A Project Report on

A CASE STUDY ON
DEPRECIATION
Subject- Accounting

Name of the Investigator: Tasha Khandelwal

CHSE Roll No:

Registration No: KA31C22005

Name of the Institution: MPC Higher Secondary School

Name of the examination with year:

Signature of the Student:

Date of Submission:

Signature of Internal Examiner Signature of External Examiner

 ABSTRACT
Depreciation is an accounting concept through which businesses calculate the declining values
of their assets over time. International Accounting Standard (IAS) 4, qualifies assets for
depreciation when assets are used for more than one accounting period, i.e. assets held by an
enterprise for production or service, and has economic useful life. Whereas, under Standard.
Statement of Accounting Practice (SSAP) 12, depreciation is viewed as wearing out,
consumption or other loss of value of fixed asset, whether arising from use, effluxion of time
or obsolescence through technology and market changes. Complexity may arise when it is
viewed as a fall in price, physical deterioration, allocation of cost, fall in value, valuation
technique and asset replacement. Intricate and confusion are inevitable when accountants
employ various methods of providing for depreciation on the same or similar assets of different
life span. These methods may include straight line, reducing balance, sum of the year's digit,
revaluation, annuity, output, sinking fund, etc. which will give different values in the financial
statement. Through this project, one would be able to thoroughly understand the importance,
relevance and objectives of depreciation, methods of charging and recording depreciation and
the need for charging depreciation.
 CONTENTS
Serial Page
Topic
No. No.
1. INTRODUCTION
▪ MEANING OF DEPRECIATION 1
▪ DEFINITION

2. CHARACTERISTICS OF DEPRECIATION 1
3. CAUSES OF DEPRECIATION 1
▪ PHYSICAL 1
▪ FUNCTIONAL 2

4. FACTORS DETERMINING THE AMOUNT OF DEPRECIATION 2

5. METHODS FOR RECORDING DEPRECIATION 3
▪ NO PROVISION FOR DEPRECIATION ACCOUNT 3
▪ PROVISION FOR DEPRECIATION ACCOUNT 4
6. METHODS OF CHARGING DEPRECIATION 5
7. FIXED INSTALMENT METHOD
▪ MERITS 5
▪ DEMERITS
8. ACCOUNTING ENTRIES 6
9. REDUCING INSTALMENT METHOD
▪ MERITS 8
▪ DEMERITS
10. CONCLUSION 11

11. REFERENCE 12
 INTRODUCTION
Meaning of Depreciation:
Depreciation is the decreased value of fixed assets. It is the permanent and continuous
decreased value of fixed assets. It is a non-cash expenses charged to profit and loss account
which reduces the tax burden of the proprietor. Adequate value of depreciation not only helps
to determine the actual profit of the concern but also helps to calculate the actual value of the
fixed assets. The accounting process of gradually converting unexpired costs of fixed assets
into expenses over a series of accounting periods is called depreciation. The word 'depreciation'
is derived from a Latin word ‘Depretium' where 'De' means decline and 'pretium' means price.
Thus, the word 'Depretium' stands for decline in the value of assets in the modern context. It
stands for a gradual and continuous decline in the book value of fixed assets, due to their use
and allied reasons.

Definition:
“Depreciation is the permanent and continuous diminution in the quality, quantity, or
value of an asset.”
- William Pickles
“Depreciation may be defined as the permanent and gradual decrease in the value of an
asset from any cause.”
-Carter

Characteristics of Depreciation:
1. Depreciation is a non-cash expense.
2. Depreciation may be physical or functional.
3. Depreciation is a process of allocation of cost and not of valuation of fixed assets.
4. Depreciation is charged in respect of fixed assets only.
5. Depreciation is a continuous fall in the utility of a fixed asset till the end of its useful
life.
6. It is charged to the revenue to find out the net profit of the business.
7. Depreciation once charged cannot be recouped afterwards.

