Depreciation of non-current assets (chapter 6)

What is the term for the estimated loss in value of a non-current asset over its useful life?

Depreciation.

What is the primary purpose of depreciation in financial accounting?

To spread the cost of a non-current asset over its useful life.

In which financial statement is the depreciation charge shown as an expense?

The statement of profit or loss.

How is a non-current asset's value presented in the statement of financial position?

At its carrying amount, which is the cost price less accumulated depreciation.

The loss of value in non-current assets such as vehicles and machinery due to use is known as _.

wear and tear

Which cause of depreciation relates to the expiry of a lease on a building?

Passage of time.

The extraction of stone from a quarry is an example of which cause of depreciation?

Depletion.

What economic reason for depreciation occurs when a new machine design makes an old one outdated?

Obsolescence.

What economic reason for depreciation occurs when a machine no longer has the capacity to meet business needs?

Inadequacy.

Which non-current asset is the only one that does not normally depreciate, unless it is a quarry or mine?

Freehold land.

Name the two common methods of calculating depreciation mentioned in the source material.

The straight-line method and the diminishing balance method.

Term: Straight-line method of depreciation

A method where a fixed percentage or fraction is written off the original cost of the asset each year.

When an asset has a residual value, depreciation is calculated on the 'depreciable amount'. How is this amount calculated?

Cost of asset minus the estimated residual sale proceeds.

What is the formula for the annual depreciation charge using the straight-line method, considering a residual value?

(Cost of asset - Estimated residual value) / Useful life of asset.

A machine costs £2,000, has a useful life of 4 years, and an estimated residual value of £400. What is the annual depreciation charge using the straight-line method?

£400 per year.

Term: Diminishing balance method of depreciation

A method where a fixed percentage is written off the diminished balance (carrying amount) of the asset each year.

In the diminishing balance method, the 'diminished balance' is also referred to as the asset's _.

carrying amount

How does the annual depreciation charge change over time with the diminishing balance method compared to the straight-line method?

It is higher in the early years and lower in the later years.

Which depreciation method is best suited for non-current assets likely to be kept for their whole useful lives, such as machinery and office equipment?

The straight-line method.

Which depreciation method is best suited for non-current assets that depreciate more in their early years, such as vehicles?

The diminishing balance method.

What are the three main accounts in the general ledger used for the bookkeeping of depreciation?

Non-current asset at cost, depreciation charges, and accumulated depreciation.

Which ledger account records the original cost price of a non-current asset?

The non-current asset at cost account.

Which ledger account records the amount of depreciation for an asset for the current year?

The depreciation charges account.

Which ledger account records the total amount of depreciation for an asset to date?

The accumulated depreciation account.

What is the double-entry bookkeeping to record the annual depreciation charge in the financial statements?

Debit the statement of profit or loss and credit the depreciation charges account.

How is the carrying amount of a non-current asset calculated?

Cost price less accumulated depreciation.

If an asset is bought part-way through a financial year, for which depreciation method might AAT assessments require a proportionate calculation?

The straight-line depreciation method only.

An asset with an annual straight-line depreciation of £400 is bought on 1 April. For a year ending 31 December, what is the pro-rata depreciation for the first year?

£300 (calculated as £400 / 12 months x 9 months).

Depreciation is described as a - expense because no payment is made for it.

non-cash

Is depreciation a method of creating a fund of cash to replace an asset at the end of its life?

No, it is an accounting adjustment, not a cash fund.

What is the name for a separate fund into which cash is transferred at regular intervals to purchase a new non-current asset?

A sinking fund.

What three amounts must be brought together when a non-current asset is sold or disposed of?

The original cost, accumulated depreciation, and disposal proceeds.

Which account is used to calculate the gain or loss on the disposal of a non-current asset?

The asset disposal account.

A gain on disposal of a non-current asset is caused by _ during the life of the asset.

over-depreciation

A loss on disposal of a non-current asset is caused by _ during the life of the asset.

under-depreciation

What is the double-entry to transfer the original cost of a disposed asset from the non-current asset account?

Debit asset disposals account and credit non-current asset account.

What is the double-entry to transfer the total depreciation of a disposed asset from the accumulated depreciation account?

Debit accumulated depreciation account and credit asset disposals account.

What is the double-entry to record the cash received from the sale of a non-current asset?

Debit bank/cash account and credit asset disposals account.

What is the double-entry to record a gain on the disposal of a non-current asset?

Debit asset disposals account and credit statement of profit or loss.

What is the double-entry to record a loss on the disposal of a non-current asset?

Debit statement of profit or loss and credit asset disposals account.

A machine with a cost of £2,000 and accumulated depreciation of £1,200 is sold for £600. What is the resulting gain or loss on disposal?

A loss on disposal of £200.

In a part-exchange transaction, what is the double-entry to record the part-exchange allowance for the old asset?

Debit the new non-current asset account and credit the asset disposals account.

Which International Accounting Standard (IAS) includes the rules for dealing with depreciation in financial statements?

IAS 16: Property, Plant and Equipment.

According to IAS 16, what is the basis for calculating depreciation when non-current assets have been revalued?

The revalued amount.

Term: Depreciation

The estimate of the amount of the loss in value of a non-current asset over its useful life.

Term: Carrying amount

The cost price of a non-current asset, less its accumulated depreciation.

Term: Straight-line depreciation

A method where a fixed percentage or fraction is written off the original cost (less any residual value) of the asset each year.

Term: Diminishing (reducing) balance depreciation

A method where a fixed percentage is written off the diminished balance of the asset each year.

Term: Proportionate amount (in depreciation)

Depreciation calculated for part of a year.

Term: Depreciation charges account

An account used to record the annual depreciation charge, which is debited to the statement of profit or loss.

Term: Non-current asset accumulated depreciation account

An account used to record the total amount of depreciation for an asset or class of non-current asset.

Term: Depreciation policy

The method and rate of depreciation used by a business for each class of non-current asset.

Term: Asset disposal account

An account used to calculate any gain or loss on the disposal of non-current assets.