Depreciation is the process of deducting the total cost of something expensive you bought for your business. But instead of doing it all in one tax year, you write off parts of it over time. When you depreciate assets, you can plan how much money is written off each year, giving you more control over your finances. Depreciation ties the cost of using a tangible asset with the benefit gained over its useful life. There are many types of depreciation, including straight-line and various forms of accelerated depreciation. Accumulated depreciation refers to the sum of all depreciation recorded on an asset to a specific date.

Causes of Depreciation:

1. Wear and Tear:

Some assets physically deteriorate due to wear and tear in use. When an asset is constantly used for production, the asset wears out. More and more use of an asset, the greater would be the wear and tear. Physical deterioration of an asset is caused by movement, strain, friction, erosion etc. For instance, building, machinery, furniture, vehicles, plant etc. The wear and tear is general but pri­mary cause of depreciation.

2. Lapse of Time:

There are certain assets like leasehold property, patents, copy-right etc. that are acquired for a particular period. After the expiry of the period, they are rendered useless i.e. their value ceases to exist. Thus, their cost is written off over their legal life.

3. Obsolescence:

The appearance of new and improved machines results in the discarding of old machines. Thus new inventions, change in fashions and tastes, market conditions, Government policies etc. are the causes to discard the value of an asset. But this is not the cause of depreciation and not depreciation in the real sense.

4. Exhaustion:

Some assets are of wasting nature. For instance, quarries, mines, oil-well etc. It is the reduction in the value of natural deposits as resources have been extracted year after year. As such these assets are known as wasting assets. The coal mine or oil well gets physically exhausted by the removal of its contents.

5. Non-Use:

Machines that are idly lying become less and less useful with the passage of time. Certain types of machines exposed to weather conditions may have more depreciation from not using it than from its use.

6. Maintenance:

Good maintenance of a machine will naturally increase its life. When there is no maintenance, there is more depreciated value. When there is good maintenance, there is longer life to the machines. The long life of a machine depends upon good and skilled maintenance.

Need for Charging Depreciation:

  1. Correct calculation of Profits
  2. True and fair view in the Balance sheet
  3. Accurate ascertainment of cost
  4. Distribution of divided out profits only.
  5. Replacement of assets
  6. Saving in Income tax.

Factors Affecting depreciation:

  1. Cost of asset
  2. Estimated working life
  3. Salvage/Scrap value
  4. Provisions for repairs and renewals
  5. Legal provisions
  6. Additions to assets
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