Depreciation refers to that portion of the value of an asset that is written off over the useful life of the asset due to wear and tear. Now, when we talk about depreciation, there are multiple methods to calculate depreciation such as: Straight Line Depreciation Method Diminishing Balance Method OrRead more
Depreciation refers to that portion of the value of an asset that is written off over the useful life of the asset due to wear and tear.
Now, when we talk about depreciation, there are multiple methods to calculate depreciation such as:
Straight Line Depreciation Method
Diminishing Balance Method Or Written Down Value Method
Sum of Years’ Digits Method
Double Declining Balance Method
Sinking Fund Method
Annuity Method
Insurance Policy Method
Discounted Cash Flow Method
Use Based Methods
Output Method
Working Hours Method
Mileage Method
Other Methods
Depletion Method
Revaluation Method
Group or Composite Method
The most commonly used methods are discussed below:
1. Straight Line Depreciation Method: This is the simplest method for calculating depreciation where a fixed amount of depreciation is charged over the useful life of the asset.
Formula:
Suppose a company Bear Ltd purchases machinery costing 8,00,000 with useful life of 10 years and salvage value 1,00,000. Then depreciation charged to the machinery each year would be:
2. Diminishing Balance Method Or Written Down Value Method: Under this method, a fixed rate of depreciation is charged every year on the opening balance of the asset which is the difference between the previous year’s opening balance and the previous year’s depreciation. Here the book value of asset reduces every year and so does the depreciation amount.
Formula:
Suppose a company Moon ltd purchases a building for 50,00,000 with a useful life of 5 years and decides to depreciate it @ 10% p.a. on Diminishing Balance Method. Then depreciation charged to the machinery would be:
3. Sum of Years’ Digits Method: In this method, the life of asset is divided by the sum of years and multiplied by the cost of the asset to determine the depreciating expense. This method allocates higher depreciation expense in the early years of the life of the asset and lower depreciation expense in the latter years.
Formula:
Suppose a company Caps Ltd purchases machinery costing 9,00,000 having a useful life of 5 years. Then the depreciation cost would be:
4. Double Declining Balance method: This method is a mixture of straight-line method and diminishing balance method. A fixed rate of depreciation is charged on the reduced value of the asset at the beginning of the year. This rate is double the rate charged under straight-line method.
Formula:
Suppose a company Paper Ltd purchases machinery for 1,00,000 with an estimated useful life of 8 years. Then the depreciation rate would be:
Straight line = 100%/8 = 12.5%
Double declining method= 2*12.5% = 25%
5. Sinking Fund Method: Under this method, the amount of depreciation keeps on accumulating till the asset is completely worn out. Depreciation is the same every year. Profits equal to the amount of depreciation is invested each year outside the company. At the time of replacement of the asset the investments and sold and the proceeds thereof are used to purchase the new asset.
6. Annuity Method: This method calculates depreciation by calculating its internal rate of return (IRR). Depreciation is calculated by multiplying the IRR with an initial book value of the asset, and the result is subtracted from the cash flow for the period.
7. Use Based Methods: Depreciation, under these methods, is based on the total estimated machine hours or total estimated units produced during the life of the machine. It is calculated by dividing the cost of the machine by the estimated total machine hours or estimated lifetime production in units and multiplying by the units produced or machine hours worked.
Formula:
Suppose a company Box Ltd purchases machinery for 25,000 (estimated life 5 years) whose estimated life production is 5,000 units. If it produces 700 units in the first year of operation then depreciation cost would be:
Fictitious assets can be defined as those fake assets which save revenue for the company. These do not exist physically but also do not qualify as intangible assets. These are merely the expenses or losses that are not fully written off in the accounting period in which they are incurred. These expeRead more
Fictitious assets can be defined as those fake assets which save revenue for the company. These do not exist physically but also do not qualify as intangible assets. These are merely the expenses or losses that are not fully written off in the accounting period in which they are incurred. These expenses are amortized over a period of time.
These assets do not have any realizable value except for the cash outflow. These are created to delay the recognition of the expense and defer it to future periods.
Fictitious assets actually qualify as an expense but are treated as assets only for the fact that they are expected to give returns over a course of more than one year. Examples are Advertisement expenses, preliminary expense, etc.
