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What is depreciation? Depreciation is the means by which the loss in value of a non-current asset is spread out over the useful life of the asset Depreciation is an expense Depreciation is the loss in value of a non- current asset over its useful economic life that is apportioned to financial periods It’s a non-cash expense Mr. BarryA-level Accounting Year 12
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A-level Accounting Year 12
IAS 16 Property, Plant and Equipment
Mr. Barry
A-level Accounting Year 12
IAS 16 PPE
Mr. Barry
• “The objective of IAS 16 is to prescribe the accounting treatment for property, plant, and equipment. The principal issues are the recognition of assets, the determination of their carrying amounts, and the depreciation charges and impairment losses to be recognised in relation to them.”
A-level Accounting Year 12
What is depreciation?• Depreciation is the means by which the loss in
value of a non-current asset is spread out over the useful life of the asset
• Depreciation is an expense• Depreciation is the loss in value of a non-
current asset over its useful economic life that is apportioned to financial periods
• It’s a non-cash expense
Mr. Barry
A-level Accounting Year 12
Accounting for Depreciation– Fixed assets other than land lose their ability over time to
provide services– Costs of equipment, buildings, and land improvements should
be transferred to expense accounts in a systematic manner during their expected useful lives.
• DEPRECIATION – Adjusting entry to record depreciation is usually made at the
end of each month or at the end of the year Fixed assets other than land lose their ability over time to provide services
Mr. Barry
A-level Accounting Year 12
Adjusting Entry
Account Debit CreditDepreciation expense £7,000
Accumulated depreciation - truck £7,000
Mr. Barry
A-level Accounting Year 12
Depreciation• Accumulated depreciation
– Shows the amount that the asset has lost in value since its purchase• Depreciation expense
– Shows the amount that the asset has lost in value this period.• Factors that cause a decline the ability of a fixed asset to
provide services may be identified as – Physical depreciation
• Occurs from the wear and tear while in use and from the action of the weather
– Functional depreciation• Occurs when a fixed asset is no longer able to provide services at the level
for which it was intended.
Mr. Barry
A-level Accounting Year 12
Factors in accounting for depreciation expense
–The fixed asset’s initial cost–Its expected useful life (UEL)–Its estimated value at the end of its useful
life (residual value)
Mr. Barry
A-level Accounting Year 12
Depreciation Methods
1. Straight line
2. Reducing balance
Mr. Barry
A-level Accounting Year 12
1. Straight line Method
• Provides for the same amount of depreciation expense for each year of the asset’s useful life
• Annual depreciation expense =
Cost – residual value UEL
Mr. Barry
A-level Accounting Year 12
Example 1
• A machine had a cost of £24,000, residual value of £2,000 and useful economic life of 5 years
• Annual depreciation expense =
Cost – Residual value Life
= £24,000 - £2,000 5 years
= £4,400 annual depreciation
Mr. Barry
A-level Accounting Year 12
Adjusting entry
Account Debit Credit
Depreciation expense £4,400
Accumulated depreciation - Machinery £4,400
Mr. Barry
A-level Accounting Year 12
Income Statement Entry
Less ExpensesDepreciation chargeRent
Mr. Barry
4,400
3,000
A-level Accounting Year 12
Statement of financial position (balance sheet) Entry
NON CURRENT ASSETS £ £
Machinery at Cost 24,000
Accumulated depreciation 4,400
Net Book Value 19,500
Mr. Barry
A-level Accounting Year 12
Example 2
• A machine had a cost of £30,000, residual value of £5,000 and useful life of 6 years. Calculate depreciation under the straight line method?
• What is depreciation expense in year 3?
ANSWER= = £30,000 - £5,000 6 years = £4,167 annual depreciationMr. Barry
A-level Accounting Year 12
Reducing Balance Method
• Provides for a declining periodic expense over the estimated useful life of the asset.
• Book value = Cost – Accumulated depreciation
Mr. Barry
2. Reducing Balance Method
• Using this method the depreciation charge is a fixed percentage of the cost of the asset in the first year.