Causes of Depreciation
The causes of decline in the book value of fixed assets may be divided into two categories:
(1) Physical (2) Functional

▪ Physical
The physical causes may be as follows:

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 (a) Wear and tear: Some assets physically deteriorate due to wear and tear in use. The
constant use of an asset wears out the asset. The more an asset is used, the greater would
be the wear and tear.
(b) Destruction: The physical destruction of an asset reduces its utility value. The causes
of destruction may be due to an accident like fire, flood or similar other havocs or
calamities.

(c) Decay: It refers to lessening in the utility of an asset by the effect of nature e.g. rain,
moisture, change in weather, and other elements of nature.

▪ Functional
The functional causes may be as follows:
(a) Obsolescence: (Some assets are discarded before they are worn out because of changed
conditions, for example, an old machine which is still workable may have to be replaced
by a new machine because of the latter being more efficient and economical. Such a
loss on account of new inventions or changed fashion is termed as a loss on account of
obsolescence.

(b) Inadequacy: It refers to the termination of the use of an asset due to an increase in the
volume of business activities. Although the asset is still usable, its inadequacy for
present level of activity has cut short its service life.

(c) Effluxion of time: There are some assets e.g. lease, patents, licenses, copyrights, etc.
which lose their value simply with the effluxion (passage) of time. Such assets become
valueless after the expiry of period of their life.

(d) Depletion: In case of oil wells, mines, etc. the value is reduced with the extraction of
oil and minerals.

(e) Exhaustion: Assets like plantations, animals, etc. lose their value gradually with the
passage of time. They have their own age and exhaust in value after the expiry of certain
period of their age.

Factors Determining the Amount of Depreciation:

1. Cost of asset: The original cost of asset paid/payable on acquisition of asset, is
increased with the amount spent on installation, freight, loading and unloading charges,
transit insurance, octroi, import duty etc. The aggregate amount is called cost of asset.

2. Estimated working life: Technical expertise is required to estimate the working life of
an asset. Conditions under which the asset is maintained and preserved affect the life
of the asset. The estimated working life of the asset may be measured in terms of years,
months, days, hours, output (unit & weight) or kilometers, etc.

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 3. Salvage/Residual/Scrap value: It refers to the estimated amount which will be realised
when an asset is sold, discarded, or exchanged for a new asset at the end of its working
life. Cost of asset minus residual value is called the 'Depreciable Amount' which is
charged over the working life of asset.
4. Provision for repairs and renewals: Proper repairs and renewals undertaken at regular
intervals help in keeping the asset in good condition. Bad handling and careless
approach adversely affect the life of the asset. Thus, before estimating the amount of
depreciation this factor must be taken into consideration.

5. Legal provisions: If there are some legal provisions for providing depreciation on
assets the same should be taken into consideration. Provisions of Companies Act, 1956
and the Income Tax Act, 1961 relevant in this regard.

6. Additions to assets: Any capital expenditure incurred on extension or addition to old

machinery will be subject to depreciation in the year in which the addition is made to
the asset.

Methods for Recording Depreciation:

There are two methods of recording depreciation in the books of accounts. These are:
• When no provision for depreciation account is maintained.
• When provision for depreciation account is maintained.

➢ No Provision for Depreciation Account:

Under this method, depreciation is directly charged against the asset without
maintaining provision for depreciation account. Recording of depreciation is made as follows:
(i) For purchase of asset
Asset A/c Dr.
To cash/Bank
(Being asset purchased)

(ii) For providing depreciation

Depreciation A/c Dr.
To Asset A/c
(Being annual depreciation is charged)

(iii) For transferring of depreciation

Profit & Loss A/c Dr.
To depreciation A/c
(Being depreciation is transferred to P & L A/c)
** [The above two entries (ii) and (iii) are repeated till asset is sold or scraped]
(iv) For sale of asset at a loss
Bank A/c Dr.
Depreciation A/c Dr.
Profit & Loss A/c Dr.

