Cambridge IGCSE Accounting · 0452
Chapter 4: Accounting Procedures — Part 2
Section 4.2 · Accounting for Depreciation
Definition and Purpose
Depreciation is an estimate of the value of a non-current asset used up during an accounting period. It is an application of the Matching (Accruals) concept, ensuring that the cost of using an asset is matched against the revenue it helps generate.
Causes of Depreciation:
- Wear and Tear: Physical deterioration through usage over time.
- Obsolescence: New technology makes the current asset outdated.
Methods of Calculation
The syllabus requires knowledge of three methods:
1. Straight-Line Method
The asset is depreciated by an equal amount every year.
Formula (with residual value): (Cost − Estimated Residual (Scrap) Value) ÷ Expected Useful Life (Years)
- Advantage: Very simple to calculate and consistent.
- Disadvantage: Unrealistic for assets like vehicles that lose more value in the first year.
2. Reducing Balance Method
A fixed percentage is applied to the Net Book Value (NBV) of the asset each year.
Formula: Annual % × Net Book Value (NBV)
NBV = Historic Cost − Accumulated Depreciation
- Advantage: More realistic for machinery/vehicles as it records higher depreciation in early years.
- Disadvantage: More complex calculations.
3. Revaluation Method
Used for small, numerous items (e.g., loose tools).
Calculation: (Opening Value + New Purchases) − Closing Value
Choosing the Right Method
| Asset Type | Recommended Method | Reason |
|---|---|---|
| Buildings, fixtures with steady use | Straight-line | Even benefit each year |
| Vehicles, machinery, IT equipment | Reducing balance | Higher loss of value in early years |
| Loose tools, small items | Revaluation | Too numerous to track individually |
Worked Example 1: Straight-Line (Multi-Year)
Machine cost $24,000; residual value $3,000; life 7 years.
Annual depreciation = ($24,000 − $3,000) ÷ 7 = $3,000
| Year | Depreciation ($) | Accumulated Dep. ($) | NBV ($) |
|---|---|---|---|
| 1 | 3,000 | 3,000 | 21,000 |
| 2 | 3,000 | 6,000 | 18,000 |
| 3 | 3,000 | 9,000 | 15,000 |
Worked Example 2: Reducing Balance (Multi-Year)
Vehicle cost $20,000; depreciation at 25% per annum on NBV.
| Year | NBV start ($) | Depreciation 25% ($) | NBV end ($) |
|---|---|---|---|
| 1 | 20,000 | 5,000 | 15,000 |
| 2 | 15,000 | 3,750 | 11,250 |
| 3 | 11,250 | 2,813 | 8,437 |
Worked Example 3: Revaluation Method
Loose tools: opening value $1,200; purchases during year $400; closing value after inventory count $950.
Annual depreciation = ($1,200 + $400) − $950 = $650
Double Entry for Depreciation
To follow the Historic Cost concept, the original cost of the asset remains unchanged in the Asset Account. Depreciation is recorded in a separate Provision for Depreciation Account.
The Year-End Journal Entry:
- Debit: Income Statement (as an expense).
- Credit: Provision for Depreciation Account (increases the total provision).
Worked Example 4: Provision for Depreciation T-Account
If a machine costs $2,000 and depreciation is $400:
Provision for Depreciation – Machinery Account
| Debit | Credit | ||||
|---|---|---|---|---|---|
| Date | Details | $ | Date | Details | $ |
| Dec 31 | Balance c/d | 400 | Dec 31 | Income Statement | 400 |
| 400 | 400 | ||||
| Jan 1 | Balance b/d | 400 | |||
Statement of Financial Position presentation: Machinery at cost $24,000 less Provision for Depreciation $9,000 = NBV $15,000 (non-current assets).
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