IGCSE Accounting Course Instructor: Manarat Ahmed

“Depreciation”Definitions:

i)Depreciation-

Depreciation can be defined as the fall in the value of a fixed asset due to use or elapse of time. It is a non-cash expense for the business.

ii)Fixed assets-

Fixed assets are assets which have a long useful lifetime and are bought with the intention of using them but not to resell them. E.g.- machinery.

Causes of depreciation:

(i)Wear and tear, (ii)Obsolescence, (iii)Erosion, rusting, rot and decay, (iv)Depletion, (v)Time factor

Methods of depreciation-

i)Straight line, (ii)Reducing balance , (iii)Revaluation (Opening value+ value used-closing value)

Methods of depreciation :a)Straight-line:

In this method, depreciation is calculated on the COST value

Advantages :

i) It is considered as the most popular method because of its simplicity and also because it is also easily understandable.

ii) No further calculations are required since the same figure of depreciation is charged every year.

Disadvantages :

i) The method is unrealistic as it is not possible to have the same amount of depreciation each year.

ii) Recalculation is required when new assets are bought.

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b)Reducing balance ( /diminishing balance) :

In this method, depreciation is charged on NET BOOK VALUE

NET BOOK VALUE = Cost - Provision for depreciation

Advantages :

i ) The method is more realistic since depreciation is charged more in early years.

ii) It shows an accurate residual or scrap value rather than showing a zero balance.

Disadvantages:

i) This method is complex and complicated to maintain in the books of accounts.

Definitions :Capital Expenditures :These are expenditures that are used to purchase fixed assets with the intention of not reselling them and which will bring benefit to the business for more than one accounting period.

e.g. purchase of machinery.Capital expenditure includes all the costs which are required to bring the machinery in its place which includes transportation and installation expenses.

Revenue expenditures :These are expenditures that are used to maintain the day-to-day expenses of a company and will bring benefit to the business for the current accounting period only.

e.g. rent expenses, electricity expenses, wages , salaries or any relevant expenses.

Concepts related to Depreciation :Prudence – it anticipates loss (provision for depreciation )

Consistency –ensures the use of a single method of depreciation within the same accounting period.

These accounting concepts are important to apply because it leads to the preparation of true and fair values of accounts (fixed assets and depreciation) which will be required by decision makers for evaluating financial statements (profit and loss account and balance sheet).

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Recording:

Dr. Fixed assets at cost A/C Cr.Details £ Details £

Balance b/d X Disposal (CP of the asset sold) XBank/creditors (addition of fixed assets)

X Balance c/d(balancing figure)

X

X X

Balance b/d X

(i)Profit and loss A/C- Dr.Provision for depreciation A/C - Cr.

Dr. Provision for depreciation A/C Cr.Details £ Details £

Disposal (depreciation of the asset sold)

X Balance b/d X

Balance c/d X Profit and loss A/C (Depreciation of this year)

X

X XBalance b/d X

Dr. Disposal A/C Cr.Details £ Details £

Fixed asset at cost(CP the asset sold)

X Prov. for depreciation(depreciation of the asset sold)

X

Bank / Debtor (SP of the asset sold) XP.L A/C (Gain on disposal) X P.L A/C (Loss on disposal) X

X X

iv) Profit and loss A/C:Details £ £

Gross profit XAdd gain on disposal X

XLess expenses: Depreciation X Loss on disposal X

(X)Net profit/Net Loss X

Balancing figures vary from question to question.

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