Balance Sheet Depreciation

What is Accumulated Depreciation on the Balance Sheet?

Buying something for your business, like a computer or furniture, goes on your company’s balance sheet as an asset. But over time, that item wears out or loses value. This drop in value is called depreciation.

On your balance sheet, this is shown as accumulated depreciation. Accumulated depreciation reduces the original cost of the asset, so you can see what it’s worth today—this is called the net book value. It impacts both the asset’s reported worth and its representation in the overall company’s financial statements by adjusting its value downwards through a contra asset account.

Understanding balance sheet depreciation helps you keep track of what your assets are really worth and gives a clearer picture of your business’s finances.

Introduction to Depreciation

When you buy something expensive for your business, like a computer, van, or piece of machinery, you don’t immediately count the full cost as an expense. Instead, you spread that cost over the time you expect to use the item. This process is called depreciation.

Depreciation shows how much value an asset loses yearly as it ages or wears out. You record this as a depreciation expense in your accounts. Even though no money leaves your bank account, depreciation still helps you show a more accurate profit for your business.

Why is Accumulated Depreciation Important?

Accumulated depreciation helps you understand how much value your assets have lost over time. Here’s why it matters:

• Reduces taxable profit – Depreciation is a business expense which can reduce the tax you owe.
• Shows the real value of assets – You can see what your equipment or other items are worth today, not just what you paid.
• Keeps your balance sheet accurate – It updates the value of your assets, so your accounts reflect their current worth.
• Helps with budgeting and planning – Knowing when an asset is losing value lets you plan when to repair or replace it.

Accumulated Depreciation Double Entry

When a company records accumulated depreciation on the balance sheet, it also creates a depreciation expense on the income statement.

It is part of the double-entry system in accounting.

What is the Balance Sheet?

A balance sheet is a financial report showing what your business owns and owes at a specific time. It’s split into three main parts:

• Assets – what your business owns (like cash, equipment, and vehicles)
• Liabilities – what your business owes (like loans and bills)
• Equity – what’s left for the owner after subtracting liabilities from assets

The balance sheet always follows this formula:
Assets = Liabilities + Equity

One key part of the balance sheet is fixed assets, such as equipment or machinery. Over time, these assets lose value. This decrease in value is shown as accumulated depreciation—the total amount of depreciation recorded over the asset’s life.

For example, if you bought a van for £10,000 with £4,000 in accumulated depreciation, the balance sheet will show the van’s value as £6,000 (called the net book value).

Including accumulated depreciation helps show a more accurate value of your assets and gives a true picture of your business’s financial health.

What is the Income Statement?

The income statement, or Profit and Loss statement, is the other most important financial statement a company produces. It shows the company’s revenues and expenses for a set period, such as a week, month, or year.

The income statement measures the company’s financial performance over a period. Depreciation is shown on the income statement as an expense. Depreciation is classified as an operating expense, while a non-cash expense impacts both the income statement and cash flow statement by reducing taxable income and affecting the company’s reported profit.

Calculating Depreciation Using Accounting Software

Xero Accounting Software simplifies depreciation for your business by automating the calculations. You input the asset’s purchase price, estimated usable life, and any expected salvage value at the end. Xero then uses this information to calculate a depreciation rate and spreads the cost of the asset over its useful life.

This provides you with accurate depreciation figures, which are automatically reflected in your financial reports. This saves you time and ensures your books are compliant with accounting standards. Most other software requires depreciation to be entered as a journal.

How is Accumulated Depreciation Calculated?

The asset’s accumulated depreciation is calculated by subtracting the salvage value (residual value) from the asset’s cost and then calculating the depreciation on the balance sheet. This calculation is done for each year that the asset is in use. The total accumulated depreciation over the asset’s lifetime is on the balance sheet.

An example of net value is as follows:

A business purchases a computer fixed asset at 700.00 after three years of useful life; it expects the salvage value of net book value to be 100.00. The value at which the computer is depreciated is 700.00 – 100.00 = 600.00

We will look at different ways to depreciate an asset later.

What is the Useful Life of Assets?

The useful life of a fixed asset, often referred to as the asset’s life, is the period during which it is anticipated to be valuable to the firm. This period is calculated in months or years. The useful life of an asset is different for each company. It depends on many factors, such as the type of asset, its operating environment, and the asset’s maintenance schedule.

Different types of assets have different useful lives. For example, a piece of heavy equipment might have a longer useful life than a laptop.

What is the Salvage Value

The salvage value, also known as the residual value, is the estimated value of an asset at the end of its useful life. It is an essential component in calculating depreciation expense, as it represents the amount the asset is expected to be worth after it has been fully depreciated.

