ACCOUNTING STANDARDSThe statements of code of practice of the regulatory accountingbodies that are to be observed in the preparation and presentation offinancial statements. The Institute Of Chartered Accountants OfIndia (ICAI) has formulated and issued, the following 28 accountingstandards referred to as Indian Accounting Standards or IAS.The Accounting Standard (AS) 6, “Depreciation Accounting”,issued by the ICAI.
AS-6: DEPRECIATION ACCOUNTINGAccording to accounting standard (AS 6) “Depreciation is a measure of the wearing out, consumption or other loss of value of a depreciable asset arising from use effluxion of time or obsolescence through technology and market changes.”
DEPRECIABLE ASSET USEFUL LIFEAre expected to be used The period over which a during more than one depreciable asset is accounting period. expected to be used by the enterprise.Have a limited useful life. The number of productionHeld by an enterprise for or similar units expected use in the production or to be obtained from the supply of goods and use of the asset by the services. enterprise.
CAUSESINTERNAL CAUSES: Wear and tear DepletionEXTERNAL CAUSES: Obsolescence Passage of time ACCIDENT PERMANENT FALL IN PRICE
NEEDS Determination of net profit or net loss. Showing assets at fair and true value in the balance sheet. Provision of funds for replacement of assets. Ascertaining accurate cost of production. Distribution of dividend out of profit only. Avoiding over payment of income tax.
FACTORS IN DETERMINATION OF DEPRECIATIONOriginal cost of fixed asset i.e., purchase price plus freight and installationexpenses.Estimated amount of expenditure on repairs during the useful life.Estimated useful life of asset after which it will be discarded.Estimated residual or scrap value.Possibility of obsolescence.Interest on investment-the amount invested on purchase of asset, if it hadbeen invested in some other investment what interest would have beenearned.
1. Straight Line2. Written Down Value3. Sum Of Years Digits4. Units of Production5. Machine Hour Rate
STRAIGHT LINE METHOD Most Easiest method. Based on the assumption of Equal Usage. Also known as fixed installment method. Makes comparisons of profits easy. Mainly suitable for those assets whose useful life can be estimated.
STRAIGHT LINE METHODAmount Of Depreciation = Cost – Estimated Scrap Value Estimated Useful LifeDepreciation Rate = Amount of Depreciation x 100 Cost
WRITTEN DOWN VALUE METHODDepreciation is charged at a fixed rate.Depreciation is Charged on reducing balance.Also known as Diminishing Value Method.Based on the assumption that benefits from assets go on diminishing with the passage of time.Widely accepted by Income Tax Act.
WRITTEN DOWN VALUE METHODRate of Depreciation = 1 – (Residual price) ^ (1/n) Cost
SUM OF YEARS DIGITS METHODThis method requires a fraction to be computed each year, which is applied against the depreciable amount. The numerator is the number of years left to be depreciated and the denominator is the sum of the years’ digits of the depreciable life.Amount of Depreciation. = (Cost - Salvage Value) x Fraction
SUM OF YEARS DIGITS METHODAn automobile used in business costs $10000 and has a four-year depreciable life. Sum-of-the-years’-digits depreciation results in the deductions shown below:
UNITS OF PRODUCTION METHODThe units of production method of depreciation is based on anasset’s usage, activity, or parts produced instead of the passageof time. Under the units of production method, depreciationduring a given year will be very high when many units areproduced, and it will be very low when only a few units areproduced.
UNITS OF PRODUCTION METHODDepreciation rate / unit= [Cost of Asset – Scrap Value] / Total Estimated ProductionDepreciation= No of units produced in the year x Rate/unit
MACHINE HOUR RATE METHODThis method is based on the number of hours an asset is used. This method allows for more depreciation during busy period and vice versaExcept in rare cases, it is difficult to apply this method as total operating hours cannot be estimated with any degree of accuracy.
