Accounting
Depreciation
Depreciation is the fall in value of a fixed asset overtime. It is an expense in profit & loss and it is used to find the NBV in balance sheet (Cost-Depreciation). A fixed asset can depreciate due to many reasons such as:
1.Wear/Tear-Physical damage like scratches
2.Rust/Erosion/Decay-Natural damage that occur if the fixed asset isn't well protected.
3.Obsolescence-This is when a fixed asset is too old.
4.Inadequacy-The fixed asset can no longer satisfy the business in terms of quality or quantity.
When a fixed asset is disposed of, the amount received is called the residual/scrap value.
Methods of Depreciation
Straight line method-In this method, depreciation remain constant each year. We use the following equation:
Reducing balance method-In this method, depreciation changes every year depending on the NBV of the previous year.
Double Entry for Depreciation
Instead of depreciation being in the fixed asset a/c, we create a new a/c called provision for depreciation instead. Evertime there is a depreciation, we credit the provision for depreciation a/c. In addition, if the business want to dispose a fixed asset, we must follow these steps:
1.Debit the disposals a/c and credit the fixed asset a/c with the purchase cost of the fixed asset.
2.Debit the provision a/c and credit the disposals a/c with the depreciation figure.
3.Debit the cash book and credit the disposals a/c with the actual residual value.
4.If the amoiunt on debit side of the disposal a/c is higher, this is a loss for the profit & loss a/c. On the other hand, if the amount is smaller, it is consider as a profit which will be recorded under gross profit.
Accruals & Prepayments
Accruals concept- This is an accounting concept where we record the amount we are supposed to pay (ignore accruals or prepayments) instead of the actual amount. This applies to profit & loss a/c while in cash book, we don't follow this concept.
Accruals-This occurs when there is still an amount left outstanding and we must pay it. This will be a current liability in the balance sheet.
Prepayments-This occurs when we pay something early before we are supposed to. This will be a current asset in the balance sheet.
