Meaning of Depreciation
meaning of depreciation
depreciation is permanent , continuing and gradual reduction in the book value of the fixed asset due to normal wear and tear, passage of time , obsolescence or any other similar cause
some of the important definitions of depreciation are :
- depreciation is the gradual decrease in the value of an asset from any cause
- it is the permanent and continuous diminution in the quality, quantity or value of an asset
- depreciation represents loss or diminution in the value of an asset consequent upon wear and tear, obsolescence , effluxion of the or permanent fall in the market value
Characteristics of Depreciation:”
- it is related to depreciable tangible fixed assets only,
- it is a fall in the book value of a depreciable tangible fixed asset,
- it is a permanent , continuous and gradual shrinkage in the book value of the asset.
- the fall in the book value of an asset is due to the use of the asset in business operations, effluxion of time, obsolescence , expiration of legal rights or any other, cause,
- it is a systematic allocation of cost of an asset on the basis of its useful life,
- it decrease only the book value of the asset, not the market value,
- it is a non-cash expense, there is no cash outflow,
objectives or Necessity for providing Depreciation”
the following are the objectives of providing depreciation,
- to Ascertain the true and fair view of the Results of the operations: To find out the net profit for an accounting period, we add the revenues of that period and deduct all the expenses incurred in that period for earning those revenues, one such expense is the portion, of the cost of the fixed assets, that has expired during the year, (i:e Depreciation) unless, depreciation is charged, the true profit of a particular period cannot be ascertained
- To present a true and fair view of the financial position of the business: the assets must be valued correctly and shows in the balance sheet, unless depreciation, is charged , the assets may be overstated in the balance sheet,
- To ascertain the true and fair view of the cost of production: Depreciation should be taken into consideration for calculating the cost of production, if it is not done, the cost records would not give a true and fair view of the cost of production,
- To make provision for Replacement of an asset: if depreciation is not provided, the profit of the concern will be overstated and can be distributed amongst the shareholders as dividend, after the end of the working life of the asset, there will be no provision, or funds at the disposal of the concern and it would have to borrow for acquiring the new assets for the replacement of an asset, depreciation must be provided,
- To comply with legal Requirements: In case of companies, it is compulsory to charge depreciation on the fixed assets before dividends is declared,
- profit or loss on sale: A fixed asset to be sold at the end of its useful life or many be even before, if depreciation is not provided, the written down value of the asset cannot be ascertained, in effect, the profit or loss on sale of the asset cannot be determined,
what is Depletion:
the term depletion is used in relation to natural resources or wasting asset like quarries , mines oil wells etc, indicating their physical deterioration or exhaustion of natural resources, as the resources is extracted or removed from the land, its asset value would fall or exhaust, such a reduction in the value of an asset which results from production is called depletion”
what is Amortization:
it refers to loss of economic value of intangible asset like patents, trade mark,goodwill ,copyright etc, some intangible asset have limited useful life and are therefore written off and removed from the list of asset. the process of writing off such asset is called amortization
what is Obsolescence
the term obsolescence refers to the decline in the economic value of the asset due to such factors as the invention of new technique or equipment, change in taste or fashion etc, or inadequacy of the existing fixed asset to produce more to meet the increased demand