Treatment
Fictitious assets are shown on the assets sideof the balance sheet under the head miscellaneous expenditure. A part of these expenses are shown in the profit and loss statement and the remaining amount is carried forward to the following years.
For example, a company Timber Ltd. incurs expenses relating to advertisement of its products worth 8,000,000 and this advertisement campaign can earn revenue for the company for around 10 years. Hence, such expense of 8,000,000 would be amortized over a period of 10 years.
For the first year, an amount of 800,000 (8,000,000/10) would appear in the profit and loss statement as expense and the rest 7,200,000 would appear as advertisement expense under the Miscellaneous expenditure on the assets side of the balance sheet.
For the second year, an amount of 800,000 (8,000,000/10) would appear in the profit and loss statement as expense and the rest 6,400,000 would appear as advertisement expense under the Miscellaneous expenditure on the assets side of the balance sheet. And so on.
We can say that fictitious assets are deferred revenue expenditures as well as intangible assets. But goodwill, etc are not fictitious assets. Hence, all fictitious assets are intangible assets but all intangible assets are not fictitious assets.
Common fictitious assets that could generally be seen are:
Classified under advance income, Interest received in advance is unearned income that pertains to the following accounting period but is received in the current period. Such interest is not related to the current accounting period and the related benefits for such income are yet to be provided. HencRead more
Classified under advance income, Interest received in advance is unearned income that pertains to the following accounting period but is received in the current period. Such interest is not related to the current accounting period and the related benefits for such income are yet to be provided. Hence, it is a liability for the concern.
The treatment of such advance interest is based on the Accrual concept of accounting.
The journal entry for interest received in advance is:
Now suppose, a firm Star shine receives interest on loan of 5,00,000 @ 7% p.a. extended to another firm. In the current accounting period, Star shine receives 50,000 as interest, excess being advance for the following year. Then the following journal entries should be passed:
Cash received in form of interest is debited (Debit what comes in) and interest account is credited because of an increase in interest income (credit all incomes and gains).
Interest account is debited because we have to decrease the interest income since 15,000 relates to the next accounting year. Interest received in advance is credited because such interest of 15,000 is not yet earned and is a liability for the concern.
What are the different methods of charging depreciation?
Depreciation refers to that portion of the value of an asset that is written off over the useful life of the asset due to wear and tear. Now, when we talk about depreciation, there are multiple methods to calculate depreciation such as: Straight Line Depreciation Method Diminishing Balance Method OrRead more
Depreciation refers to that portion of the value of an asset that is written off over the useful life of the asset due to wear and tear.
Now, when we talk about depreciation, there are multiple methods to calculate depreciation such as:
The most commonly used methods are discussed below:
1. Straight Line Depreciation Method: This is the simplest method for calculating depreciation where a fixed amount of depreciation is charged over the useful life of the asset.
Formula:
Suppose a company Bear Ltd purchases machinery costing 8,00,000 with useful life of 10 years and salvage value 1,00,000. Then depreciation charged to the machinery each year would be:
Depreciation = (8,00,000 – 1,00,000)/10 = 7,00,000/10 = 7,000 p.a.
2. Diminishing Balance Method Or Written Down Value Method: Under this method, a fixed rate of depreciation is charged every year on the opening balance of the asset which is the difference between the previous year’s opening balance and the previous year’s depreciation. Here the book value of asset reduces every year and so does the depreciation amount.
Formula:
Suppose a company Moon ltd purchases a building for 50,00,000 with a useful life of 5 years and decides to depreciate it @ 10% p.a. on Diminishing Balance Method. Then depreciation charged to the machinery would be:
3. Sum of Years’ Digits Method: In this method, the life of asset is divided by the sum of years and multiplied by the cost of the asset to determine the depreciating expense. This method allocates higher depreciation expense in the early years of the life of the asset and lower depreciation expense in the latter years.
Formula:
Suppose a company Caps Ltd purchases machinery costing 9,00,000 having a useful life of 5 years. Then the depreciation cost would be:
4. Double Declining Balance method: This method is a mixture of straight-line method and diminishing balance method. A fixed rate of depreciation is charged on the reduced value of the asset at the beginning of the year. This rate is double the rate charged under straight-line method.
