Why is it necessary to account for depreciation?
submitted by Rathnanigans

John Wu

Because it allocates the cost of your fixed asset over its useful life. If it was not done, your books wouldn't accurately measure the value of your asset, because assets lose value over time. that has to be accounted for somewhere.

You can match expenses with the periods in which the asset generates revenue for you. This shows the costs (depreciation) associated with the work you've done.

wicks_trainer

We need to account for depreciation because assets like machines or cars lose value over time. Spreading out the cost helps show a more realistic picture of how much the asset is worth and how much expense it causes each year.

Daniel

Depreciation helps in reducing the book value of an asset gradually. That lines up the expense of it losing value with the period it's losing value in.

If you didn't track it, profits could look higher than they really are during an asset's useful life. Like, if you bought a $50,000 truck, but now it's a beater that's only worth $1,000, you'd have to account for that huge loss of value somewhere. If not, you'd be overstating your assets by $49,000, which is no small number.

Senior Wonka

Think of depreciation like eating a big chocolate bar over several days. It's being used up. It's not entirely there like it used to be. That's your asset. It's being used up. It ain't what it used to be.

Now, it's hard to measure exactly when it's losing value, so you pick a depreciation method. Straight line is the most simple. You basically say, "this asset will lose $1,000 of value each month."

Realistically, your asset isn't losing value at a predictable rate each day. At first it has most of its useful life left, so you can start the depreciation slowly. Later on you can accelerate it. With a piece of equipment that breaks down a lot and needs lots of repairs, this approach makes a lot of sense. Near the end of its life, it's less of an asset than it used to be.

sifu

It's necessary to record depreciation because it reflects the normal wear and tear on assets like equipment.

You would deb depreciation expense and credit accumulated depreciation. Now the asset's book value decreases over time.

makinitgreat

Depreciation is just like keeping track of how much value our stuff loses as it gets older. If we didn't do that, our financial reports wouldn't really show how much the asset is worth anymore.

Your 1992 Ford Pickup is not worth the original MSRP when it was released. Depreciation is a way of being realistic about a thing's value.