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Dep
reci
atio
n a
ccounting
Def
initio
n o
f D
epre
ciat
ion
•It is “
a m
easu
re o
f th
e w
earing o
ut, c
onsu
mption
or oth
er loss
of val
ue
of a
dep
reci
able
ass
et a
rising
from
use
, ef
fluxio
n o
f tim
e or obso
lesc
ence
thro
ugh tec
hnolo
gy a
nd m
arket
chan
ges
.
Dep
reci
atio
n is al
loca
ted so a
s to
char
ge
a fa
ir
pro
portio
n o
f dep
reci
able
am
ount in
eac
h
acco
unting p
erio
d d
uring the
expec
ted u
sefu
l life
of th
e as
set.”
(Inst
itute
of Char
tere
d A
ccounta
nts o
f In
dia
)
Definition of Depreciation Accounting
“ A
syst
em o
f ac
counting w
hic
h a
ims to
distrib
ute
the
cost
or oth
er b
asic
val
ue
of ta
ngib
le c
apital
ass
ets
less
sal
vag
e (if an
y) over
the
estim
ated
use
ful life
of
the
unit in a
syst
emat
ic a
nd rat
ional
man
ner
.”
Oth
er ter
ms
Amortisation :
•It is ch
argin
g o
ff a
par
t fo
the
cost
of an
inta
ngib
le
asse
t in
the
inco
me
stat
emen
t.
Depletion:
•It ref
ers to
the
physica
l det
erio
ration b
y the
exhau
stio
n o
f nat
ura
l re
sourc
es (ore
dep
osits
in
min
es, oil w
ell, q
uar
ries
, et
c). It im
plies
rem
oval
of an
avai
lable
but irre
pla
ceab
le res
ourc
e su
ch a
s
extrac
ting c
oal
fro
m a
coal
min
e.
Factors Determining the Amount of Depreciation
•H
isto
rica
l co
st:co
st incu
rred
on a
cquis
itio
n,
instal
lation, co
mm
issi
onin
g a
nd for ad
ditio
ns to
or
impro
vem
ents
of a
dep
reci
able
ass
et w
hic
h a
re o
f
capital
nat
ure
.
•Expec
ted u
sefu
l life
•Est
imat
ed res
idual
val
ue
(scr
ap v
alue/
sal
vag
e val
ue)
:
Val
ue
expec
ted to b
e re
alis
ed o
n its
sal
e or ex
chan
ge
on the
expiry its u
sefu
l life
.
Causes of Depreciation
•W
ear an
d tea
r
•Exhau
stio
n
•O
bso
lesc
ence
•Pas
sage
of tim
e
•A
ccid
ents
Objectives of providing depreciation
•A
scer
tain
men
t of true
pro
fits
•Pre
senta
tion o
f true
finan
cial
position
•Rep
lace
men
t of as
sets
Methods of Recording Depreciation
1.Where a provision for depreciation account is NOT
maintained:
a)The
entry to b
e m
ade
on w
riting o
ff d
epre
ciat
ion is
Depreciation Account
Dr.
To Asset Account
b)
For tran
sfer
of dep
reci
atio
n to the
Pro
fit an
d L
oss
Acc
ount:
Profit and Loss AccountDr.
To Depreciation Account
Methods of Recording Depreciation (cont….)
1.Where a provision for depreciation account is NOT
maintained:
c)O
n sal
e of as
set:
Cash or Bank Account
Dr.
To Asset account
In c
ase
of pro
fit on sal
e of an
ass
et
Asset A/cDr
To Profit and Loss A/c
In c
ase
of lo
ss o
n sal
e of an
ass
et
Profit and Loss Account
Dr.
To Asset Account
Methods of Recording Depreciation (cont….)
2.When a provision for depreciation account is
maintained:
i.For pro
vid
ing d
epre
ciat
ion:
Depreciation accountDr.
To Provision for Depreciation Account
ii.
For tran
sfer
of dep
reci
atio
n to P
rofit an
d L
oss
Acc
ount.
Profit and Loss Account
To Depreciation Account
Methods of Recording Depreciation (cont….)
iii.
On sal
e of as
set:
a.Provision for Depreciation Account
Dr.
To Asset account
(By tota
l dep
reci
atio
n c
har
ged
on a
sset
till dat
e of sa
le)
b.Cash or Bank Account
Dr.
To Asset account
(bei
ng sal
es p
roce
eds on sal
e of as
set)
c.In case of profit or loss on sale of an asset
•In
cas
e of pro
fit on sal
e of an
ass
et
Asset A/c
Dr
To Profit and Loss A/c
•In
cas
e of lo
ss o
n sal
e of an
ass
et
Profit and Loss AccountDr.
