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3A. Depreciation

The document explains the concept of depreciation, highlighting the differences between the valuer's and accountant's definitions. It outlines the types and causes of depreciation, as well as methods for calculating it, including the Straight Line and Written Down Value methods. Additionally, it compares the regulations under the Income Tax Act and Companies Act, emphasizing the componentization of assets for depreciation purposes.

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Hitesh Rana
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29 views7 pages

3A. Depreciation

The document explains the concept of depreciation, highlighting the differences between the valuer's and accountant's definitions. It outlines the types and causes of depreciation, as well as methods for calculating it, including the Straight Line and Written Down Value methods. Additionally, it compares the regulations under the Income Tax Act and Companies Act, emphasizing the componentization of assets for depreciation purposes.

Uploaded by

Hitesh Rana
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PPTX, PDF, TXT or read online on Scribd
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DEPRECIATION

Animesh Thakur
WHAT IS DEPRECIATION?

First point to realize is that the valuer’s concept of depreciation is very different from
accountant’s concept of depreciation. This gives rise to many terminologies.

Valuer’s Definition : Reduction in the value of the property is called depreciation.

Accountant’s definition : Depreciation is the systematic allocation of the depreciable


amount of an asset over its useful life.
Depreciable Amount:
It is the cost of an asset, or other amount substituted for cost, less its residual value.

Useful Life:
1. The period over which an asset is expected to be available for use by an entity; or
2. The number of production or similar units expected to be obtained from the asset
by an entity.
Types of Depreciation

There are broadly three causes of depreciation (reduction in value) “

a) Physical or technical : From normal wear and tear

b) Functional : Due to internal causes like excess operating cost/excess capital


cost ,inefficient energy use etc.

c) Economic : Due to external reasons e.g. change in the economics of


industry , loss of raw material, legislation , reduced demand,
increased competition , operating restrictions etc.
Methods of Calculating Depreciation
1. Straight Line method : Used in Companies Act 2013

2. Salient Features :
a) Allocates the same fixed amount of depreciation in Rs every year
e.g. say Rs 10,000 per year and this amount remains fixed

b) Specifies a life of the asset

c) Specifies the residual value.

3. Method of Calculation :
Steps :
1. Calculate Depreciable value .
Depreciable Value (DV) = Initial Value(IV) – Residual Value(RV)

2. Calculate Annual Depreciation by dividing Depreciable value by total useful


life of the asset .
Annual Depreciation = DV/Total useful life

3. To calculate the depreciation up to a certain year multiply the number of


years by Annual Depreciation
Therefore Asset value after n years = Initial Value – n x Annual Depreciation
Methods of Calculating Depreciation
1. Written Down Value Method : Used in Income Tax Act 1961

2. Salient Features :
a) Allocates the same percentage of depreciation in Rs every year
e.g. say 10% of the value of the asset at the start of a year(Carrying Amount).
b) Does not specify the life of an asset

3. Method of Calculation :
Steps :
1. Calculate the Carrying Amount . For year 1 it is the given initial value of the asset.
Carrying amount for year N = Initial Value – Accumulated Depreciation till the start of year- n

2. Depreciation for Year n = Carrying Amount ( as in Step 1) x Percentage of Depreciation/100

3.To calculate the depreciation up to a certain year add all the depreciation so calculated in Step 1&2

EASY FORMULA : Avn = IV(1-r/100)^n

Avn = Asset Value at the end of year n : IV = Initial Value : r = % rate of depreciation
n = number of years elapsed in the life of the asset.
Differences between Companies Act and Income Tax Act
S. No. Income Tax Act 1961 Companies Act 2013
1 Based on Block of Assets Based on Individual Asset
Uses Written Down Value (WDV) Method Uses Straight Line Method (SLM), WDV, UOP(Unit of
2 of Calculation Production)
3 Rate Of Depreciation Based on Useful Life
Adoption of Lower rate of Depreciation
4 not permitted Deviation from useful life permitted
Residual Deviation from limit of residual value
specified in Schedule II, Part C, is permitted provided
that the financial statements shall disclose such
difference and provide justification in this behalf duly
5 Residual Value not prescribed supported by technical advice
6 100% depreciation for cost < Rs 5000 Does not specify
Decrease in life for extra shift (hence higher
7 Different rate for extra shift depreciation per year)
Useful life specified in part C of the schedule is for
whole of the asset. Where cost of a part of the asset
is significant to total cost of the asset and useful life
of that part is different from the useful life of the
Component accounting is not specified or remaining asset, useful life of that significant part
8 optional shall be determined separately.
Differences between Companies Act and Income Tax Act
What is a Componentization of Asset?

If fixed asset has two or more major components with substantially different useful lives,
these assets should be treated as separate components and depreciated over the
different useful lives. This is called componentization of Asset.

A part of the machinery is said to be a component which is having a significant value in


relation to the total cost of the asset and total useful life of the part is also significantly
different from the total useful life of the main asset. The component is treated as a
separate asset for treatment of depreciation as well as for capitalization of subsequent
expenditure on restoring or replacing.

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