Accumulated depreciation appears in a contra asset account on the balance sheet reducing the gross amount of fixed assets reported. Depreciation expense is an expense and is therefore treated as an expense account, but unlike most expenses, there is no related cash outflow. When the asset was originally purchased, the company had a net cash outflow in the entire amount of the purchased asset, so over time, there is no further cash-related activity. Hence, as an expense, depreciation is recorded on the income statement to represent how much of an asset’s value has been used up for that year.
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The income statement account Depreciation Expense is a temporary account. Therefore, at the end of each year, its balance is closed and the account Depreciation Expense will begin the next year with a zero balance. When an asset is disposed of the credit balance in Accumulated Depreciation is reduced when the asset’s credit balance is removed by debiting Accumulated Depreciation. Subsequent years’ expenses will change based on the changing current book value. For example, in the second year, current book value would be $50,000 – $10,000, or $40,000.
The basic journal entry for depreciation is to debit the Depreciation Expense account (which appears in the income statement) and credit the Accumulated Depreciation account (which appears in the balance sheet as a contra account that reduces the amount of fixed assets).
Double-entry accounting was pioneered by Franciscan monk Luca Pacioli in the 15th century. Introduction Accountants use debits and credits to record each business transaction and generate financia… The IRS requires businesses to depreciate specific assets using the Modified Accelerated Cost Recovery System . For instance, automobiles depreciate over five years, and commercial real estate is depreciated over 39 years. Still, there are two methods primarily used for the calculation – straight line and double-declining balance.
Therefore, if the total cost of the fixed assets is, for example, $4,000 and the total provision for depreciation stands at $3,200, it can be seen that the fixed assets are nearing their useful life. A separate provision for depreciation account ensures that the total accumulated depreciation is always known for each fixed asset. For debit or credit depreciation expense such assets, the treatment shown on the revaluation method is sufficient (i.e., depreciation may be directly credited to the fixed asset account). If a fixed asset is recorded using the revaluation approach for calculating depreciation, it is usually not necessary to maintain a separate provision for depreciation account for it.
A normal depreciation account is a debit in nature since it is an expenditure, while accumulated depreciation is of credit in nature as it is initially recorded when the depreciation account is recorded as an expense.