Balance Sheet Depreciation
What is Accumulated Depreciation on the Balance Sheet?
When a business purchases an asset, its cost is recorded on the balance sheet. Over time, as the asset is used and worn down, it loses value. This loss in value is called depreciation. Accumulated depreciation is the total depreciation applied to an asset throughout its existence. This figure appears on the balance sheet as a deduction from the total cost of the asset.
You can find the net book value on the balance sheet by subtracting accumulated depreciation from the total asset cost. This figure represents how much the company would receive if it sold the asset today.
Why is Accumulated Depreciation Important?
Accumulated depreciation is necessary because it shows how much value an asset has lost over its lifetime. This information can help assess a company’s financial health and measure its profitability. It can also help decide whether to keep or sell an asset.
Depreciation is shown on the company’s financial statements.
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 in accounting.
What is the Balance Sheet?
The company’s balance sheet is one of the most important financial statements. It shows a snapshot of the company’s assets, liabilities, and owner’s equity at a specific point in time. The balance sheet is always balanced, meaning the total assets must equal the total liabilities and equity.
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.
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 accumulated depreciation is calculated by subtracting the salvage value (residual value) from the asset 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 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 of an asset is the amount of money the company expects to receive when it sells the asset. This value is usually lower than the original purchase price of the asset.
The salvage value is essential in calculating the depreciation expenses that will be taken on an asset over its lifetime.
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 been using 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.
Conclusion on Accumulated Depreciation
Balance sheet depreciation calculates the decrease in the value of an asset over its useful life. It also calculates the amount of depreciation expense that will be recorded on the balance sheet for each year of the asset’s life. Several methods are available to calculate depreciation, but the two most common are straight-line and reducing balance.
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