Depreciation Flashcards
Define depreciation.
Depreciation is a charge against profit. It measures the wear and tear, consumption or usage of a NCA. Its purpose is to spread the cost of a NCA, over its useful economic life.
Its accounting treatment is based on the accruals concept. The cost of a NCA is allocated over its useful life to match the expenditure to the benefits and revenue it generated.
Why is land not depreciated
Land is assumed to have an unlimited useful life, and therefore it is not depreciated. Land is not consumed and therefore no depreciation is required.
The business may decide to use the revaluation model for the asset valuation of land. Professionals (architects) are engaged to value the land and property (company accounts).
Why is the reducing balance used for motor vehicles or machinery?
The reducing balance method charges a higher depreciation in the early years. Since, motor vehicles of machinery generate higher benefits in early years, they should be depreciated by this method. The depreciation charge is matched to the revenue that the asset generates - accruals concept.
Why is the machine hour method or units of output method used for machinery?
In the case of machinery, wear and tear may result from the activity undertaken rather than time. Therefore, machine hour method/units of output methods are appropriate to measure depreciation as these methods are usage based rather than time based.
Why is the depreciation account has a credit balance?
The accumulated allowance has a credit balance, as it reduces the size of the NCA. Therefore, it must be credited to reflect such reduction.
