Module-111

Depreciation

1
 DEPRECIATION

INTRODUCTION
Every business acquires some non-trading fixed assets. These fixed assets are used in the business
for facilitating its trading activities and enhancing its revenue earning capacity. These assets are
basically purchased for the business with the intention of permanent use and not for resale.

All fixed assets except the value of land decreases with the passage of time. The value of these
assets decreases each year. Such gradual reduction or decrease in the value of fixed assets for
the purpose of earning revenue is called depreciation. Depreciation is closely related with the
determination of profit or loss for the period. Unless depreciation is charged to the revenues,
the true income of the business cannot be ascertained properly. As such, depreciation is a
revenue expense.

MEANING AND DEFINITION

The value of assets gradually reduces on account of use. Such reduction in value is known as
depreciation. Different authors have given different definitions of depreciation, such as:

"Depreciation may be defined as the permanent continuous diminution in the quality, quantity
or value on an asset." (By Pickles)

"Depreciation is the gradual permanent decrease in the value of an asset from any cause." (By
Carter)

"Depreciation is the reduction in the value of a fixed asset occasioned by physical wear and
tear, obsolescence or the passage of time." (Northcott& Forsyth)

CAUSES OF DEPRECIATION
The main causes of depreciation may be divided into two categories, namely:

Causes of
Depreciation

Internal External
Causes Causes

Wear & Tear Depletion Obsolescence Efflux of Time Accident

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I Internal Causes:
Depreciation which occurs for certain inherent normal causes, is known as internal depreciation.
The main causes of internal depreciation are:

1. Wear and Tear:

Some assets physically deteriorate due to wear and tear in use. More and more use of an asset,
the greater would be the wear and tear. Physical deterioration of an asset is caused from
movement, strain, friction, erasion etc. An obvious example of this is motor car which rapidly
wears out. Other assets like this are building, plant, machinery, furniture, etc. The wear and
tear is general but primary cause of depreciation.

2. Depletion:
Some assets decline in value proportionate to the quantum of production, e.g. mine, quarry etc.
With the raising of coal from coal mine the total deposit reduces gradually and after sometime
it will be fully exhausted. Then its value will be reduced to nil.

II External Causes:
Depreciation caused by some external reasons is called external depreciation. The main external
causes are as follows:

1. Obsolescence:
Some assets, although in proper working order, may become obsolete. For example, old machine
becomes obsolete with the invention of more economical and sophisticated machine whose
productive capacity is generally larger and cost of production is therefore less. To survive in the
competitive market, the manufacturers must install new machines replacing the old ones. Again,
it may happen that the articles produced by old machine are no longer saleable in the market
on account of change of habit and taste of the people. In such a case the old machine, although
in good working condition, must be discarded and the new one purchased.

2. Efflux of Time:
Some assets diminish in value on account of absolute passage of time, even though they are not
used e.g., leasehold property, patent right, copyright etc. Suppose we take a lease of a house
for 10 years for Rs10,000. Its annual depreciation will be Rs1,000 (10,000/10), irrespective of
whether the house has been used or not, because with the end of lease after 10 years, the house
will go out of possession.
3. Accident:
Assets may be destroyed by abnormal reasons such as fire, earthquake, flood etc. In such a case
the destroyed asset must be written off as loss and a new one purchased.

3
NEED FOR DEPRECIATION

The Need for depreciation arises for the following reasons:

True Profit or True Cost of True Valuation Replacement of

Social Intact
Loss Production of Assets Assets

Ascertainment of True Profit or Loss:

Depreciation is a loss. So unless it is considered like all other expenses and losses, true profit or
loss cannot be ascertained. In other words, depreciation must be considered to into out true
profit or loss of a business.

Ascertainment of True Cost of Production:

Goods are produced with the help of plant and machinery which incurs depreciation in the
process of production. This depreciation must be considered as a part of the cost of production
of goods. Otherwise, the cost f production would be shown less than the true cost. Sales price
is fixed normally based on cost of production. So, if the cost of production is shown less by
ignoring depreciation, the sale price will also be fixed at low level resulting in a loss to the
business.

True Valuation of Assets:

Value of assets gradually decreases on account of depreciation, if depreciation is not considered,
the value of asset will be shown in the books at a figure higher than its true value and hence the
true financial position of the business will not be disclosed through balance sheet.

