If depreciation is credited directly to the fixed asset account, it may be difficult to determine the asset's historical cost after a few years.Ģ. The historical cost of a fixed asset is needed for a number of reasons, such as computing depreciation using the fixed installment method (also known as the straight line method) or the payment of rates and taxes. As no entry is made in the fixed asset account, it continues to show the historical cost of the asset. Keeping a separate provision for depreciation account for each fixed asset offers the following advantages:ġ. Step 2: Preparation of ledger accounts Advantages of Using a Separate Provision for Depreciation Account The depreciation charge for each of the six years of the machine's useful life is $3,000. Step 1: Compute depreciation for each yearĭepreciation per year = (Cost - Scrap value)/Useful life of the asset Required: Show the relevant ledger accounts for the years 2016, 2017, and 2018. The company uses the fixed installment method of depreciation and estimates that the machine will have a useful life of 6 years, leaving a scrap value of $2,000. PQR company bought a machine for $20,000 on 1 January 2005. If a fixed asset is recorded using the revaluation approach for calculating depreciation, it is usually not necessary (or beneficial) to maintain a separate provision for depreciation account for it.įor such assets, the treatment shown on the revaluation method is sufficient (i.e., depreciation may be directly credited to the fixed asset account). The formula for the book value of a fixed asset is the following:īook value = Cost (per fixed asset account) - Accumulated depreciation (per provision for depreciation account) Entry 7Īlthough one depreciation account is enough to accommodate the depreciation expense on all fixed assets for the year, a separate provision for the depreciation account must be maintained for each fixed asset account. The only entries that will be made in the fixed asset account will be in respect of fresh purchases or sales of the asset concerned. This account will continue to show a debit equal to the cost of the fixed asset concerned. No entry relating to depreciation is made in a fixed asset account. Also note that it will always show a credit balance that will increase each year.Īt any given time, the balance on a provision for depreciation account represents the total accumulated depreciation that has been provided against a particular asset. Note that the provision on depreciation account is not a nominal account, it is a part of the asset account. The balance of the provision for depreciation account is carried forward to the next year. The balance in depreciation expense account is transferred to the profit and loss account at the end of the year. Entry 2Īt the end of each financial year, debit the depreciation expense account and credit the provision for depreciation (on relevant fixed asset account) with the amount of depreciation calculated for the year.Ĭredit the provision for depreciation on the relevant fixed asset Entry 3 Similarly, for plant and machinery, there will be a "plant and machinery account" and also one "provision for depreciation on plant and machinery account". For example, for a motor vehicle account, a "provision for depreciation on motor vehicle account" will also be opened. One provision for depreciation account is opened for every fixed asset account. If a provision for depreciation account is used, the accounting entries are made as follows: Entry 1 Entries in Provision for Depreciation Account This account is used to accumulate depreciation that is provided against a fixed asset. A provision for depreciation account is an improvement over the accounting treatment of depreciation.
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