Formula:
Suppose a company Paper Ltd purchases machinery for 1,00,000 with an estimated useful life of 8 years. Then the depreciation rate would be:
Straight line = 100%/8 = 12.5%
Double declining method = 2*12.5% = 25%
5. Sinking Fund Method: Under this method, the amount of depreciation keeps on accumulating till the asset is completely worn out. Depreciation is the same every year. Profits equal to the amount of depreciation is invested each year outside the company. At the time of replacement of the asset the investments and sold and the proceeds thereof are used to purchase the new asset.
6. Annuity Method: This method calculates depreciation by calculating its internal rate of return (IRR). Depreciation is calculated by multiplying the IRR with an initial book value of the asset, and the result is subtracted from the cash flow for the period.
7. Use Based Methods: Depreciation, under these methods, is based on the total estimated machine hours or total estimated units produced during the life of the machine. It is calculated by dividing the cost of the machine by the estimated total machine hours or estimated lifetime production in units and multiplying by the units produced or machine hours worked.
Formula:
Suppose a company Box Ltd purchases machinery for 25,000 (estimated life 5 years) whose estimated life production is 5,000 units. If it produces 700 units in the first year of operation then depreciation cost would be:
Depreciation = 25,000/5,000*700 = 3,500
See lessWhere are fictitious assets shown in financial statements?
Fictitious assets can be defined as those fake assets which save revenue for the company. These do not exist physically but also do not qualify as intangible assets. These are merely the expenses or losses that are not fully written off in the accounting period in which they are incurred. These expeRead more
Fictitious assets can be defined as those fake assets which save revenue for the company. These do not exist physically but also do not qualify as intangible assets. These are merely the expenses or losses that are not fully written off in the accounting period in which they are incurred. These expenses are amortized over a period of time.
These assets do not have any realizable value except for the cash outflow. These are created to delay the recognition of the expense and defer it to future periods.
Fictitious assets actually qualify as an expense but are treated as assets only for the fact that they are expected to give returns over a course of more than one year. Examples are Advertisement expenses, preliminary expense, etc.
Treatment
Fictitious assets are shown on the assets side of the balance sheet under the head miscellaneous expenditure. A part of these expenses are shown in the profit and loss statement and the remaining amount is carried forward to the following years.
For example, a company Timber Ltd. incurs expenses relating to advertisement of its products worth 8,000,000 and this advertisement campaign can earn revenue for the company for around 10 years. Hence, such expense of 8,000,000 would be amortized over a period of 10 years.
For the first year, an amount of 800,000 (8,000,000/10) would appear in the profit and loss statement as expense and the rest 7,200,000 would appear as advertisement expense under the Miscellaneous expenditure on the assets side of the balance sheet.
For the second year, an amount of 800,000 (8,000,000/10) would appear in the profit and loss statement as expense and the rest 6,400,000 would appear as advertisement expense under the Miscellaneous expenditure on the assets side of the balance sheet. And so on.
We can say that fictitious assets are deferred revenue expenditures as well as intangible assets. But goodwill, etc are not fictitious assets. Hence, all fictitious assets are intangible assets but all intangible assets are not fictitious assets.
Common fictitious assets that could generally be seen are:
- Advertisement expenses
- Preliminary expenses
- Discount allowed on the issue of shares
- Loss incurred on issue of debentures
- Underwriting Commission
See lessCan you explain interest received in advance with journal entry?
Classified under advance income, Interest received in advance is unearned income that pertains to the following accounting period but is received in the current period. Such interest is not related to the current accounting period and the related benefits for such income are yet to be provided. HencRead more
Classified under advance income, Interest received in advance is unearned income that pertains to the following accounting period but is received in the current period. Such interest is not related to the current accounting period and the related benefits for such income are yet to be provided. Hence, it is a liability for the concern.
The treatment of such advance interest is based on the Accrual concept of accounting.
The journal entry for interest received in advance is:
Now suppose, a firm Star shine receives interest on loan of 5,00,000 @ 7% p.a. extended to another firm. In the current accounting period, Star shine receives 50,000 as interest, excess being advance for the following year. Then the following journal entries should be passed:
Cash received in form of interest is debited (Debit what comes in) and interest account is credited because of an increase in interest income (credit all incomes and gains).
Interest account is debited because we have to decrease the interest income since 15,000 relates to the next accounting year. Interest received in advance is credited because such interest of 15,000 is not yet earned and is a liability for the concern.
See less