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8/3/2019 Depreciation Presentation
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DEPRECIATION
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WHAT IS DEPRECIATION
The Accounting process of gradually converting theunexpired costs of fixed assets into expenses over a
series of accounting period is called DEPRECIATION.
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Contd.
The acquisition cost of an asset which means the
price paid to acquire or buy it is capitalised (means
that it is not charged immediately as cost against
revenue in the profit and loss account) as per costconvention.
Instead it is carried forward as FIXED
ASSET in the BALANCE SH
EET.
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Contd.
Because it is regarded as a pre-payment for the
services to be enjoyed by the concern. Therefore it
is to be written off as an expense during its useful
life. i.e. A portion of the cost should be chargedagainst profit as an expense in each of the
accounting periods in which the asset is gainfully
used.
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Contd
Though depreciation is the measure of
reduction in the use value of an asset, it does not
refer to the decrease in its market value.
Therefore Depreciation is the process
of allocating the cost of a fixed asset over its
estimated useful life in a rational and systematicmanner.
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Important Terms
The following are some of the important terms to be
known regarding depreciation.
i) DEPRECIABLE ASSETS :-
The assets whose lifetime can be estimated
and useful during two or more accounting periods
in production or service activities of anorganisation is called as depreciable assets can
also called as FIXED ASSETS.
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Important terms contd.
ii) USEFUL LIFE :-
It is the time during which the asset is helpful in
the normal business activities of a firm. It can be less
than the total life time of the asset. It can be
exactly pre-determined or it should be estimated on
reasonable basis.
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Important terms contd
iii) REALISABLE VALUE:-
This is the amount realisable at the end of the
assets useful life either as scrap or as second hand
asset.
iv) EFFLUXION OF TIME:-
It is the passage of time irrespective of actual
use of an asset as in the case of based assets.v) OBSOLESCENCE:-
It refers to an asset becoming out of date
due to improved models or methods.
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Objectives
i) ASCERTAINMENT OF TRUE PROFITS :-
To find out net profit or net loss , we add the
revenues and deduct all the expenses incurred in
that period so the portion of cost i.e. depreciation
is charged.
ii) PRESENTATION OF TRUE FINANCIAL POSITION:-
Unless depreciation is charged assetsmay be overstated in the balance sheet.
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Objectives contd
iii) REPLACEMENT :-
A continous decline in the value of asset over
several years may lead to a decision to replace the
asset. If depreciation is not provided the whole of
the profit may be withdrawn during the life of the
asset.
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Factors affecting the amount of
depreciation
i) Original cost of the asset :-
Invoice price (-) any trade discounts (+)
cost essential to bring the asset to a useable
condition such as freight, insurance, installation
charges.
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Factors contd.
iii) Estimated life :-
An asset may exist physically but it may
not be capable of producing goods at a
reasonable cost. Life of the asset can be estimated
in terms of year, months, hours, units of output or by
other operating measures such as kilometers in case
of trucks, taxies e.t.c.
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Methods of Depreciation
i) Straight line method.
ii) Written down value.
iii)
Annuity method.iv) Depreciation fund method.
v) Insurance policy method.
vi) Sum of digits method.
vii) Depletion method.
viii) Revaluation method.
ix) Machine hour rate method.
x) Repairs provision method.
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Rate of depreciation
The rate of depreciation is the reciprocal of the
estimated useful life. If the useful life of an asset is
10 years, the depreciation rate will be 1/10 or
10%.
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WDV method contd..
The maximum loss of an asset occurs in the early of
use. Therefore this method assumes that an asset
should be depreciated more in the earlier years of
use than later years.
Formula :
rate of deprn
Sum :
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DEPRECIATION FUND METHOD.
It is otherwise called as sinking fund method.
The amount of annual depreciation is investedoutside the business every year in good securities
bearing interest at a specified rate. The process of investing the amount of depreciation
together with the interest received goes on till thetime of replacement of assets.
At this time of replacement, all the securities aresold out and with cash received, the new asset ispurchased.
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INSURANCE POLICY METHOD.
It is otherwise called as Capital Redemption Policymethod.
Cash which is equal to the amount of depreciation, is
paid by way of premium every year. The amount goes on accumulating with the insurance
company at a certain rate of interest and is paid backto the insured at the maturity of the policy.
The main advantage of this method is that the companyneed not worry whether the investments as thedepreciation fund method, will be sold at best price ornot.
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SUM OF DIGITS METHOD.
Under this method, the amount of depreciation to
be written off each year is calculated by the
following formula:
=Remaining Life of the Asset(including the current
year)/ sum of all digits of the life of the assets in
years X cost of the asset.
This method is similar to Written down valuemethod.
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REVALUATION METHOD.
This method is used only in case of small items like
cattle(Livestock), or loose tools where it may be too
much to maintain an account of each single item.
The amount of depreciation to be written off is
determined by comparing the value at the end ofthe year with the beginning of the accounting
period.
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REVALUATION METHOD.(CONTD)
For eg.
Suppose on 1st April 2009, the value of loose tools
was Rs 10000 and during the year Rs 30000 worth
of tools were purchased. Now if in the end of the
year ie 31st March 2010, the loose tools are
considered to be worth only RS 20000 then the
depreciation amount comes to
Rs 10000+ RS 30000 RS 20000 = Rs 20000
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DEPLETION METHOD.
This method is used in case of natural resources like
mines, quarries etc, where an estimate of total
quantity of output likely to be available should beavailable.
Depreciation is caluculated per ton of output.
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MACHINE HOUR RATE METHOD.
This is more or less like the depreciation method.
Instead of the usual method of estimating the life of
a machine in years, it is estimated in hours.
Then, an accurate record is kept recording the
number of hours each machine runs and thedepreciation is calculated accordingly.
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MACHINE HOUR RATE
METHOD.(CONTD)
For eg.
Suppose the effective life of a machine may be 30,000
hours and the cost of machine is RS 4,50,000 then the
hourly depreciation is calculated as follows= 4,50,000/30,000
= RS 15.
The depreciation for a particular year during whichthe machine runs for 2,500 hours will be
2,500 X Rs 15 = RS 37,500
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REPAIRS PROVISION METHOD.
Under this method to the cost of the asset(less its
estimated scrap value), the amount expected to be
spent on its repairs and maintenance throughout itslife should be added and the sum is divided by its
estimated life.
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CHANGES IN METHOD OF
DEPRECIATION.
Accounting Standard 6 stated that the method
selected should be applied consistently from period
to period.
A change from one method of providingdepreciation to another should be made only if the
adoption of the new method is required by statue
or if it were considered that the change would result
in a more appropriate preparation of the financial
statements of the enterprise.
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CHANGES IN METHOD OF
DEPRECIATION.(CONTD)
When such a change in the method of deprecaiton
is made, depreciation should be recalculated in
accordance with the new method from the date ofthe asset coming into use.
The deficiency or surplus arising from recomputation
should be adjusted in the accounts in the year inwhich the method of depreciation is changed.
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THANK YOU.