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 To Asset A/c
(Being asset is sold at a loss)

(v) For sale of asset at a profit

Bank A/c Dr.
Depreciation A/c Dr.
To Asset A/c
To profit & Loss A/c
(Being asset sold at a profit)

➢ Provision for Depreciation Account:

Under this method, depreciation is not directly charged to asset account but credited
to provision for depreciation account. When provision for depreciation account is maintained,
the following journal entries are recorded in the books of accounts:
(i) For purchase of asset
Asset A/c Dr.
To Cash / Bank
(Being asset purchased)
(ii) For providing depreciation
Depreciation A/c Dr.
To provision for depreciation A/c
(Being depreciation is provided)

(iii) For transferring depreciation

Profit & Loss A/c Dr.
To depreciation A/c
(Being transfer of depreciation)
**[ The above two entries (ii) & (iii) are recorded till asset is sold or becomes obsolete.]
(iv) When sold at a loss
Bank A/c Dr.
Provision for depreciation A/c Dr.
Profit & Loss A/c Dr.
To Asset A/c
(Being asset is sold at a loss)

(v) When sold at a profit

Bank A/c Dr. Dr.
Provision for depreciation A/c Dr.
To Asset A/c
To Profit & Loss A/c
(Being asset is sold at a profit)

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 Methods of Charging Depreciation
1. Fixed Installment Method (Straight line or original cost method)
Under this method, a fixed percentage of the original cost of the asset is charged each year as
depreciation over the anticipated useful life of the asset. Thus, an equal amount of depreciation
is written off each year during the expected life of the asset. The value of the assets will be zero
at the end of its expiry period. This method is popularly used in the USA, UK, etc.
The calculation of annual depreciation charge is done with the help of following symbolic
expression:
𝑶𝒓𝒊𝒈𝒊𝒏𝒂𝒍 𝒄𝒐𝒔𝒕 𝒐𝒇 𝒇𝒊𝒙𝒆𝒅 𝒂𝒔𝒔𝒆𝒕 − 𝑬𝒔𝒕𝒊𝒎𝒂𝒕𝒆𝒅 𝒔𝒄𝒓𝒂𝒑 𝒗𝒂𝒍𝒖𝒆
𝑫𝒆𝒑𝒓𝒆𝒄𝒊𝒂𝒕𝒊𝒐𝒏 =
𝑬𝒔𝒕𝒊𝒎𝒂𝒕𝒆𝒅 𝒍𝒊𝒇𝒆 𝒐𝒇 𝒂𝒔𝒔𝒆𝒕 𝒊𝒏 𝒚𝒆𝒂𝒓𝒔
𝑪−𝑺
Or, 𝑫=
𝑵

The depreciation charged each year can also be expressed as a percentage of cost. This
percentage can be calculated as follows-
𝑫
𝑹= × 𝟏𝟎𝟎
𝑪
Where, R = Rate of depreciation
D = Annual amount of depreciation
C = Cost of asset
This method is called straight line method because if a graph is drawn of the annual
depreciation charge under this method, the graph would be a straight line.
Merits:
1. Simple: It is a very easy method of providing depreciation and the calculations are very
simple.
2. Asset is fully written off: According to this method, the asset account is written off
fully at the end of its working life.
3. Knowledge of total depreciation charged: The amount of total depreciation charged
to profit and loss account can be easily ascertained by multiplying the annual
installment of depreciation to the number of years the machine has been used.
4. Suitable for fixed life assets: This method is very suitable for those assets which have
a fixed working life e.g., furniture, leases, patents, etc.

Demerits:
1. Interest on capital: This method does not take into consideration the interest on capital
invested in fixed assets. Thus, the assets are under-capitalised and profits are over-
stated.
2. Repairs and maintenance: Since the amount of depreciation remains constant every
year, the expenses incurred on repairs and maintenance increase gradually as the asset
grows older and, as such, profit and loss account is charged heavily in the later years.
3. Decrease in utility: Asset in the earlier part of its working life provides more utility, as
compared to the later period when asset gradually becomes older, thus benefit and cost
(depreciation) are not matched rationally.
4. Income tax: This method is not fully recognised by income-tax department.

