Topic 10 - Depreciation Flashcards
(14 cards)
What are non-assets?
- Assets of material value
- Have a long life
- Are used in the business
- Were brought in the business and not with the purpose of resale
What is depreciation?
The decrease in value of a non-current asset due to use and/or passage of time.
What are the 4 causes of depreciation?
- Physical deterioration
- Wear and tear
- Erosion/rust/rot/decay - Economic factors
- Obsolescence
- Inadequacy - Time factor
- Depletion
What are the several factors used to estimate the total depreciation of a non-current asset?
- Useful life of the asset
- Usage
- Scrap/residual/disposal value
What is the straight line method?
Charging an equal amount as depreciation each year of the useful life of the asset.
When do we use the straight line method?
This method is used where each year is expected to benefit equally from the use of the asset.
What is the reducing/diminishing balance method?
Calculating the annual depreciation by applying a fixed percentage on the carrying value which diminishes each year.
When do we use the reducing/diminishing balance method?
This method gives a higher value of depreciation in the early years of the life of an asset and is used where the greater benefits from the use of the asset will be gained in the early years of its life.
When is it more suitable to use the straight line method over the reducing balance method and vice versa as well as some examples??
Straight line method:
- Suited to assets that have an even use over their life
- Equal amounts of depreciation match the equal benefit received
E.g. office equipment, furniture
Reducing balance method:
- Suited to assets that have a heavier fall in value in earlier years
- Suited for assets that become out of date quickly
- Where repair/maintenance costs increase over life
E.g. machinery, motor vans
Why do firms account for depreciation?
In their effort to show a true and fair view of their financial circumstances.
Which accounting concepts does depreciation follow and how?
Consistency concept: Using the same depreciation method and percentage allows direct comparison between financial statements of different years and firm can monitor its performance better.
Accruals concept: The benefit achieved from the use of a non-current asset over its economic life is matched with the depreciation for the same period.
Prudence concept: Estimated losses should be provided so we don’t overstate the value of NCAs and profit for the year.
What is the effect of depreciation on the financial statements?
- Income statement
- Expense so profit for the year decreases - Statement of financial position
- Non-current asset value is reduced by accumulated depreciation
- Reduced profit for the year reduces capital
What is disposal?
When an asset is sold, destroyed or simply thrown away we need to remove it from our books.
What do we remove from our books during disposal?
- The asset itself
- The accumulated provision for depreciation that exists in the books for this asset
- Settle any other related issues
