Account 3 Marks Question

Financial Statements must show a true and fair view of the financial performance and also financial position of the business. If Depreciation is not charged, both profits and fixed assets would be stated at inflated amounts. This will mislead the users of Financial Statements.

Depreciation is a fall in value of an asset because of its usage or with efflux of time or due to obsolescence or accident. “Depreciation is the permanent and continuing diminution in the quality, quantity or value of an asset".

Depreciation, being a charge against profit, has to be provided for, whether there is profit or loss in a financial year. If depreciation is not charged, business will show lower loss and higher asset value.

1. In the event of an asset being sold, a new account titled 'Asset Disposal Account is opened in the Ledger for the purpose of calculating profit or loss on the sale of an asset. Journal entries for sale or disposal of asset will depend upon the method of recording Depreciation.
2. Under this method, Depreciation is charged at a fixed rate on the book value, i.e., reducing balance (Cost less Depreciation) every year. Stating differently, fixed rate on the written down value of the asset is charged as depreciation every year over the expected useful life of the asset. A percentage known as Rate of Depreciation is applied to the book value and not to the cost of the asset.

No, Depreciation is not a result of fluctuations in the value of fixed assets since the fluctuation is concerned with the market price of a fixed asset whereas the Depreciation is concerned with the historical cost (i.e., cost of acquiring fixed asset).

When rate of depreciation is given with the words 'per annum or p.a., like 10% per annum or 10% p.a., then depreciation is charged on the fixed asset only for the period for which the asset is used. However, when depreciation rate is without the words per annum' then depreciation is charged for the full accounting period, irrespective of the date of purchase of the asset.