Understanding Depreciation in Accounting: A Comprehensive Guide

What Can Be Depreciated in Business?

The depreciable property of businesses includes both types of assets, that are, tangible and intangible assets. The depreciated tangible property includes buildings, office equipment, vehicles, general business equipment, machinery, and furniture, and the intangible property includes patents, copyrights, and computer software.

Things that depreciate become less valuable. In accounting, when the costs of assets decrease systematically and become zero, it refers the depreciation. You must list the depreciation on the income statement of the business.

This article covers:

What Is Depreciation In Accounting?

An accounting method of business uses depreciation to account for the devaluation of its assets.

 Businesses allocate the cost of assets they purchase over time and deduct the costs gradually rather than deducting at once in a year in which it purchases these assets.

It helps a business match the assets’ costs to their resulting revenues. Besides, writing off the assets decrease the taxable income.

What Can And Cannot Be Depreciated?

A business can’t depreciate all its assets. Items that are cheap and have a short lifespan come under the category of business expenses. You can write off these expenses in the same year when they occur. 

For example, a printer or a computer is a fixed asset that depreciates every year, whereas other office supplies are expense items.

Which asset does not depreciate?

All the assets that depreciate are fixed assets, but it does not mean that all the fixed assets are depreciable. Depreciable assets must experience devaluation over time. For example, a piece of land is a fixed asset that does not depreciate since its actual value does not change. It is not possible to depreciate property for personal use.

Examples for non-depreciable assets are:

  • Land
  • Current assets such as cash in hand, receivables
  • Investments such as stocks and bonds
  • Personal property (Not used for business)
  • Leased property
  • Collectibles such as memorabilia, art, and coins

Examples for depreciable assets are:

It includes tangible assets, such as:

  • Manufacturing machinery
  • Vehicles
  • Office buildings
  • Buildings you rent out for income (both residential and commercial property)
  • Equipment, including computers

You can depreciate your intangible assets, including computer software, patents, and copyrights.

What Qualifies As a Depreciable Asset?

Depreciable assets refer to business assets that are eligible for depreciation according to IRS rules. According to IRS Publication 946, the property should fulfill the following requirements to qualify as a depreciable asset:

  • It must belong to you.
  • You must utilize it in your business or income productivity.
  • It must be useful for at least one year.

Why do assets depreciate?

Fixed assets are the business’s major expenses, including equipment and vehicles. These assets become useless after some time and need replacement. You can calculate the recovery costs of these assets through their depreciation. You can use this fund to replace the assets when they are useless.

Depreciation of assets helps reduce income tax deductions and does not affect the business’s cash flow.

How do you calculate depreciable assets?

There are different methods to calculate the depreciation expense, such as:

  • Straight-line depreciation method
  • MACRS depreciation method
  • The unit of production method
  • Double declining balance method

 The formula for straight-line depreciation method:

 Depreciation =                    Asset cost – Residual value

                                               No. of functioning years

The formula for MACRS depreciation:

           The cost basis of asset  x  Depreciation Rate

According to IRS, the proper method of depreciation for most properties is ‘ The Modified Accelerated Cost Recovery System (MACRS).’ It allows more tax deductions in starting years of assets but less in later years.

Knowing depreciable and non-depreciable assets helps the business to manage its expenses and avoid high-variable financial outcomes.

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