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Non Performing Asset Disposition » Accounting For Disposition Of Asset

Determination Of Depreciation

Therefore, the going concern and financial period principles underlie the depreciation process. Fixed assets, in other words, merely represent deferred expenses and the depreciation process is simply a means of allocating the deferred expenses to the correct financial period. Thus, with depreciation the emphasis is on systematic and realistic apportionment of the expenses involved in using the fixed assets. Accordingly, the accounting balance sheet does not show the current market value of fixed assets, nor does the depreciation provided measure the decrease in value over a period.


The concept of depreciation as used in accounting does not imply the physical ageing of an asset. Depreciation is simply a process of apportionment and not a process of valuation. The depreciation provided fro a specific period is that portion of the total cost price of an asset allocated by this process to the period concerned.


It is not always easy to determine what portion of the depreciable amount of a fixed asset must be allocated to any specific period, since a variety of factors have to be taken into consideration. The following are significant factors:


Cost price - cost is the purchase price plus any additional expenses necessary to prepare an asset for use. Lifespan of an asset - the lifespan of an asset cannot be determined in advance and must, for accounting purposes, be estimated. This requires judgement, which is usually based on experience with similar assets. The present condition of the asset and the company's policy regarding the replacement of assets will also be determining factors. The lifespan of an asset can be measured in terms of time (duration of the asset's use), production (the total number of units an asset is expected to produce), or service (e.g. the distance it will travel), or some similar criterion.


It is usual to distinguish between the technical lifespan of a fixed asset and its economic lifespan. The technical lifespan is determined by factors relevant to the particular asset concerned. The technical lifespan of an asset terminates when it can no longer provide the service for which it was acquired, or maintenance costs become prohibitive. The economic lifespan is determined by external factors such as technological advancements (e.g. modernised production methods and changing fashions) and terminates, for example, when the asset's production capability becomes uneconomical because of such technological advancements.


Due to rapid technological development, the economic lifespan of an asset is often shorter than its technical lifespan. However, an asset whose economic lifespan has expired may be used for other purposes. The shorter of either the economic or the technical lifespan of an asset is regarded as its lifespan.


For accounting purposes, the useful lifespan of important depreciable assets should be reviewed periodically. Depreciation rates for current and future periods should be adjusted if the revised expected useful lifespan differs materially from the previous estimation. If necessary, the effect of such a change should be disclosed in the accounting period in which the change takes place.


Michael Russell Your Independent guide to Accounting


Source: www.a1articles.com