To Asset Account
Methods for providing Depreciation
•Strai
ght line
met
hod
•D
imin
ishin
g b
alan
ce m
ethod
Straight Line Method
(Fixed Installment Method)
•D
epre
ciat
ion is ch
arged
even
ly e
ver
y y
ear th
roughout
the
effe
ctiv
e life
of th
e as
set. T
he
amount of
dep
reci
atio
n is ca
lcula
ted a
s fo
llow
s:
Dep
reci
atio
n
Origin
al c
ost
-Est
imat
ed S
crap
Val
ue
Life
of th
e A
sset
in N
um
ber
of
Acc
ounting P
erio
ds.
=
D
C –
S
N
=
Straight Line Method
(Fixed Installment Method)
The
rate
of dep
reci
atio
n c
har
ged
eac
h y
ear is
calc
ula
ted a
s fo
llow
s:
The
rate
is ap
plied
on o
rigin
al c
ost
ever
y y
ear.
R =
DX
100
C
Advantages of Straight Line Method
1.
Sim
ple
to u
nder
stan
d, an
d e
asy to a
pply
2.
Val
ue
of as
set ca
n b
e re
duce
d to z
ero o
r sc
rap v
alue.
3.
Suitab
le m
ethod for as
sets
whic
h g
et d
epre
ciat
ed d
ue
to e
xpiry o
f per
iod e
g. Lea
sehold
pro
per
ties
, pat
ents
,
etc.
Disadvantages of Straight Line Method
1.
It d
oes
not ta
ke
into
acc
ount ef
fect
ive
utiliza
tion o
f th
e
asse
t as
the
sam
e am
ount of dep
reci
atio
n is ch
arged
ever
y y
ear.
2.
Even
though the
asse
t is
use
d u
niform
ly fro
m p
erio
d to
per
iod, th
e to
tal ch
arge
for th
e use
of th
e as
set (i.e
.
dep
reci
atio
n a
nd rep
airs
) kee
ps on incr
easing e
ver
y
yea
r. T
his
is bec
ause
cost
of re
pai
rs in e
ach subse
quen
t
yea
r rise
s th
ough e
qual
am
ount of dep
reci
atio
n is
written
off
ever
y y
ear.
Example
On 1
stA
pril 2002, X
Ltd
, purc
has
ed a
mac
hin
ery for Rs
1,0
0,0
00 a
nd incu
rred
Rs 7,0
00 tow
ards fr
eight an
d
insu
rance
, Rs 1,0
00 tow
ards ca
rria
ge
inw
ards an
d R
s 2,0
00 tow
ards in
stal
lation c
har
ges
. The
mac
hin
ery w
ill
hav
e a
scra
p v
alue
of Rs 10,0
00 a
t th
e en
d o
f its use
ful
life
whic
h is 4 y
ears
. O
n 1
April 2005, Rs 2000 w
ere
incu
rred
on rep
airs
and ren
ewal
s of m
achin
e.
Show
the
mac
hin
ery a
ccount fo
r th
e firs
t fo
ur finan
cial
yea
rs e
ndin
g 3
1st
Mar
ch e
ach y
ear ac
cord
ing to the
SLM
.
Diminishing Balance Method
•A
lso k
now
n a
sReducing Balance Method/ Written
Down Value method
•D
epre
ciat
ion is ch
arged
on the
book v
alue(
origin
al
cost
–ac
cum
ula
ted d
epre
ciat
ion) of th
e as
set ea
ch
yea
r.
•Thus th
e am
ount of dep
reci
atio
n d
ecre
ases
ever
y
yea
r.
•D
epre
ciat
ion R
ate
= 1
-n
Net
Res
idual
Val
ue
Acq
uis
itio
n C
ost
Wher
e n =
eco
nom
ic life
of th
e as
set in
yea
rs
Advantages of Diminishing Balance Method
•Sim
ple
and e
asy m
ethod
•Ever
y y
ear th
ere
is a
n e
qual
burd
en for using the
asse
ts
bec
ause
dep
reci
atio
n d
ecre
ases
ever
y y
ear w
her
eas
cost
s of re
pai
rs incr
ease
s.
•A
s an
d w
hen
additio
ns ar
e m
ade
to the
asse
t, fre
sh
calc
ula
tions of dep
reci
atio
n a
re n
ot nec
essa
ry.
•In
com
e ta
x a
uth
orities
rec
ogniz
e th
is m
ethod.
