depreciation of Computer

30 Jun 15

$1000Dep of computer

$1000Acc Dep computer

1 Jul 15

$1000Acc Depn computer

P and L Summary30 Jun 16 $1000

$1000

$1000 $1000

$3000

1 Jul 16 $1000

$3000

$1000Dep of computer

Dep of computer1 Jul 17

Acc Depn computer

P and L Summary

P and L Summary

30 Jun 16

30 Jun 1730 Jun 17

30 Jun 16

1 Jul 17 Balance $3000

1 Jul 18 Balance $3000

The Balance Sheet

Year 1

Non current assetsComputer $3000 Less accumulated depreciation $1000

$2000

Historical cost

Carrying value

The Balance Sheet

Year 2

Non current assetsComputer $3000 Less accumulated depreciation $1000

$2000

Historical cost

Carrying value

The Balance Sheet

Year 3

Non current assetsComputer $3000 Less accumulated depreciation $3000

$0

Historical cost

Carrying value

Impact on Owners’ Equity

• Depreciation expense reduces profit therefore decrease Oe

• Depreciation reduces the value of the asset therefore accumulated depreciation shows this.