What is depreciation in accountancy? #
Depreciation is the process of allocating the cost of a tangible asset over its useful life. It is a non-cash expense that is used to account for the decline in value of an asset over time. Depreciation is used to account for the decline in value of assets such as buildings, equipment, and vehicles. The cost of the asset is spread out over the years in which it is expected to be used, rather than being expensed all in the year the asset is acquired. Depreciation is a way of matching the cost of an asset to the income it generates.
Show me an example of depreciation #
For example if you bought a machine tool for $20,000 and expected it to last 5 years in use then you could depreciate it by $20,000 / 60 per month = $333.34.
When the machine is purchased the balance sheet value is unchanged by the transaction, cash simply turns into an asset of the same value, but then each month the depreciation $333.34 is charged to the P&L as an expense and the value of the asset is reduced by the same amount, hence after 5 years the machine is fully ‘written off’ ..
This has the effect of spreading the cost of the machine across its active life which is a more accurate way of recording its cost.