BBA - II SEMESTER (FINANCIAL AND MANAGEMENT ACCOUNTING-II) Unit - I Depreciation - Straight Line Method , Written Down Value Method
Depreciation refers to the decrease in the value of an asset over time due to wear and tear, obsolescence, or any other factor that affects its usefulness or market value.
In accounting, depreciation is the process of allocating the cost of a long-term tangible asset (such as machinery, buildings, or vehicles) over its estimated useful life. This is done to reflect the decrease in the asset's value as it is used in the business, and to match the cost of the asset with the revenue generated by its use over time.
The calculation of depreciation is typically based on the cost of the asset, its estimated useful life, and its estimated salvage value (i.e., the value of the asset at the end of its useful life). Various methods can be used to calculate depreciation, including straight-line depreciation, declining balance depreciation, and sum-of-years-digits depreciation.
The straight-line method is a common method used to calculate depreciation. It is a simple and easy-to-understand method that allocates the cost of an asset evenly over its estimated useful life. Here's an overview of how the straight-line method works, along with some frequently asked questions and answers:
- How does the straight-line method work? The straight-line method calculates depreciation by dividing the cost of an asset by its estimated useful life. The formula for straight-line depreciation is:
Depreciation expense = (Asset cost - Salvage value) / Useful life
Where:
- Asset cost is the cost of the asset
- Salvage value is the estimated value of the asset at the end of its useful life
- Useful life is the estimated number of years the asset will be used in the business
The result is the annual depreciation expense, which is the amount that will be expensed on the company's income statement each year.
What are the advantages of using the straight-line method? The straight-line method is a simple and easy-to-understand method of depreciation. It allocates the cost of the asset evenly over its estimated useful life, which can make it easier for businesses to plan and budget for future expenses.
What are the limitations of the straight-line method? The straight-line method assumes that the asset will depreciate evenly over its useful life, which may not be the case in reality. It also does not take into account the time value of money, which means that it does not reflect the fact that money is worth more today than it will be in the future due to inflation.
Can the straight-line method be used for any type of asset? The straight-line method can be used for any type of asset that has a predictable useful life and a salvage value. It is commonly used for assets such as buildings, vehicles, and machinery.
How does the straight-line method affect the balance sheet and income statement? The straight-line method affects both the balance sheet and income statement. On the balance sheet, it reduces the value of the asset over time, which is reflected in the accumulated depreciation account. On the income statement, it reduces the net income by the amount of the annual depreciation expense.
Overall, the straight-line method is a common and straightforward way of calculating depreciation. It can be a useful tool for businesses to account for the decrease in value of their long-term assets over time.
Example 1: A company purchases a new machine for Rs. 100,000 with an estimated useful life of 5 years and an estimated salvage value of Rs. 20,000. What is the annual depreciation expense using the straight-line method?
Depreciation expense = (Asset cost - Salvage value) / Useful life Depreciation expense = (Rs. 100,000 - Rs. 20,000) / 5 Depreciation expense = Rs. 16,000 per year
So the annual depreciation expense for the machine using the straight-line method is Rs. 16,000.
here are some multiple-choice questions and answers related to the straight-line method of depreciation:
- What is the straight-line method of depreciation? A) A method of depreciation that allocates more expense in the earlier years of an asset's useful life B) A method of depreciation that allocates less expense in the earlier years of an asset's useful life C) A method of depreciation that allocates the same amount of expense each year of an asset's useful life D) A method of depreciation that is only used for intangible assets
Answer: C) A method of depreciation that allocates the same amount of expense each year of an asset's useful life.
- What is the formula for calculating annual depreciation expense using the straight-line method? A) (Asset cost - Salvage value) / Useful life B) Asset cost x Useful life C) Salvage value / Useful life D) (Asset cost + Salvage value) / Useful life
Answer: A) (Asset cost - Salvage value) / Useful life.
- What is the main advantage of using the straight-line method of depreciation? A) It is easy to understand and calculate B) It allocates more expense in the earlier years of an asset's useful life C) It takes into account the time value of money D) It is more accurate than other methods of depreciation
Answer: A) It is easy to understand and calculate.
- What is the main limitation of using the straight-line method of depreciation? A) It does not take into account the time value of money B) It allocates less expense in the earlier years of an asset's useful life C) It is more complex than other methods of depreciation D) It is not suitable for assets with unpredictable useful lives
Answer: A) It does not take into account the time value of money.
- Which of the following is an example of an asset that can be depreciated using the straight-line method? A) Land B) Patents C) Buildings D) Investments
Answer: C) Buildings.