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 ACCOUNTING ENTRIES
(i) When depreciation is provided on asset :
Depreciation A/c Dr.
To Particular asset A/c
(Being depreciation is provided)
(ii) When final accounts are prepared :
Profit and loss A/c Dr.
To Depreciation A/c
(Being Depreciation is provided)
[Note: These two entries are repeated each year till the asset retires and sold.]
(iii) When asset retires and sold as scrap :
Cash A/c Dr.
To Particular asset A/c
(Being scrap sold for cash)
(iv) When profit on asset (Credit is more in asset A/c)
Asset A/c Dr.
To Profit and loss A/c
(Being profit transferred to profit & loss A/c)
(v) When loss on asset (Debit is more in asset A/c)
Profit and loss A/c Dr.
To Asset A/c
(Being loss transferred to profit and loss A/c)

Example:- A textile company bought machine on 1-1-2017 for ₹ 5,00,000. Depreciation is

charged on straight line basis @ 50,000 p.a. Pass journal entries for the year 2017 and
2018. The books are closed on 31st December.

JOURNAL
Dr. Cr.
Date Particulars L/F Amount Amount
₹ ₹
2017
Jan. 1 Machines A/c Dr. 5,00,000
To Bank A/c 5,00,000
(Being machine bought)
Dec.31 Depreciation A/c Dr. 50,000
To Machine A/c 50,000
(Being depreciation charged)
Profit & Loss A/c Dr. 50,000
To Depreciation A/c 50,000
(Being depreciation transferred)
2018 Depreciation A/c Dr.
Dec.31 To Machine A/c 50,000
50,000
(Being depreciation charged)
Profit & Loss A/c Dr. 50,000
To Depreciation A/c 50,000
(Being depreciation transferred)

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Illustration– A trader bought machinery on 1st January 2014 for ₹ 1,25,000 whose useful
life has been estimated 5 years. After the expiry of useful life, the scrap will realise 25,000.
Prepare machinery account and depreciation account, charging depreciation by fixed
instalment method for 5 years.
Solution–
1,25,000−25,000
Annual Depreciation = = ₹ 20000
5

Dr. MACHINERY ACCOUNT Cr.

Date Particulars Amount Date Particulars Amount
₹ ₹
2014 2014
Jan. 1 To Bank A/c 1,25,000 Dec.31 By Depreciation A/c 20,000
Dec.31 By Balance c/d 1,05,000
1,25,000 1,25,000
2015 2015
Jan. 1 To Balance b/d 20,000
1,05,000 Dec.31 By Depreciation A/c
Dec.31 By Balance c/d 85,000
1,05,000 1,05,000
2016 2016
Jan. 1 To Balance b/d 85,000 Dec.31 By Depreciation A/c 20,000
Dec.31 By Balance c/d 65,000
85,000 85,000
2017 2016
Jan. 1 To Balance b/d 65,000 Dec.31 By Depreciation A/c 20,000
Dec.31 By Balance c/d 45,000
65,000 65,000
2017 2016
Jan. 1 To Balance b/d 45,000 Dec.31 By Depreciation A/c 20,000
Dec.31 By Balance c/d 25,000
45,000 45,000

Dr. DEPRECIATION ACCOUNT Cr.