Management typically estimates salvage value based on factors such as the asset’s condition, market demand, and technological advancements. The salvage value is used in the straight-line depreciation method to calculate the annual depreciation expense, ensuring the asset’s cost is spread evenly over its useful life.

What is the Net Book Value of an Asset?

The net book value of an asset is the total cost of the asset minus the total accumulated depreciation. This calculation shows how much the company would receive if it sold the asset today. The net book value figure is on the balance sheet and calculated by subtracting the accumulated depreciation account from the total cost of the asset.

What are the Different Depreciation Methods?

There are several different methods to calculate depreciation. The most common is the straight-line depreciation method. This method calculates depreciation by dividing the total cost of the asset by the number of years of the asset’s useful life.

The straight-line depreciation method is the simplest and most often used method. It results in a constant rate of depreciation each year.

Another common method is the reducing balance method. This method calculates depreciation by multiplying the balance of the asset by a depreciation rate. As depreciation is applied, the asset’s total value decreases each year.

The reducing balance method depreciates assets more in the early years and less in the later years.

The double-declining balance depreciation method calculates depreciation by multiplying the straight-line rate by two. This method results in a higher depreciation rate in the early years of the asset’s life.

The sum-of-the-years’-digits depreciation method is another way to calculate depreciation. This method calculates depreciation by dividing the total cost of the asset by the sum of the asset’s life.

The sum-of-the-years’-digits depreciation method is for assets that lose their value slowly, such as buildings.

This article will examine the two most used, straight-line and reducing balance.

How to Calculate the Amount of Depreciation for a Period

The first example we will look at is office furniture using straight-line depreciation.

The business purchased furniture at 1000.00 and expects it to have an asset life of 5 years. At the end, they expect the asset value to be 0.

The calculation is 1000 / 5 = 200 per year or 16.66 per month.

This amount will be posted to each period’s accumulated depreciation and depreciation expenses.

The second example is for a computer using the reducing balance method.

The business expects the value to reduce significantly in the early years, so they use 50% depreciation over 4 years.

		Depreciation	Accumulated Depreciation
Year 1	600 x 50%	300	300
Year 2	300 x 50%	150	450
Year 3	150 x 50%	75	525
Year 4		75	600

As you can see from the above example, the balance is posted in the final year to ensure the asset is fully depreciated.

Depreciation Calculators

To help calculate your figures, use our depreciation calculator; enter a few simple details, and it will calculate your depreciation.

We have two calculators available for straight line and reducing balance depreciation methods.

Depreciation Expenses Template

We also have a template to calculate all your depreciation expenses over ten years. It is simple to use; enter the asset details, purchase value and number of years to depreciate it, and it will calculate the figure year by year.

It is for straight-line depreciation and shows the accumulated depreciation for each asset and the total depreciation expense for the year.

[maxbutton id=”2″ url=”https://www.businessaccountingbasics.co.uk/depreciation-schedule/” text=”Depreciation Schedule” ]

Balance Sheet Depreciation Example

Business ABC owns furniture, which costs £540 when purchased. The business has used the straight-line depreciation method for over three years and has owned the furniture for 12 months.

Monthly depreciation is posted to expense on the Profit & Loss at £15 per month.

The balance sheet accumulative depreciation is the figure for 12 months and is £180.

Fixed Assets	540
Accumulated depreciation	180
Value of fixed assets	360

Intangible Assets

Depreciating intangible assets is called amortisation. These include intellectual property, patents, goodwill, and software developed.

The process is the same as balance sheet depreciation; however, intangible assets are generally depreciated over a longer timeline. For example, patents are often valid for 20 years, so the depreciation would be spread over this time.

There are also times when intangible assets are not amortised. An example of this is goodwill, which should be reviewed and adjusted.

Frequently Asked Questions (FAQ)

Where does depreciation appear on financial statements?

Depreciation appears in two places:

• Income Statement (Profit and Loss) – as a depreciation expense
• Balance Sheet – as accumulated depreciation account under fixed assets

Is depreciation a cash expense?

No. Depreciation is a non-cash expense. It reduces your profit on paper but doesn’t involve any money leaving your business.

How does depreciation affect my balance sheet?

It lowers the value of your assets through accumulated depreciation. This gives a more realistic picture of what your assets are worth today.

Conclusion on Accumulated Depreciation

Accumulated depreciation is an essential part of your accounts. It shows how much value your assets have lost over time and helps you see their current worth on the balance sheet.

By recording depreciation each year, you spread the cost of assets fairly, reduce your taxable profit, and keep your financial statements accurate. Whether using straight-line or reducing balance, tracking accumulated depreciation gives a clearer picture of your business’s financial health.

Return from balance sheet depreciation to the balance sheet page.