Depreciation refers to the decrease in the value of tangible fixed assets due to time passage, technology degradation, and wear & tear. Here are the depreciation class 11 notes.
Topics Discussed
Causes of Depreciation
- Constant Use: Due to the constant use of fixed assets in business operations, wear and tear arise in them, reducing their values.
- Expiry of Time: The value of the majority of assets decreases with the passage of time even if they are not being put to use in the business.
- Expiry of Legal Rights: There are certain assets that have a definite span of life such as leases.
- Obsolescence: Due to new inventions and improved techniques, the old assets become obsolete and may have to be discarded even if they can be put to use physically.
- Accident: Sometimes a machine may be destroyed due to fire, earthquake, flood, etc. or a vehicle may be damaged due to an accident.
- Depletion: Depletion is the decrease in the value of wasting assets such as mines, oil wells, etc. due to their constant working.
- Permanent fall in Market Price: Though, the fluctuations in the market value of fixed assets are not recorded because such assets are not meant for resale but for use in the business.
Need & Importance of Depreciation
1) For ascertaining the true profit or loss
The true profit of a business can be ascertained only when all costs incurred to earn revenues have been debited to the profit and loss account.
2) To show the true and fair view of the financial position
If the depreciation is not charged, the assets will be shown on the balance sheet at an amount that is more than their true values.
3) To ascertain the accurate cost of production
As depreciation is also an item of expense, the correct cost of production cannot be calculated unless it is also taken into account.
4) To provide funds for replacement of assets
Depreciation though debited to the profit and loss account, is not paid in cash like other expenses.
5) To prevent the distribution of profits out of capital
If the depreciation is not charged, the profit shown by the profit and loss account will be more than the actual profits.
6) To avoid overpayment of income tax
Depreciation is a deductible expense for tax purposes. If depreciation is not debited to the profit and loss account, the net profit shown by it will be more than actual profits.
7) Other objectives
If the depreciation is not charged, the net profit shown by the profit and loss account will exceed the actual profits and as a result employees may demand an increase in wages and bonuses or it may also result in extravagance.
Methods of Providing Depreciation
Different methods are suitable for different assets depending upon the nature and type of the asset.
1) Straight Line Method
This method is also termed as ‘Original Cost Method’ because under this method depreciation is charged at a fixed percentage on the original cost of the asset.
The amount of depreciation remains equal from year to year and as such the method is also known as the ‘Equal Installment Method’ or ‘Fixed Installment Method’.
Under this method, the amount of depreciation is calculated by deducting the scrap value from the original cost of the asset and then by dividing the remaining balance by the number of years of its estimated life.
Formula: Yearly Depreciation = Original Cost of the asset-Estimated scrap value/Estimated Life of the asset
| Merits | Demerits |
| 1) Simplicity: Calculation of depreciation under this method is very simple and as such the method is widely popular. | 1) Difficulty in Computation: When there are different machines having different lifespans, the computation of depreciation becomes complicated. |
| 2) Equality of Depreciation Burden: Under this method, an equal amount of depreciation is debited to the profit and loss account of each year. | 2) Unequal Charge Against Income: Repair charges go on increasing year by year as the asset becomes older but equal depreciation is charged under this method each year. |
| 3) Assets can be completely written off: The book value of an asset can be reduced to net scrap value or zero value, which is not possible under some other methods. | 3) Under pressure in later years: It is a well-known fact that the efficiency and usefulness of a machine are higher in the earlier years in comparison to later years. |
| 4) Knowledge of original cost and up-to-date depreciation: The original cost of the asset is shown in the balance sheet and up-to-date depreciation is shown as a direct deduction from it. | 4) Omission of Interest factor: This method does not take into consideration the loss of interest on the amount invested in the asset. |
2) Written Down Value Method
Under this method, as the value of the asset diminishes year after year, the amount of depreciation charged every year also declines.
Book value is the written-down value of the asset. In other words, it is that part of the original cost of the asset which has not been depreciated so far. Hence, book value is equal to the original cost subtracted by total depreciation to date.