- What is the salvage value of an asset? A) The cost to repair or maintain the asset B) The estimated value of the asset at the end of its useful life C) The initial cost of the asset D) The value of the asset at the time of purchase
Answer: B) The estimated value of the asset at the end of its useful life.
- Which of the following is not considered when using the straight-line method of depreciation? A) The initial cost of the asset B) The estimated salvage value of the asset C) The estimated useful life of the asset D) The market value of the asset
Answer: D) The market value of the asset.
What is written down value method ?
The written-down value method is a type of depreciation method used to calculate the decrease in the value of an asset over time. Also known as the reducing balance method or the declining balance method, this approach to depreciation involves applying a fixed percentage rate to the remaining book value of an asset each year.
Under this method, the depreciation expense for an asset in any given year is calculated as a percentage of its carrying value (i.e. the original cost of the asset less any accumulated depreciation). The percentage rate used in the calculation is typically determined by dividing 100 by the estimated useful life of the asset, resulting in a percentage known as the depreciation rate.
here are some sample questions related to the written-down value method of depreciation:
- What is the written-down value method of depreciation? A) A method of calculating depreciation using a fixed percentage rate applied to the original cost of an asset. B) A method of calculating depreciation using a fixed percentage rate applied to the remaining book value of an asset. C) A method of calculating depreciation based on the market value of an asset. D) A method of calculating depreciation based on the expected cash flows from an asset.
Answer: B) A method of calculating depreciation using a fixed percentage rate applied to the remaining book value of an asset.
- What is the main advantage of the written-down value method of depreciation? A) It allocates more expense in the earlier years of an asset's useful life. B) It allocates more expense in the later years of an asset's useful life. C) It is easier to understand and calculate than other methods. D) It provides a more accurate estimate of an asset's residual value.
Answer: A) It allocates more expense in the earlier years of an asset's useful life.
- Which of the following factors are used to calculate depreciation using the written-down value method? A) Cost and useful life B) Cost and salvage value C) Useful life and salvage value D) Cost, useful life, and salvage value
Answer: D) Cost, useful life, and salvage value.
- Suppose a company purchases a machine for Rs.50,000 with an estimated useful life of 10 years and a salvage value of Rs.5,000. Using the written-down value method with a depreciation rate of 20%, what is the depreciation expense in year 3? A) Rs.5,000 B) Rs.8,000 C) Rs.10,400 D) Rs.12,160
Answer: C) Rs.10,400. (Calculation: Year 1 depreciation = Rs.10,000; Year 2 depreciation = Rs.8,000; Year 3 depreciation = Rs.6,400; Total depreciation = Rs.24,400)
- Which of the following statements is true regarding the written-down value method of depreciation? A) It allocates the same amount of expense each year of an asset's useful life. B) It allows for a higher rate of depreciation in the earlier years of an asset's life. C) It is more suitable for assets with predictable useful lives. D) It is more accurate than the straight-line method.
Answer: B) It allows for a higher rate of depreciation in the earlier years of an asset's life.
Here are some more questions related to the written-down value method of depreciation:
- What is the formula for calculating depreciation using the written-down value method? A) Depreciation expense = (Cost - Salvage value) / Useful life B) Depreciation expense = Cost / Useful life C) Depreciation expense = (100 / Useful life) x Book value D) Depreciation expense = (Book value / Useful life) x Depreciation rate
Answer: D) Depreciation expense = (Book value / Useful life) x Depreciation rate
- Which of the following is NOT a factor that affects the calculation of depreciation using the written-down value method? A) Cost of the asset B) Useful life of the asset C) Depreciation rate D) Market value of the asset
Answer: D) Market value of the asset
- What happens to the depreciation expense each year using the written-down value method? A) It remains constant. B) It decreases over time. C) It increases over time. D) It is unpredictable.
Answer: B) It decreases over time.
- Which of the following is a disadvantage of the written-down value method of depreciation? A) It provides a more accurate estimate of an asset's residual value. B) It allocates more expense in the earlier years of an asset's useful life. C) It can result in a lower salvage value at the end of the asset's life. D) It is more suitable for assets with unpredictable useful lives.
Answer: C) It can result in a lower salvage value at the end of the asset's life.
- Which of the following is a situation where the written-down value method of depreciation is commonly used? A) Land B) Buildings C) Patents D) Machinery
Answer: D) Machinery
Question: A company purchases a machinery worth Rs. 100,000 with an estimated useful life of 5 years and a salvage value of Rs. 10,000. The company uses the straight-line method of depreciation. Prepare the depreciation schedule for the first 3 years and show the journal entries for the first year.
