Depreciation Accounting for Fixed Assets

Depreciation accounting is writing off a proportion of the fixed assets to the balance sheet over a period. Most assets are typically depreciated over 3 or 5 years, depending on the type of asset.

An example is a business purchasing a computer for 600. If the company records it as an expense in the profit and loss account, the whole 600 is recorded in the profit and loss account. However, if the item is depreciated over three years using the straight-line method, only 200 will be posted as an expense each year.

Fixed assets include items like furniture, computers, and machinery that have a useful life of more than one year.

Intangible assets (non-physical items) are also depreciated. Intangible assets included things like patents, trademarks and copyright. Depreciation is likely to be over a much longer period for these items.

Depreciation Accounting Methods

There are two main methods which your business can choose to depreciate the asset:

• Straight line depreciation
• Depreciation Reducing balance method

Once your company has decided which method to use, it is worth using the same process each year. To determine which method to use, you must look at whether the asset will depreciate quickly to start or lose the same value each year. If you are unsure which method your company should use, you may need to speak to your accountant.

There are also other methods, but these are the main ones that small businesses use.

Software Depreciation

There are specific software packages for calculating depreciation. If you are using accounting software, check to see if it has this feature; it may save you time. We have also developed a depreciation schedule, which you can download and use.

Xero has an excellent asset and depreciation feature. When you set up an asset, you can set the depreciation rate. It will then calculate it for you and post the figures to the accounts. It saves keeping separate records.

How to calculate depreciation

If you are having problems calculating your depreciation, why not use one of the depreciation calculators? You will need to know which method you are planning to use, the cost of the assets, and their useful life.

There are two calculators for the main methods of straight line and reducing balance. The image to the right shows the straight-line method. Enter the value of the fixed asset and the number of years to depreciate. The calculator will provide both depreciation per year and month.

Accounting for Depreciation

In your accounting records, when you purchase a fixed asset, you will need to post the value of the fixed asset to the balance sheet in the accounts. You can post the depreciation value to the balance sheet on either a monthly basis or annually. The fixed asset will then reduce in value over a period.

As with all double entry, there has to be a second posting to the accounts. The profit and Loss account also has expense depreciation. It will reduce the profit for the year and, therefore, your tax bill.

Depreciation Accounting Example

Company ABC purchases a new computer costing £498. The computer has a useful life of 3 years, and the company uses the straight-line method.

The monthly depreciation figure is £498 divided by 3 equals £166 per year.

Balance sheet for ABC 1st year

Balance sheet for ABC 2nd year

Balance sheet for ABC 3rd year

As you can see from the above example of depreciation accounting, the asset’s value is zero at the end of the third year.

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