Date Particulars Amount Date Particulars Amount
₹ ₹
2014 2014
Dec.31 To Machinery A/c 20,000 Dec.31 By Profit & loss A/c 20,000
2015 2015
Dec.31 To Machinery A/c 20,000 Dec.31 By Profit & loss A/c 20,000
2016 2016
Dec.31 To Machinery A/c 20,000 Dec.31 By Profit & loss A/c 20,000
2017 2017
Dec.31 To Machinery A/c 20,000 Dec.31 By Profit & loss A/c 20,000
2018 2018
Dec.31 To Machinery A/c 20,000 Dec.31 By Profit & loss A/c 20,000

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2. Reducing Instalment Method (Diminishing Balance or Written Down
Value Method)
Under this method, a fixed rate or percentage of depreciation is charged each year on the
diminishing value of the asset till the amount is reduced to scrap value. Whereas the straight-
line method assumes that the net cost of an asset be allocated to successive periods in uniform
amounts, the diminishing balance method assumes that the rate of allocation should be constant
throughout time. Under this method, instead of a fixed amount, a fixed rate on the reduced
balance of the asset is charged as depreciation every year. Since a constant percentage rate
being applied to the written down value, the amount of depreciation charged every year
decreases over the life of the asset. Though the percentage at which depreciation is charged
remains fixed, the amount of depreciation goes on decreasing year after year. This is because a
constant percentage is applied to a diminishing figure. This method assumes that an asset
should be depreciated more in earlier years of use than later years because the maximum loss
of an asset occurs in the early years of use. The value of the asset will never be zero. This
method is popular in India, as it is recognised by Income tax authority in India.
Merits:
1. Rational matching: Under this method, higher depreciation is charged in earlier years
when the machine is most useful and produces high revenues. Thus, the cost and
revenues are matched rationally.
2. Obsolescence: Obsolescence does not affect much because the major part of the asset
is written off as depreciation and the management has no difficulty in replacing the
asset.
3. Recognition from income-tax department: This method assumes more significance
because income-tax authorities recognise this method for accounting purpose.
4. Suitable for long life assets: This method is suitable for those assets which have long
life.

Demerits:
1. Interest on capital: The interest on capital invested in fixed assets is ignored under this
method also, with the result the profits are overstated.
2. No funds for replacement: This method does not solve the problem of availability of
funds at the time of replacement of assets. Though depreciation is charged every year,
but the amount charged is retained in the business.
3. Asset is not reduced to zero: The value of asset under this method is never reduced to
zero. Though the asset becomes useless after its working life is over, but the book value
is not extinguished.
4. Rate of depreciation: As compared to straight-line method, it is difficult to calculate
the rate of depreciation under this method.

Illustration–
A firm purchased plant and machinery on 1st April 2014 for ₹50,000. Depreciation is
written off at the rate of at the rate of 10 per cent per annum. Show for 5 years plant and
machinery account and depreciation account under reducing instalment method. The
firm closes its books on 31st December each year.

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Solution–
Dr. PLANT AND MACHINERY ACCOUNT Cr.
Date Particulars Amount Date Particulars Amount
₹ ₹
2014 2014
Apr.1 To Bank A/c 50,000 Dec.31 By Depreciation A/c (for
Dec.31 9 months) 3,750
By Balance c/d 46,250
50,000 50,000
2015 2015
Jan.1 To Balance b/d 46,250 Dec.31 By Depreciation A/c 4,625
Dec.31 By Balance c/d 41,625
46,250 46,250
2016 2016
Jan.1 To Balance b/d 41,625 Dec.31 By Depreciation A/c 4,163
Dec.31 By Balance c/d 37,462
41,625 41,625
2017 2016
Jan.1 To Balance b/d 37,462 Dec.31 By Depreciation A/c 3,746
Dec.31 By Balance c/d 33,716
37,462 37,462
2017 2016
Jan.1 To Balance b/d 33,716 Dec.31 By Depreciation A/c 3,372
Dec.31 By Balance c/d 30,344
33,716 33,716

Dr. DEPRECIATION ACCOUNT Cr.