Solution:
Annual Depreciation Expense = (Cost - Salvage Value) / Useful Life = (Rs. 100,000 - Rs. 10,000) / 5 = Rs. 18,000 per year
Depreciation Schedule:
| Year | Beginning Book Value | Depreciation Expense | Ending Book Value |
|---|---|---|---|
| 1 | Rs. 100,000 | Rs. 18,000 | Rs. 82,000 |
| 2 | Rs. 82,000 | Rs. 18,000 | Rs. 64,000 |
| 3 | Rs. 64,000 | Rs. 18,000 | Rs. 46,000 |
Journal Entries for the First Year:
On the date of purchase: Machinery Account Rs. 100,000 Cash Account Rs. 100,000
On December 31, Year 1: Depreciation Expense Account Rs. 18,000 Machinery Account Rs. 18,000
Explanation: In the first year, the company will record the purchase of the machinery by debiting the machinery account and crediting the cash account. At the end of the year, the company will record the depreciation expense by debiting the depreciation expense account and crediting the Machinery account.
Depreciation is referred to as the reduction in the cost of a fixed asset in sequential order, due to wear and tear until the asset becomes obsolete.
Following are some of the multiple choice questions and answers, that will help the students in brushing up their understanding of the concept of depreciation.
Q1. The main objective of depreciation is
(a) To show the previous profit
(b) To calculate net profit
(c) To reduce tax
(d) To satisfy the tax department
Answer: B
Q2. Depreciation is generated due to
(a) Increase in the value of liability
(b) Decrease in capital
(c) Wear and tear
(d) Decrease in the value of assets
Answer: C
Q3 What is the purpose of making a provision for depreciation in the accounts?
(a) To charge the cost of fixed assets against profits
(b) To show the current market value of fixed asset
(c) To make cash available to replace fixed assets
(d) To make a provision for repairs
Answer: A
Q4. According to straight line method of providing depreciation, the depreciation
(a) Remains constant
(b) Increase each year.
(c) Decrease each year
(d) None of them.
Answer: A
Q5. Total amount of depreciation of an asset cannot exceed its
(a) Depreciable value
(b) Scrap value
(c) Market value
(d) None of these
Answer: A
Q6. According to fixed instalment method, the depreciation is calculated on
(a) Balance amount
(b) Original cost
(c) Scrap value
(d) None of them
Answer: B
Q.7 Salvage value means
(a) Definite sale price of the asset
(b) Cash to be received when life of the asset ends
(c) Cash to be paid when asset is disposed off
(d) Estimated disposal value
Answer: D
Q8. Depreciation is calculated under diminishing balance method, based on
(a) Original value
(b) Book value
(c) Scrap value
(d) None of them
Answer: B
Q9. Depreciation amount charged on a machinery will be debited to:
(a) Repair account
(b) Cash account
(c) Depreciation account
(d) Machinery account
Answer: C
Q10. In accounting, becoming out of date or obsolete is known as
(a) Amortization
(b) Obsolescence
(c) Depletion
(d) Physical deterioration
Answer: B
List of Depreciation MCQs
1. Define Depreciation?
- An increase in the value of an asset over time.
- Resource diminishes over the long run because of utilization.
- Assets that can quickly be turned into cash.
- Possession of assets over liabilities.
Answer: B) Resource diminishes over the long run because of utilization.
Explanation:
Depreciation, for example, an abatement in a resource's worth, might be brought about by various elements also, negative economic situations, and so forth Apparatus, hardware, money are a few instances of resources that are probably going to devalue throughout a particular timeframe. The inverse of devaluation is an appreciation which is an expansion in the worth of a resource throughout some period.
2. What is the principal objective of Depreciation?
- Show last year's profit.
- Show records to Income Tax Department.
- To get a tax rebate.
- To calculate net profit.
Answer: D) To calculate net profit
Explanation:
The primary target of giving depreciation is to ascertain the genuine benefit and give assets to the substitution of fixed resources.
3. What causes Depreciation?
- Loss of goods
- Purchase of Goods
- Increased Liability
- Wear & Tear
Answer: D) Wear & Tear
Explanation:
Any resource will bit by bit separate over a specific utilization period, as parts wear out and should be supplanted. At last, the resource can don't be fixed and should be discarded. This reason is generally normal for creation gear, which regularly has a maker's suggested life range that depends on a specific number of units delivered. Different resources, like structures, can be fixed and updated for significant periods.