As the value of the asset and also the depreciation charged on it goes on reducing year after year, the method is also known as the Reducing Installment Method or Diminishing Balance Method.
| Merits | Demerits |
| 1) Easy calculation: It is easy to calculate the depreciation under this method, even if some new assets are purchased year after year. | 1) Asset cannot be completely written off: Under this method, the value of an asset, even if it becomes obsolete and useless, cannot be reduced to zero and some balance, however small, would continue on asset account. |
| 2) Equal charge against income: in this method, the total burden on profit & loss account in respect of depreciation and repairs put together remains almost equal year after year. | 2) Omission of interest factor: As with the original cost method, this method also does not take into consideration the loss of interest on the amount invested in the asset. |
| 3) No undue pressure in later years: The efficiency and usefulness of a machine are higher in the earlier years than in later years. | 3) Difficulty in determining the rate of depreciation: Under this method, the rate of depreciation cannot be easily decided. |
| 4) Balance of asset is never written off to zero: This method ensures that the asset is never reduced to zero so that some depreciation, is debited to the profit & loss account so long as the asset remains in use. | 4) Knowledge of original cost and up to date depreciation not possible: Under this method, the original cost of various assets is not shown in the balance sheet. |
The difference between Straight Line Method and the down Value Method
| Basis | Straight Line Method | Written Down Value Method |
| 1) Amount of Depreciation | Equal depreciation is charged every year. | Depreciation goes on decreasing year after year. |
| 2) Basis of Calculation of Depreciation | Depreciation is charged on the original cost of the asset. | Depreciation is charged on the reduced balance of the asset. |
| 3) Zero Level | The book value of the asset can be reduced to zero. | The book value of the asset can never be reduced to zero. |
| 4) Combined effect of depreciation and repairs of P & L A/c | The combined burden on account of depreciation and repairs will be lighter in earlier years and heavier during the later years. | The combined burden on account of depreciation and repairs will be almost equal over different years. |
| 5) Rate of Depreciation | The rate of depreciation is kept low in comparison to the diminishing balance method. | The rate of depreciation is kept high in comparison to the original cost method. |
| 6) Approval of Income Tax Authorities | This method is not approved by income tax authorities. | This method is approved by income tax authorities. |
| 7) Suitability | It is suitable for assets in which repair charges are less and the possibility of obsolescence is less such as land and buildings, patents, trademarks, etc. | It is suitable for assets that require more repair expenses with the passage of time and where the possibility of obsolescence is more due to technology changes such as plant and machinery, vehicles, etc. |
Methods of Recording Depreciation
1) First Method
By charging to asset account – in this case, Provision for Depreciation Account is not maintained and the depreciation is directly credited to the ‘Asset A/c’. Hence, the asset a/c appears in the ledger at a written-down value.
2) Second Method
By creating a provision for depreciation account – In such a case, the depreciation is credited to ‘Provision for Depreciation A/c’ instead of ‘Asset A/c’ and hence the Asset A/c always appears in the ledger at its original cost.
Accumulated Depreciation A/c Dr.
To Asset A/c
Capital and Revenue Class 11 Notes
Asset Disposal Account
When part of the asset is sold or disposed of, it is appropriate to open a new account called an ‘Asset Disposal Account’.
It provides a complete and clear view of all the transactions involved in the sale of an asset and shows the profit or loss on the sale of the asset.
When Provision for Depreciation A/c is not maintained:
a) For transferring the book value of the asset sold to the Asset Disposal Account:
Asset Disposal A/c Dr.
To Asset A/c
b) For recording sale proceeds of the asset:
Bank A/c Dr.
To Asset Disposal A/c
c) For gain on an asset disposed of:
Asset Disposal A/c Dr.
To Gain on Sale of Asset A/c
In case of loss, the above entry will be reversed.
When provision for depreciation A/c is maintained:
a) For transferring the original cost of the asset sold to the Asset Disposal Account:
Asset Disposal A/c Dr.
To Asset A/c
For transferring the accumulated depreciation of the asset sold to the asset disposal account:
Provision for depreciation A/c Dr.
To Asset Disposal A/c
b) For recording sale proceeds of the asset:
Bank A/c Dr.
To Asset Disposal A/c
c) For gain on an asset disposed of:
Asset Disposal A/c Dr.
To Gain on the sale of asset A/c
In case of loss, the above entry will be reversed.