Financial accounting: Session One Ashish Pandey

(AS) 6 Depreciation Accounting

Depreciation: meaning & significance is a measure of the wearing out, consumption or other loss of value of a depreciable asset arising from use, effluxion of time or obsolescence through technology and market changes. Depreciation is allocated so as to charge a fair proportion of the depreciable amount in each accounting period during the expected useful life of the asset. Includes amortisation of assets whose useful life is predetermined Plays a significant role in determining & presenting the results of operations & financial position of an enterprise.

Depreciable assets are assets which are expected to be used during more than one accounting period; and have a limited useful life; and are held by an enterprise for use in the production or supply of goods and services, for rental to others, or for administrative purposes and not for the purpose of sale in the ordinary course of business.

Assessment of depreciation and the amount to be charged is based on (i) historical cost or other amount substituted for the historical cost of the depreciable asset when the asset has been revalued; (ii) expected useful life of the depreciable asset; and (iii) estimated residual value of the depreciable asset.

Methods of allocating depreciation most commonly employed in industrial and commercial enterprises are the straight-line method and the reducing balance method. The management of a business selects the most appropriate method(s) based on various important factors e.g., type of asset, The nature of the use of such asset and circumstances prevailing in the business.

Depreciation method SLM = Cost of asset-Estimated residual value expected useful life WDV Rate of dep= 1-n √estimated residual value cost of asset

The useful life of a depreciable asset is shorter than its physical life & is: (i) pre-determined by legal or contractual limits; (ii) directly governed by extraction or consumption; (iii) dependent on the extent of use and physical deterioration on account of wear and tear and (iv) reduced by obsolescence arising from such factors as: technological changes; improvement in production methods; change in market demand for the product or service output of the asset; or legal or other restrictions.

Depreciation method The depreciation method selected should be applied consistently from period to period. A change from one method of providing depreciation to another should be made only if the adoption of the new method is required by statute or for compliance with an accounting standard or if it is considered that the change would result in a more appropriate preparation or presentation of the financial statements of the enterprise.

Change in the method of depreciation When change in the method of depreciation is made, depreciation should be recalculated in accordance with the new method from the date of the asset coming into use. The deficiency or surplus arising from retrospective re-computation of depreciation in accordance with the new method should be adjusted in the accounts in the year in which the method of depreciation is changed.

Change in the method of depreciation In case the change in the method results in deficiency in depreciation in respect of past years, the deficiency should be charged in the statement of profit and loss. In case the change in the method results in surplus, the surplus should be credited to the statement of profit and loss. Such a change should be treated as a change in accounting policy and its effect should be quantified and disclosed.

Impairment of assets

impairment An enterprise should assess at each balance sheet date whether there is any indication that an asset may be impaired. If any such indication exists, the enterprise should estimate the recoverable amount of the asset.

Impairment loss It is the amount by which an asset’s carrying amount exceeds its recoverable amount Recoverable amount is the highest of Its fair value less costs to sell Its value in use

Evidence of impairment may be available from External indicators: technological, economic, adverse development in market Internal indicators: asset’s obsolescence, physical damage, asset becoming idle..