Disadvantages of Diminishing Balance Method
•It is difficu
lt to d
eter
min
e an
appro
priat
e ra
te o
f
dep
reci
atio
n
•The
val
ue
of th
e as
set ca
nnot be
bro
ught dow
n to
zero
Example
•A
firm
purc
has
es a
pla
nt an
d m
achin
ery o
n 1
stJa
nuar
y,
2000 f
or
Rs
10,0
00. Pre
par
e a
pla
nt ac
count fo
r th
ree
yea
rs ch
argin
g dep
reci
atio
n @
10%
p.a
. ac
cord
ing to
the
dim
inishin
g b
alan
ce m
ethod.
Depreciation on an asset purchased in the
course of a year.
Ther
e ar
e tw
o a
lter
nat
ives
tre
atm
ents
:
1.
Dep
reci
atio
n m
ay b
e ch
arged
for th
e fu
ll y
ear
irre
spec
tive
of th
e dat
e of purc
has
e at
the
giv
en rat
e.
2.
Dep
reci
atio
n m
ay b
e ch
arged
only
for th
at p
art of th
e
yea
r fo
r w
hic
h the
asse
t w
as u
sed. This
is usu
ally
if
the
rate
of dep
reci
atio
n h
as b
een g
iven
as a
certai
n
per
centa
ge
per
annum
and the
dat
e of th
e purc
has
e of
the
asse
t has
bee
n g
iven
.
•N
ote
:In
the
abse
nce
of in
stru
ctio
ns in
ques
tion, giv
e
assu
mptions
Sale of an Asset during the year
•The
amount re
aliz
ed should
be
cred
ited
to the
asse
t
Acc
ount.
•D
epre
ciat
ion for th
e per
iod for w
hic
h the
asse
t sh
ould
be
written
off
in the
usu
al m
anner
•A
ny b
alan
ce in the
asse
t ac
count re
pre
senting p
rofit or
loss
should
be
tran
sfer
red to the
pro
fit an
d loss
Acc
ount.
Example (Sale of an Asset)
•A
firm
purc
has
es a
tru
ck for a
sum
of Rs
1,0
0,0
00 o
n 1
stJa
nuar
y, 1999. It c
har
ges
20%
dep
reci
atio
n p
er a
nnum
acc
ord
ing to
the
Dim
inishin
g b
alan
ce m
ethod. The
truck
was
sold
on 1
stJu
ly,2
000 for a
sum
of Rs
80,0
00. Y
ou a
re req
uired
to p
repar
e th
e
Tru
ck A
ccount fo
r 1999 a
nd 2
000.
Example (Additions and Sale of an Asset)
•O
n 1
Jan
2002, X
Ltd
. purc
has
ed a
mac
hin
ery for Rs
58,0
00 a
nd spen
t Rs 2,0
00 o
n its
ere
ctio
n. O
n 1
stJu
ly
2002 a
n a
dditio
nal
mac
hin
ery c
ostin
g R
s 20,0
00 w
as
purc
has
ed. O
n 1
stJu
ly 2
004, th
e m
achin
e purc
has
ed o
n
1.1
.2002 w
as sold
for Rs 28,6
00 a
nd o
n the
sam
e dat
e, a
new
mac
hin
e w
as p
urc
has
ed a
t a
cost
of Rs 40,0
00.
Show
the
Mac
hin
ery A
ccount fo
r th
e firs
t fo
ur ca
lendar
yea
rs a
ccord
ing to w
ritten
dow
n v
alue
met
hod @
10%
p.a
.
Change in the Method of Depreciation
The
met
hod o
f dep
reci
atio
n m
ay b
e ch
anged
fro
m
Strai
ght Lin
e M
ethod to D
imin
ishin
g B
alan
ce M
ethod
or vic
e-ver
sa. Ther
e ca
n b
e tw
o situat
ions:
1.
Chan
ge
in the
met
hod o
f dep
reci
atio
n m
ay b
e des
ired
from
the
curr
ent yea
r onw
ards.
In this
cas
e,
dep
reci
atio
n w
ill be
char
ged
acc
ord
ing to the
new
met
hod, fr
om
the
curr
ent yea
r.
2.
Chan
ge
in the
met
hod o
f dep
reci
atio
n m
ay b
e des
ired
from
a b
ack d
ate
(ret
rosp
ective
chan
ge)
.This
req
uires
nec
essa
ry a
dju
stm
ents
to b
e m
ade
in the
curr
ent yea
r
for an
y e
xtra
or le
ss d
epre
ciat
ion c
har
ged
in the
earlie
r
yea
rs.
