Accumulated depreciation

The cumulative depreciation of an asset up to a single point in its life. Regardless of the method used to calculate it, the depreciation of an asset during a single period is added to the previous period’s accumulated depreciation to get the current accumulated depreciation. 

An asset’s carrying value on the balance sheet is the difference between its purchase price and accumulated depreciation.

Entry mentioned by you is correct & it depens on company to cacculate depn monthly, quartely or yearly.. If the company is listed than the company have to provie quarterly statement to the SEBI for which depreciation need to be calculated upto that quarter.

But generally depreciation entry will be passed at the enf of the year.

There are two ways of showing depreiation. One is by creating accumulated depreciation acclount & showing the Cost of the asset less acc dep in the B/S.  Other is by debiting deprn & credting asset.

In case of large business concerns the first method is followed.  this method is also useful as it hows the original cost of the asset, the accumulated dperecation and the  book value of the asset.  In case of small business concerns they directly deduct dpern from asset account.  

First of all, let me clarify that entry for depreciation is passed only at the end of the accounting year and not every month.  While passing journal entry for depreciation if you maintain Accummulated Depreciation account, then instead of crediting the asset account, you credit accumulated depreciation account.  Either at the time of sale of asset or on total depreciation of asset, amount standing at the credit of accummulated depreciation account is transferred to the credit of asset account.  The journal entry is 

Accummulated Depreciation A/c Dr.

   To Asset Account

In this method the Asset is shown in the balance sheet t its original value and balance in the accumulated depreciation is shown as a deduction from the asset account.

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Hi Ramesh, first of all you need to know that there are 2 methods of recording assets. 1. Net method 2. Gross method in net method we show the assets at there written down value method (Book Value - Depreciation) and journal entry is Depreciation a\c dr to Fixed asset a\c but in case of gross method assets are shown at there transaction value, means the price at which they were purchased, and journal entry for depreciation is what you said Depreciation a\c dr to accumulated depreciation a\c and further fixed assets is shown in balance sheet like this. fixed asset xxxxxx less: accumulated depreciation xxxxxx ------ net fixed assets xxxxxx

Hi-

 

Deducting it from fixed asset or showing it as a liability is the same thing?

 

Yes. Because the net effect is the same.

Why we create accumulated depreciation account instead of charging depreciation to asset every year . Is there any specific reason to create accumulated depreciation account?

Request every one please read all the details below to know in and outs of Accumulated depreiation.

Before this question is answered specifically it will be good if we clear an important connected concept of historical cost.

According to historical cost concept, assets are recognized and reported in the financial statements at the amount that were paid at the time of acquisition of the asset. And this amount remains unchanged for years to come to let users of financial statements know the price at which asset was bought.

The basic intention, in short, is to keep the information regarding the cost of acquisition paid back in time (historical cost).

Second relevant concept of this discussion is depreciation. Depreciation is a systematic allocation of cost of the asset over useful life of asset. The basic intention behind recognizing depreciation is to ensure reliability of information and this is done by reducing the value of asset at the end of each accounting period where reduction in value of assets equates the benefits extinguished or the extent to which asset has exhausted. And by the end of useful life of asset, asset will be completely exhausted and thus all of its value will depreciated as well.

Now connecting these two dots together we understand that the cost of the asset represents the value at which it was bought and depreciation represents the value of benefits consumed in particular period.

Now basic understanding says that as depreciation is the reduction in value therefore, credit the asset account. This way, the net result will be reported in the statement of financial position that shows the actual value of asset by the end of accounting period. Accounting the depreciation such way is not wrong, however, it has one major discrepancy. The problem is that after few years of depreciation recognized straight in the asset account, users of financial statements will have no idea about the value at which asset was originally purchased.

To solve this problem, instead of crediting the asset account directly a separate account is opened and the credit effect of depreciation is recorded in this new account named Accumulated Depreciation account. Accumulated depreciation account is not a temporary account and therefore, will not be closed at year rather balance in it will be carried forward from one year to other. And every year’s depreciation will be credited in this account and therefore, depreciation accounted for over time will get accumulated in this account and hence accumulated depreciation account. 

 

This way the asset account remains unchanged, depreciation expense is recorded as usual in the income statement but in the balance sheet the year end balance of accumulated depreciation account is deducted from asset account and this way user can access three major information:

• cost at which asset was originally bought
• amount of depreciation related to asset accounted for until specific balance sheet date
• Book value of asset – which is a net result after deducing accumulated depreciation from cost of the asset

Accumulated depreciation account in itself is NOT an expense account rather it is more of an asset account of opposite nature (credit nature) and the right word that best describes such account is contra asset account as it counters or is an inverse of the asset account.

1. Depreciation is a charge against P&L and not appropriation

2. Accumulated depreciation account is meant for Replacement of Asset, Otherwise , to the extent, fund will be available freely and chances of being distributed as dividend.

Now my question is if we show this as contra asset , then the working capital will be correct?( Current assets minus current liability)

How to replace the asset if we don't have the fund?. 

 

Hi- Many thanks for the explanation.

i have one more question- what is the role of provision of depreciation when we are accumulating depreciation. What will be the journal entry?

because we deduct provision for depreciation from asset in balance sheet.

Hi, 1) Provision for depreciation and Accumulated depreciation both are same.

2)The word Accumulated depreciation assumes that, you are passing the journal entry at the end of the year only not at different time intervals in a year. 3) if you pass the journal entry every month end, then, Accumulated depreciation concept will not come in this scenario. 4) If you pass the Journal entry every month end and suppose any outsider, investor or income tax officials want to know the value of the asset looking at the balancesheet after 4 or 5 months, they may not come to know the historical cost of the asset.5) If we consider depreciation has to be debit, then reverse of the same, that is accumulated depreciatin will be credit.6) Because the depreciation is relating to any asset it could be, its assocaited depreciation that is (accumulated depreciation) amount should be shown in the assets side of the balance sheet as a contra asset. Here the word contra means opposite. 7) Because i am not passing journal entry every month end, but directly i am passing the journal entry at the end of the year, relating to that particular asset thats why i have given the name as "Accumulated depreciation" and directly deducting from the value of that particular asset only.

Thanks

Reddy

1. If possible keep aside all the book definitions till we better understand the basic concept.

At the time of passing entry for depreciation or calcualting the value of depreciation, we might aware of that, by that time, we might have not known the Netprofit yet.

2. The whole and sole purpose of Accumulate depreciation is not meant for replacing an asset. just to know what is the value of the cost at the time of buying the asset and its status towards consumption represented by number of years or some period of time till to date 

3. The words you have used Working capital, fund avaialble, dividend here you have t read again the basic concept when to say transaction and when to say an event. Here we have to understand first how to account for particular transaction and the event would effect any statement as per its substance.

Please reply me if you still not not understand i will come up with few more powerful explanations

Thanks&Regards

Reddy