4. What is the reason behind making a provision for depreciation in accounts?
- To show the current value of assets
- To show current liabilities
- To charge the cost of assets against profits
- To purchase new assets
Answer: C) To charge the cost of assets against profits
Explanation:
A depreciation arrangement can make an organization's accounting report all the more precisely mirror the current worth of the ventures it has made in fixed resources over the long haul.
5. The Depreciation remains constant according to which method?
- Sum of years digit
- Units of production
- Declining Balance
- Straight Line Method
Answer: D) Straight Line Method
Explanation:
It is the least difficult method for working out the deficiency of worth of a resource after some time. The straight-line is determined by splitting the distinction between a resource's expense and its normal rescue esteem by the number of years it is relied upon to be utilized.
6. What is Depreciable Value?
- The combined cost of purchase and installation of an asset can be depreciated minus its salvage value.
- The worth of a physical asset's components when the asset itself is deemed no longer usable.
- Represents the value of a company according to the stock market.
- The estimated resale value of an asset at the end of its useful life.
Answer: A) The combined cost of purchase and installation of an asset can be depreciated minus its salvage value
Explanation:
The depreciable worth of the resource is the joined expense of procurement and establishment of a resource that can be devalued shortly its rescue esteem.
7. What is Scrap Value?
- The combined cost of purchase and installation of an asset can be depreciated minus its salvage value
- The worth of a physical asset's components when the asset itself is deemed no longer usable
- Represents the value of a company according to the stock market
- The estimated resale value of an asset at the end of its useful life
Answer: B) The worth of a physical asset's components when the asset itself is deemed no longer usable
Explanation:
Scrap esteem is the value of an actual resource's singular parts when the actual resource is considered at this point not usable. The singular parts, known as scrap, merit something on the off chance that they can be put to different employments. Here and there scrap materials can be utilized with no guarantees and on different occasions, they should be handled before they can be reused.
8. Define Market Value?
- The combined cost of purchase and installation of an asset can be depreciated minus its salvage value
- The worth of a physical asset's components when the asset itself is deemed no longer usable
- Represents the value of a company according to the stock market
- The estimated resale value of an asset at the end of its useful life
Answer: C) Represents the value of a company according to the stock market
Explanation:
The market esteem addresses the worth of an organization as indicated by the securities exchange. It is the value a resource would get in the commercial centre. With regards to organizations, market esteem is equivalent to showcase capitalization. It is a dollar sum processed dependent on the current market cost of the organization's portions.
9. What is Salvage Value?
- The combined cost of purchase and installation of an asset can be depreciated minus its salvage value.
- The worth of a physical asset's components when the asset itself is deemed no longer usable.
- Represents the value of a company according to the stock market.
- The estimated resale value of an asset at the end of its useful life.
Answer: D) The estimated resale value of an asset at the end of its useful life.
Explanation:
Salvage Value is the assessed resale worth of a resource toward the finish of its helpful life. It is deducted from the expense of a proper resource for deciding how much the resource cost will be devalued. Accordingly, rescue esteem is utilized as a part of the deterioration computation.
10. What is Fixed Instalment Method?
- The amount of depreciation each year is fixed and equal.
- Way to work out the loss of value of an asset over time.
- System of recording larger depreciation expenses during the earlier years.
- An accelerated method for calculating an asset's depreciation.
Answer: A) The amount of depreciation each year is fixed and equal.
Explanation:
This is the most seasoned and most broadly utilized technique for devaluation. A proper measure of devaluation is charged each year during the lifetime of the resource. Toward the finish of the resource's helpful life (e.g., the finish of a machine's life), the worth of the resource will be zero.
11. What is the Straight-Line Method?
- The amount of depreciation each year is fixed and equal.
- Way to work out the loss of value of an asset over time.
- System of recording larger depreciation expenses during the earlier years.
- An accelerated method for calculating an asset's depreciation.
Answer: B) Way to work out the loss of value of an asset over time.
Explanation:
The straight-line method is a strategy for computing devaluation and amortization, the most common way of discounting a resource throughout a more drawn-out timeframe than when it was bought.
12. What is the Declining Balance Method?
- The amount of depreciation each year is fixed and equal.
- Way to work out the loss of value of an asset over time.
- System of recording larger depreciation expenses during the earlier years.
- An accelerated method for calculating an asset's depreciation.
Answer: C) System of recording larger depreciation expenses during the earlier years.