MACHINE HOUR RATE METHODa. Depreciation rate / hour= [Cost of Asset – Scrap Value] / Total Estimated Hoursb. Depreciation = Hours in the year x Rate/hour
PROVISION FOR DEPRECIATION ACCOUNTProvision for Depreciation account is designed to accumulate the depreciation provided on an asset in a separate account generally called “Provision For Depreciation “ or “Accumulated Depreciation Account”.
BASIC CHARACTERTICSAsset account continues to appear at its original cost year after year over its entire life;Depreciation is accumulated on a separate account instead of being adjusted in the asset account at the end of each accounting period.
JOURNAL ENTRIES1. For recording purchase of asset Asset A/c Dr To Bank/Vendor A/c2. Following two journal entries are recorded at the end of each year:a) For crediting depreciation amount to provision for depreciation account Depreciation A/c Dr To Provision for depreciation A/c
b) For charging depreciation to profit and loss account Profit & Loss A/c Dr To Depreciation A/c
Example of Singhania and Bros.M/s Singhania and Bros. purchased a plant for Rs. 5,00,000 on April,01 2002, and spent Rs. 50,000 for its installation. The salvage valueof the plant after its useful life of 10 years is estimated to be Rs.10,000. Record journal entries for the year 2002-03 and draw upPlant Account and Depreciation Account for first three years giventhat the depreciation is charged using straight line method if:(i) The books of account close on March 31 every year; and(ii) The firm charges depreciation to the asset account.
Books of Singhania and Bros.Date Journal Particulars L. Debit Credit F. Amount Amount Rs. Rs.2002 Plant A/c Dr. 5,00,000Apr. 01 To Bank A/c 5,00,000 (Purchased plant forRs.5,00,000)Apr. 01 Plant A/c Dr. 50,000 To Bank A/c 50,000 (Expenses incurred on installation)2003 Depreciation A/c Dr. 54,000Mar. 31 To Plant A/c 54,000 (Depreciation charged on asset)Mar. 31 Profit and Loss A/c Dr. 54,000 To Depreciation A/c 54,000 (Depreciation debited to profit and loss account)
Plant AccountDate Particulars J. Amount Date Particulars J . Amount F. Rs. F Rs. .2002 BANK 5,00,000 2003 DEPRECIATION 54,000Apr. MAR 3101 BANK(installation 50,000 BALANCE c/d 4,96,000 expenses) 5,50,000 5,50,0002003 BALANCE b/d 4,96,000 2004 DEPRECIATION 54,000apr1 MAR 31 BALANCE c/d 4,42,000 4,96,000 4,96,0002004 BALANCE b/d 4,42,000Apr 1
DEPRECIATION ACCOUNTDATE PARTICULAR J.F. AMOUNT DATE PARTICULAR J.F. AMOUNT S Rs. Rs. S2003 Plant 54,000 2003 Profit and Loss 54,000Mar. Mar.31 312004 Plant 54,000 2004 Profit and Loss 54,000Mar. Mar.3131
DISPOSAL OF ASSETDisposal of asset can take place either (a) at the end of its useful life or (b) during its useful life (due to obsolescence or any other abnormal factor).
JOURNAL ENTRIES1. For sale of asset as scrap Bank A/c Dr. To Asset A/c2. For transfer of balance in asset account(a) In case of profit Asset A/c Dr. To Profit and Loss A/c(b) In case of loss Profit and Loss A/c Dr. To Asset A/c
CONCLUSION1. It applies to all depreciable assets, except the following items to which special considerations apply:— forests, plantations and similar regenerative natural resources; wasting assets including expenditure on the exploration for and extraction of minerals, oils, natural gas etc. expenditure on research and development; goodwill and other intangible assets; live stock.
This standard also does not apply to land unless it has a limiteduseful life for the enterprise.2. Different accounting policies for depreciation are adopted bydifferent enterprises. Disclosure of accounting policies for depreciation followed byan enterprise is necessary to appreciate the view presented in thefinancial statements of the enterprise.