Date Particulars Amount Date Particulars Amount
₹ ₹
2014 2014
Dec.31 To Plant & Machinery A/c 3,750 Dec.31 By Profit & loss A/c 3,750
2015 2015
Dec.31 To Plant & Machinery A/c 4,625 Dec.31 By Profit & loss A/c 4,625
2016 2016
Dec.31 To Plant & Machinery A/c 4,163 Dec.31 By Profit & loss A/c 4,163
2017 2017
Dec.31 To Plant & Machinery A/c 3,746 Dec.31 By Profit & loss A/c 3,746
2018 2018
Dec.31 To Plant & Machinery A/c 3,372 Dec.31 By Profit & loss A/c 3,372

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 WORKING NOTES

• Depreciation for 2014

10 9
50,000 × × = 3,750
100 12

• Depreciation for 2015

10 12
46,250 × × = 4,625
100 12

• Depreciation for 2016

10 12
41,625 × × = 4,163 (approx)
100 12

• Depreciation for 2017

10 12
37,462 × × = 3,746 (approx)
100 12

• Depreciation for 2014

10 12
33,716 × × = 3,372 (approx)
100 12

Fixed Instalment Method Reducing Instalment Method

1. The rate and amount of depreciation 1. The rate remains the same but amount of
remains same each year. depreciation reduces each year.
2. Depreciation rate percent is calculated on 2. Depreciation rate is applied on the book
the original cost of asset. value of asset each year.

3. At the end of its life, the value of asset is
reduced to zero or scrap value.
4. The older the asset, the larger is the cost
of its repair. But the amount of depreciation
remains same each year. Hence the total of
depreciation and repairs increases every
year. This reduces annual profit gradually.
5. Computation of depreciation is
comparatively easy and simple.
3. Value of asset never reduces to zero at the
end of its life.
4. The amount of depreciation decreases
gradually, while the cost of repair increases.
So, the total of depreciation and repairs
remains more or loss the same each year.
Hence, it causes little or no change in the
annual profit/loss.
5. Depreciation can be computed without
any difficulty, but it is not so easy and
simple

10
 CONCLUSION
In conclusion, the study of depreciation accounting has provided a comprehensive
understanding of the systematic allocation of asset costs over their useful lives. Depreciation
is a crucial accounting concept that addresses the gradual reduction in the value of tangible
assets, reflecting their wear and tear, obsolescence, or usage.
Throughout this exploration, we have delved into various depreciation methods, including
straight-line and declining balance. Each method offers a distinct approach to distributing the
cost of assets over time, catering to different circumstances and business needs.
The significance of depreciation accounting extends beyond financial reporting, influencing
decision-making processes related to asset management, tax planning, and budgeting. It serves
as a key element in determining the true cost of operations, aiding in the evaluation of asset
efficiency and overall financial performance.
Furthermore, we've considered the impact of depreciation on financial statements,
acknowledging its role in accurately representing the value of assets and the corresponding
expenses incurred during their operational life. This transparency is essential for stakeholders,
including investors, creditors, and management, in making informed decisions about an entity's
financial health and sustainability.
The study has also touched upon the regulatory aspects of depreciation accounting,
emphasizing the need for adherence to accounting standards and tax regulations. Compliance
ensures consistency and comparability in financial reporting across different entities, fostering
transparency and reliability in the broader financial ecosystem.
As we conclude, it becomes evident that depreciation accounting is not just a technical aspect
of financial management but a critical tool for portraying the economic reality of a business.
Its meticulous application contributes to sound financial management practices, enabling
organizations to make strategic decisions with a clear understanding of the true costs associated
with their assets. The knowledge gained from this study serves as a valuable foundation for
financial professionals, aiding them in navigating the complexities of asset valuation and
depreciation in the dynamic business environment.

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 REFERENCE
To write this project, I have followed guidelines from a few books which are as follows:

• Double Entry Book-Keeping written by C. Mohan Juneja, J.S. Arora, R.C. Chawla and
P.C. Sahoo, published by Kalyani Publishers in the year 2017 from page 4.1 – 4.24.
• Financial Accounting authored by S.P. Jain and K.L. Narang, published by Kalyani
Publishers in the year 2017 from page 93 – 119.
• Analysis of Financial Statements authored by D.K. Goel, Rajesh Goel and Shelly Goel,
published by Avichal Publishing Company in the year 2015 from page 45 – 56.

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