Explanation:
In bookkeeping, the declining balance technique is a sped-up deterioration procedure for recording bigger devaluation costs during the prior long stretches of a resource's helpful life while recording more modest devaluation during its later years.
13. What is Sum of Years Digit?
- The amount of depreciation each year is fixed and equal.
- Way to work out the loss of value of an asset over time.
- System of recording larger depreciation expenses during the earlier years.
- An accelerated method for calculating an asset's depreciation.
Answer: D) An accelerated method for calculating an asset's depreciation.
Explanation:
Sum of the years' digits (SYD) is a sped-up technique for ascertaining a resource's devaluation. This technique takes the resource's normal life and includes the digits for every year; so, on the off chance that the resource was supposed to keep going for a very long time, the number of the years' digits would be gotten by adding: 5 + 4 + 3 + 2 + 1 to get an aggregate of 15. Every digit is then isolated by this aggregate to decide the rate by which the resource ought to be devalued every year, beginning with the largest number in year 1.
14. What is the Unit of Production Method?
- The amount of depreciation each year is fixed and equal.
- Way to work out the loss of value of an asset over time.
- System of recording larger depreciation expenses during the earlier years.
- Method of calculating the depreciation of the value of an asset over time.
Answer: D) Method of calculating the depreciation of the value of an asset over time.
Explanation:
The unit of production technique is a strategy for computing the deterioration of the worth of a resource after some time. It becomes helpful when a resource's worth is all the more firmly connected with the number of units it delivers rather than the number of years it is being used. This technique regularly brings about more prominent allowances being taken for deterioration whenever the resource is vigorously utilized, which would then be able to counterbalance periods when the gear encounters less use.
15. Depreciation under Diminishing Balance Method is calculated on?
- Scrap Value
- Book Value
- Cash Account
- Repair
Answer: B) Book Value
Explanation:
As indicated by the Diminishing Balance Method, devaluation is charged at a proper rate on the book worth of the resource. This strategy depends on the understanding that in the prior years the expense of fixes to the resources is low and henceforth more measures of deterioration ought to be charged.
16. Depreciation on machinery will be debited in which account?
- Cash Account
- Balance Sheet
- Depreciation Account
- Machinery Account
Answer: C) Depreciation Account
Explanation:
The Depreciation charged on machinery will be debited in the Depreciation Account.
17. What is Amortization?
- Accounting techniques are used to periodically lower the book value of a loan.
- Notable reduction in the utility of an inventory item or fixed asset.
- Accrual accounting technique used to allocate the cost of extracting natural resources
- The loss in the physical efficiency of an asset as it ages.
Answer: A) Accounting techniques are used to periodically lower the book value of a loan.
Explanation:
Amortization is a bookkeeping method used to occasionally bring down the book worth of credit or an immaterial resource throughout a set timeframe. Concerning an advance, amortization centres around fanning out advance instalments over the long haul. When applied to a resource, amortization is like deterioration.
18. What is obsolescence?
- Accounting techniques are used to periodically lower the book value of a loan.
- Notable reduction in the utility of an inventory item or fixed asset.
- Accrual accounting technique used to allocate the cost of extracting natural resources
- The loss in the physical efficiency of an asset as it ages.
Answer: B) Notable reduction in the utility of an inventory item or fixed asset.
Explanation:
Obsolescence is an outstanding decrease in the utility of a stock thing or fixed resource. The assurance of oldness ordinarily results in a record of the stock thing or resource to mirror its decreased worth.
19. What is Depletion?
- Accounting techniques are used to periodically lower the book value of a loan.
- Notable reduction in the utility of an inventory item or fixed asset.
- Accrual accounting technique used to allocate the cost of extracting natural resources.
- The loss in the physical efficiency of an asset as it ages.
Answer: C) Accrual accounting technique used to allocate the cost of extracting natural resources.
Explanation:
Depletion for bookkeeping and monetary announcing objects is intended to aid in precisely recognizing the worth of the resources on the accounting report and recording costs in the fitting period on the pay articulation.
20. What is physical deterioration?
- Accounting techniques are used to periodically lower the book value of a loan.
- Notable reduction in the utility of an inventory item or fixed asset.
- Accrual accounting technique used to allocate the cost of extracting natural resources.
- The loss in the physical efficiency of an asset as it ages.
Answer: D) The loss in the physical efficiency of an asset as it ages.
Explanation:
Physical deterioration is the misfortune in the actual effectiveness of a resource as it ages. Effectiveness in this setting alludes to the resource's capacity to create several capital administrations for a given measure of information sources. It is equivalent to "mileage" or " rot".
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