Depreciation is an essential concept of accounting which every student must acknowledge and be aware of. If there is a reduction in the value of particular assets owing to decrement and the discontinuance of technology, it is known as depreciation. It is an expense in relevance to the profit and loss account by the end of the year.
This method of depreciation charge is precisely termed as Declining Charge Method. To derive the formula, the behavioural aspects of the assets for a definite period are taken to account. Following these methods, the depreciation sum is sure to reduce every successive year.
Charging Depreciation - Declining Charge Method
These methods are generally implemented when the receipts from the particular assets are on the verge of decline. In this case, modifying the depreciation charge for the asset turns out to be mandatory in order to meet the exact earning.
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Methods Falling Under Charging Depreciation
There are three methods of depreciation charges that come under this category.
Diminishing Balance Method
Sum of years' Digit Method
Double Declining Method
Now we will be seeing in detail the significance and concept of the Diminishing Balancing Method.
Diminishing Balance Method
As per the diminishing balance method, depreciation is charged on a particular percentage, in relevance to the asset’s book value, turning up in the balance sheet. There’s a book value reduction in the sheet every subsequent year. Therefore, it is also named Reducing Balance Method or Written Down Value Method i.e., loss of charge method.
Owing to the reduction of book value every year, there’s a decrease in the depreciation expense as well. Therefore, the value of the concerned asset is never directed to zero.
Advantages of Diminishing Balancing Method
The Diminishing Balancing Method comes with its advantages. They are listed below.
Every year there’s a decrease in depreciation, giving rise to repair expenses. Thus, the method poses an equal burden on each year’s profit.
With the aid of this method, depreciation is charged on, with relevance to the Income Tax Act.
A significant part of the depreciation charge is evaluated at the beginning of the year. Hence, it gets easier to replace the asset.
Disadvantages of Diminishing Balancing Method
However, the Diminishing Balancing Method isn't devoid of cons as well. The same is detailed here.
Following this method, it gets tough to correctly evaluate the figures for charging depreciation. It often appears to be an incomplete Depreciation of the full asset.
The figures of the asset never direct to zero.
With this method of Diminishing Balancing, it is not possible to evenly spread the Depreciation throughout the assets' life.
Every year, the depreciated rate is drafted as a percentage. It is known as the depreciation rate. The formula for Depreciation charge is presented as, 2*straight line*book value during the starting of the accounting period.
Did You Know?
Here are some of the most amazing facts about Depreciation that you would be surprised to see.
Assets such as land, stocks, sums, building, investment, etc., can’t be depreciated.
Diamonds, some particular brands' watches and more, don't lose their value.
Car is a depreciating asset and loses value as time goes.
Expenses are always better than Depreciation.
BMW 5 series, is the super fastest depreciating asset.
1: How Many Types of Assets are There?
Assets are regarded as a particular element, which is liable for investment and has value as well. Suppose a particular sum such as stocks is said to be an asset. Whereas, your personal properties like house or even bank account are assets too. Depreciation is charged on the assets.
There are three categories of assets.
Tangible and intangible assets.
Current and fixed assets.
Operating and non-operating assets.
The assets' category is variable depending on their nature and type. Stocks or sum belongs to a particular category, whereas savings account or personal property such as a car belongs to the other.
Now we will be going through some of the common questions that people often face while solving Depreciation queries.
1. What is Meant By Useful Life in Depreciation?
Ans. The concept and application of depreciation are very large as it has multiple layers associated with it. One common question faced by us while answering common Depreciation queries is the significance of useful life. The life of an asset means the estimation of the time the property will be purposeful in generating impactful revenue. A useful life span is estimated by the Internal Revenue Service (IRS) to state the period as when the Depreciation is charged on the asset. Assets are categorized into three stages, i.e. tangible and intangible, fixed, which are followed by operating and non-operating assets.
2. What is the Meaning of Depreciation?
Ans. The method of depreciation is used in various industries as it is an essential element which helps to determine the value of a specific asset during a particular period. The most important concept to understand is what Depreciation means. The monetary value of a particular asset is liable to reduction, owing to the decrement over the years of usage. On the other hand, appreciation is the exact opposite of Depreciation that increases the value of the particular asset, in the due time. Depreciation is charged on the particular asset value. This is what we understand by the meaning of depreciation in accounting.