Procedure for recording a change in the method of
depreciation with retrospective effect
1.Calculate the aggregate depreciation
on e
xis
ting a
sset
s
(i.e
. as
sets
oth
er than
sold
/dis
card
ed/d
estroyed
/exch
anged
):
–al
read
y p
rovid
ed u
nder
the existing method
up to the
end o
f
pre
vio
us ac
counting y
ear
–re
trosp
ectivel
y fro
m the
dat
e of as
set co
min
g into
use
by
adopting the new method
up to the
end o
f pre
vio
us ac
counting
yea
r
2.Calculate the difference
bet
wee
n the
aggre
gat
e
dep
reci
atio
n u
nder
existing m
ethod a
nd that
under
new
met
hod.
•Ther
e m
ay b
e sh
ort d
epre
ciat
ion (ar
rear
s of dep
reci
atio
n i.e
.
exce
ss o
f dep
reci
atio
n u
nder
new
met
hod o
ver
dep
reci
atio
n u
nder
old
met
hod) or co
nver
sely
exce
ss d
epre
ciat
ion
Procedure for recording a change in the method of
depreciation with retrospective effect
3.
Pas
s jo
urn
al e
ntrie
s fo
r re
cord
ing the
diffe
rence
as
follow
s:
Profit and Loss Account
Dr.
To Asset A/c or Provision for dep’n A/c
(Adju
stm
ent fo
r sh
ort d
epre
ciat
ion)
Asset A/c or Provision for dep’n A/c
Dr.
To Profit and Loss Account
(Adju
stm
ent fo
r ex
cess
dep
reci
atio
n)
4.
Char
ge
dep
reci
atio
n fro
m the
curr
ent ac
counting y
ear
and o
nw
ards by a
dopting n
ew m
ethod.
Illustration (Change in the Method of Depreciation)
a.O
n 1
stJu
ly, 2005, a
com
pan
y p
urc
has
ed a
Pla
nt fo
r Rs
20,0
00. D
epre
ciat
ion w
as p
rovid
ed a
t th
e ra
te o
f 10%
p.a
.
on the
SLM
on 3
1 D
ecem
ber
ever
y y
ear. W
ith e
ffec
t from
1.1
.2007, th
e co
mpan
y d
ecid
ed to c
han
ge
the
met
hod o
f
dep
reci
atio
n to the
Dim
inis
hin
g B
alan
ce M
ethod @
15 %
p.a
. O
n 1
.7.2
008, th
e pla
nt w
as sold
for Rs 12,0
00. Pre
par
e
a Pla
nt A
ccount fr
om
2005 to 2
008.
b.
On the
bas
is o
f th
e ab
ove
info
rmat
ion, pre
par
e a
Pla
nt
Acc
ount fr
om
2005 to 2
008, if the
firm
dec
ides
on
1.1
.2007 to c
har
ge
dep
reci
atio
n a
ccord
ing to D
imin
ishin
g
bal
ance
met
hod w
.e.f. 1.7
. 2005 a
nd to m
ake
adju
stm
ent
for ar
rear
s of dep
reci
atio
n in the
yea
r 2007.
Example (change of method but NOT
retrospectively)
•A
firm
purc
has
ed a
cer
tain
mac
hin
ery for Rs 58,2
00 o
n 1
st
Januar
y, 2004 a
nd spen
t Rs 1,8
00 o
n its
ere
ctio
n. O
n 1
stJu
ly
2004, ad
ditio
nal
mac
hin
ery c
ostin
g R
s 20,0
00 w
ere
purc
has
ed. O
n 1
stJu
ly, 2006, th
e m
achin
ery p
urc
has
ed o
n
1st
Januar
y 2
004, hav
ing b
ecom
e obso
lete
was
auct
ioned
for
Rs 28,6
00 a
nd o
n the
sam
e dat
e fr
esh m
achin
ery w
as
purc
has
ed a
t a
cost
of Rs 40,0
00.
•D
epre
ciat
ion w
as p
rovid
ed for an
nual
ly o
n 3
1st
Dec
ember
at
10 p
er c
ent on w
ritten
dow
n v
alue.
In 2
007, how
ever
, th
e firm
chan
ged
this
met
hod o
f pro
vid
ing d
epre
ciat
ion o
n the
origin
al c
ost
@ 5
% p
.a. of th
e m
achin
ery. G
ive
the
mac
hin
ery A
ccount as
it w
ould
sta
nd a
t th
e en
d o
f ea
ch y
ear
from
2004 to 2
007.