• In the second and later years the same percentage is taken of the reduced balance or net book value (cost less depreciation already charged)
A-level Accounting Year 12Mr. Barry
Example
• If a machine is bought for £10,000 on 1/1/11 and depreciation is to be charged at 20% per annum using the reducing balance method
• The depreciation calculations for the first three years would be as follows:
A-level Accounting Year 12Mr. Barry
A-level Accounting Year 12
AnswerYear 1 Year 2 Year 3
Cost= £10,000 X .202, 000 depreciation
Cost- Acc Dep= £10, 000- £2,000= £8,000 (NBV) X .201,600 depreciation
£8,000- £1,600= £6,400 (NBV) X .201,280 depreciation
Mr. Barry
Choice of Methods• A business can choose whichever method it prefers
• Straight Line Method – same depreciation charge is charged each year – suit assets where benefits are to be gained evenly over the years
• Reducing Balance Method – more depreciation is charged in the early years – suit assets where main value is to be obtained from the asset in the early years
A-level Accounting Year 12Mr. Barry
Financial Accounting
Depreciation of Non current Assets II:Disposals, Impairments and Revaluations
A-level Accounting Year 12Mr. Barry
Summary• Non current assets fall in value• Through consumption and use (wear & tear;
obsolescence; depletion etc.)• Financial accounts need to take account of this
factor • This is done through an annual charge for
depreciation (effectively reduces the original cost of an asset each year to reflect wear & tear/usage)
A-level Accounting Year 12Mr. Barry
Summary• Annual depreciation charge calculated using
either the:– Straight Line Method (based on cost)– Reducing Balance (based on NBV at end of each
period)• Annual depreciation charge is charged as an
expense through the Income Statement
A-level Accounting Year 12Mr. Barry
Summary• In Balance Sheet must show for each class of
fixed asset– Cost– Accumulated Depreciation (depreciation charged
to date i.e. from date of acquisition)– Net Book Value (NBV)
• Cost - Accumulated Depreciation = NBV (reduced value of the asset at the end of each accounting period)
A-level Accounting Year 12Mr. Barry
Recording Depreciation• Non current Asset Accounts are always kept for
showing the assets at cost price (or revalued amount)
• Depreciation is shown accumulating in a separate “Accumulated Depreciation account or Provision for Depreciation Account”
A-level Accounting Year 12Mr. Barry
A-level Accounting Year 12
Recording the Disposal of a non current Asset
1. Remove Asset @ Cost2. Calculate depreciation on disposed asset3. Remove disposed asset depreciation from
accumulated depreciation4. Calculate gain(profit) or loss on disposal
Mr. Barry
Double Entry• Depreciation Charge
– Dr.: Depreciation (I/S) (Expense)– Cr.: Accumulated Depreciationbeing charge for the year
• Disposal– Dr. : Disposal Account– Cr. : Non current Accountbeing cost of non current asset disposed of
A-level Accounting Year 12Mr. Barry
Double Entry - Disposal
• Dr.: Accumulated Depreciation• Cr.: G/L on Disposal accountbeing accumulated depreciation on asset disposed of.• Dr. : Bank Account• Cr. : G/L on Disposal Accountbeing remittance received on disposal
A-level Accounting Year 12Mr. Barry
Double Entry - Disposal• Transfer the balance on the disposal account to
the Income Statement account• If a profit is made on disposal the credit side will
be greater than the debit side• If a loss is made on disposal the debit side will be
greater than the credit side• NBV of Disposal (Cost - accumulated
Depreciation) > Proceeds = Loss (< Proceeds = Profit)
A-level Accounting Year 12Mr. Barry
A-level Accounting Year 12
IAS 36 Impairment 1• Impairment exists where the carrying value of the
asset in the BS is greater than the recoverable amount.
• If an asset’s value in the accounts is greater than its realistic value (recoverable amount), then it can be said that the asset suffered an impairment loss.
• Treatment – If asset had been revalued then write off impairment loss against
revaluation surplus– Otherwise should write off that impairment loss to the IS immediately
(an expense).
Mr. Barry
A-level Accounting Year 12
RevaluationIAS 16 allows entities to show non current assets
at :– Cost
or– Revalued to their Fair value (only if fair value can be reliably
measured)
• Normally use market value for land, buildings, plant, equipment as the fair value
Mr. Barry
A-level Accounting Year 12
Revaluation
• If a company decides to revalue one of its Non Current Assets it must apply that policy to all of the assets in that Class. (IAS 16)
• Revalue all assets in that class at the same time• If a non current asset is revalued – must use a
Revaluation Reserve
Dr AssetCr Revaluation Reserve
Mr. Barry
A-level Accounting Year 12
REVALUATION• Depreciation should always be on the
revalued amount.
Will also result in entries to the following BS Accounts:
1. Non Current asset (cost)2. Accumulated Depreciation
Mr. Barry
A-level Accounting Year 12
Revaluation
• If Company adopts the policy, must have a full revaluation every 5 years
• Interim revaluation in Year 3• Revalue to Market value• Details disclosed in Note to the accounts,
Original cost, revalued amount, dates, valuers & qualifications etc
• Examples
Mr. Barry
A-level Accounting Year 12
IAS 16 NB Example of depreciation on revalued asset• Fixed asset cost €3m in Year 2000• Useful economic life = 10 years• Revalued at end of Year 2002 to €3.3m
How is this treated in the accounts ?Also show entries for Year 2003.
Mr. Barry
A-level Accounting Year 12
Capital Expenditure
Money spent on the:• acquisition of non current assets • alteration or improvement of existing
NCA for the purpose of increasing the profit earning capacity of the business.
• Added to NCA in the Balance Sheet.
Mr. Barry