Depreciation

Study Notes

Depreciation is the systematic allocation of the cost of a non-current asset over its useful economic life, reflecting the reduction in value due to usage, wear and tear, or obsolescence.

• Non-Current Assets — resources owned by a business expected to provide economic benefits for more than one accounting year. Example: Machinery, vehicles, buildings, and equipment.
• Depreciation — the systematic allocation of an asset's cost over its useful life. Example: A machine costing $10,000 with a$2,000 residual value depreciates $2,000 annually over 4 years using the straight line method.
• Straight Line Method — charges equal depreciation amounts each year. Example: Annual depreciation = (Cost - Residual Value) / Useful Life.
• Reducing Balance Method — applies a fixed percentage to the declining book value each year. Example: A vehicle costing $10,000 depreciates$2,000 in the first year at 20%.
• Accumulated Depreciation — total depreciation accumulated over an asset's life. Example: If annual depreciation is $2,000, accumulated depreciation after 3 years is$6,000.

Exam Tips

Key Definitions to Remember

• Non-Current Assets: Long-term resources providing economic benefits beyond one year.
• Depreciation: Allocation of an asset's cost over its useful life.
• Straight Line Method: Equal depreciation each year.
• Reducing Balance Method: Depreciation based on a fixed percentage of declining book value.

Common Confusions

• Confusing straight line with reducing balance methods.
• Misunderstanding the impact of depreciation on profit.

Typical Exam Questions

• What is the annual depreciation using the straight line method for a machine costing $50,000 with a$5,000 residual value and a 9-year life? $5,000
• Equipment with a book value of $12,000 is sold for$15,000. What is the result? Profit of $3,000
• A vehicle cost $20,000 and has accumulated depreciation of$8,000. It is depreciated at 25% per year using reducing balance. What is the depreciation for the current year? $3,000

What Examiners Usually Test

• Understanding and application of depreciation methods.
• Calculation of depreciation and its impact on financial statements.
• Journal entries for recording depreciation and asset disposal.