Accounting – 4.2 Accounting for depreciation and disposal of non-current assets | e-Consult

Depreciation is the systematic allocation of the cost of a tangible asset over its useful economic life. It reflects the gradual decline in the value of an asset due to wear and tear, obsolescence, or usage.

It's an important concept for businesses for several reasons:

• Accurate Financial Reporting: Depreciation ensures that the cost of assets is spread over the period they benefit the business, providing a more realistic picture of profitability. Without depreciation, the entire cost of an asset would be expensed in the year of purchase, leading to an overstatement of profit in that year and an understatement in subsequent years.
• Matching Principle: Depreciation aligns with the matching principle of accounting, which requires expenses to be recognized in the same period as the revenues they help generate. The depreciation expense matches the revenue earned from using the asset.
• Tax Implications: Depreciation is often tax-deductible, reducing a company's taxable profit and resulting in lower tax liabilities.
• Asset Valuation: Depreciation helps determine the book value of an asset (cost less accumulated depreciation), which is important for asset valuation and decision-making.