Depreciation Accounting and Reserves/Provisions
Depreciation Accounting and Reserves/Provisions tests allocation of the cost of fixed assets and the distinction between charges and appropriations.
Core rules
- Depreciation is a systematic allocation of depreciable cost over useful life, not a valuation. Causes include wear and tear, obsolescence, passage of time and depletion.
- Straight-line method: (cost − residual value) ÷ useful life, same charge each year on original cost. Written-down value method: fixed % on opening book value, charge falls each year.
- Provision is a charge against profit for a known obligation with uncertain amount (depreciation, doubtful debts, taxation). Reserve is an appropriation of profit (general reserve, capital reserve, dividend equalisation reserve).
Worked example
Machine cost ₹1,00,000, residual ₹10,000, life 5 years. SLM = (1,00,000 − 10,000) ÷ 5 = ₹18,000 each year. WDV at 20%: Year 1 = ₹20,000; Year 2 = 20% of ₹80,000 = ₹16,000. Provision for doubtful debts: debtors ₹50,000, bad debts ₹2,000, provision 5% on ₹48,000 = ₹2,400; charge to P&L is ₹2,400 (plus bad debts).
Traps
Do not charge SLM on the reducing balance; do not treat a general reserve as an expense; a provision is shown as a deduction from the asset or as a liability; depreciation on additions depends on the date of purchase if the question specifies it.