Depreciation on Fixed Assets
Depreciation of Fixed Assets
Depreciation
A business may acquire fixed assets such as land, buildings, machinery, office equipment, delivery equipment and natural resources (e.g. a piece if mining land)to help in the process of its operations to earn revenue in order to make a profit. Such assets, by their very nature, provide benefits to the business for more than one financial year or period. In fact, when a business buys a fixed asset at a certain cost (say $10,000), it is actually buying a bundle of service benefits that will be provided by that fixed asset over a period of time in the future (say 10 years).
Take, for example, when a wholesaler buys a delivery van, it is in effect buying transporting services for his goods that will be provided by the van over its useful life that will help him (the wholesaler) earn revenue.
Note that all reasonable and necessary costs to get an asset in position and condition ready for use may be included as part of its cost. Thus, the lawyer 's professional fees should be included in the cost of acquiring a building. Money spent to acquire fixed assets is called capital expenditure. The fixed asset is maintained in the books based on its cost. There is no need to revalue it even though its market price has changed. This is in line with the historical cost concept.
As an asset is used over time, the bundle of future service benefits available from it becomes smaller and smaller. The whole cost of the fixed asset cannot be charged as an expense in the year it is bought. This is in line with the matching principle. Only a portion of the total cost representing the amount of service benefits that has been used up during an accounting period has to be charged as an expense for that period in the final accounts against the revenue earned. This amount is called the depreciation expense. Depreciation, therefore, means the allocation of the cost ($10,000 in the above example) of a fixed asset over its useful life
Depreciation
A business may acquire fixed assets such as land, buildings, machinery, office equipment, delivery equipment and natural resources (e.g. a piece if mining land)to help in the process of its operations to earn revenue in order to make a profit. Such assets, by their very nature, provide benefits to the business for more than one financial year or period. In fact, when a business buys a fixed asset at a certain cost (say $10,000), it is actually buying a bundle of service benefits that will be provided by that fixed asset over a period of time in the future (say 10 years).
Take, for example, when a wholesaler buys a delivery van, it is in effect buying transporting services for his goods that will be provided by the van over its useful life that will help him (the wholesaler) earn revenue.
Note that all reasonable and necessary costs to get an asset in position and condition ready for use may be included as part of its cost. Thus, the lawyer 's professional fees should be included in the cost of acquiring a building. Money spent to acquire fixed assets is called capital expenditure. The fixed asset is maintained in the books based on its cost. There is no need to revalue it even though its market price has changed. This is in line with the historical cost concept.
As an asset is used over time, the bundle of future service benefits available from it becomes smaller and smaller. The whole cost of the fixed asset cannot be charged as an expense in the year it is bought. This is in line with the matching principle. Only a portion of the total cost representing the amount of service benefits that has been used up during an accounting period has to be charged as an expense for that period in the final accounts against the revenue earned. This amount is called the depreciation expense. Depreciation, therefore, means the allocation of the cost ($10,000 in the above example) of a fixed asset over its useful life