Replacement of Assets:
After sometime an asset will be completely exhausted on account of use. A new asset must then
be purchased requiring a large sum of money. If the whole amount of profit is withdrawal from
business each year without considering the loss on account of depreciation, necessary sum may
not be available for buying the new asset. In such a case the required money is to be collected
by introducing fresh capital or by obtaining loan or by selling some other assets. This is contrary
to sound commerce policy.

Keeping Capital Intact:

Capital invested in buying an asset, gradually diminishes on account of depreciation. If loss on
account of depreciation is not considered in determining profit or loss at the year end, profit
will be shown more. If the excess profit is withdrawal, the working capital will gradually reduce,
the business will become weak and its profit earning capacity will also fall.

4
 DEPRECIATION METHODS

Fixed assets differ from each other in their nature so widely that the same depreciation
methods cannot be applied to each. The following methods have therefore been evolved for
depreciating various assets:
1. Fixed installment or Straight line or original cost method.
2. Diminishing Balance Method or Written down value method or Reducing Installment
method.
3. Annuity Method.
4. Depreciation fund method or Sinking fund amortization fund method.
5. Sum of the year's digits method (SYD).
6. Insurance policy method.
7. Revaluation method.
8. Double declining balance method.
9. Depletion method.
10. The basis of use system.

FIXED INSTALLMENT METHOD / STRAIGHT LINE METHOD/ ORIGINAL COST METHOD

Fixed installment method is also known as straight line method or original cost method. The
Straight-Line Method (SLM) of Depreciation reduces the value of an asset consistently till it
reaches its scrap value. A fixed amount of depreciation gets deducted from the value of the
asset on an annual basis. The depreciation amount can be calculated using the below formula:

Formula:
The following formula or equation is used to calculate depreciation under this method:
[(𝐶𝑜𝑠𝑡 𝑜𝑓 𝑡ℎ𝑒 𝐴𝑠𝑠𝑒𝑡 + 𝐼𝑛𝑠𝑡𝑎𝑙𝑙𝑎𝑡𝑖𝑜𝑛 𝐸𝑥𝑝𝑒𝑛𝑠𝑒𝑠) − 𝑆𝑐𝑟𝑎𝑝]
Depreciation =
𝐸𝑠𝑡𝑖𝑚𝑎𝑡𝑒𝑑 𝑙𝑖𝑓𝑒 𝑜𝑓 𝐴𝑠𝑠𝑒𝑡

Advantages:
1. Simple method: Fixed instalment method of depreciation is simple and easy to work out.
2. Complete written off: The book value of the asset can be reduced to zero at the expiry
of its useful life.
3. Knowledge of total depreciation: the total depreciation charged can be easily known
by multiplying the yearly amount of depreciation with number of years the machinery
has been used.
4. Useful for lesser value assets: this method is most useful for the assets which are having
lesser in value such as furniture, fixtures, etc.

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Disadvantages:
1. Undue pressure on final years: This method, despite its being simplest is not very
popular because whereas each year's depreciation charge is equal, the charge for repairs
and renewals goes on increasing as the asset becomes older. The result is that the profit
and loss account have to bear a light burden in the initial years of the asset but later on
this burden becomes heavier.
2. Illogical method: it seems illogical to charge depreciation on the original cost of the
asset every year when the balance is declining year after year.
3. Loss of interest: Interest on money is locked up in the asset is not considered as is done
in some other methods.
4. No provision for the replacement of the asset is made.

ACCOUNTING PROCEDURE OF STRAIGHT-LINE METHOD

Step-1: analyse when do the accounts are closed whether the firm follows accounting year or
calendar year. (Accounting year starts from 1st April to 31stMarch. Calendar year starts from 1st
January to 31st December)

Step-2: debit the asset account with bank for purchase. Add-up installation expenses if any.

Step-3: write off the fixed amount of depreciation which is derived from the bellow
mentioned formula, at the end of every year, on credit side of the asset account.

if depreciable percentage is given, if depreciable percentage is not given,

Depreciation Depreciation
𝑃𝑒𝑟𝑐𝑒𝑛𝑡𝑎𝑔𝑒 [(𝐶𝑜𝑠𝑡 𝑜𝑓 𝑡ℎ𝑒 𝐴𝑠𝑠𝑒𝑡 + 𝐼𝑛𝑠𝑡𝑎𝑙𝑙𝑎𝑡𝑖𝑜𝑛 𝐸𝑥𝑝𝑒𝑛𝑠𝑒𝑠) − 𝑆𝑐𝑟𝑎𝑝]
= cost of the Asset X =
100 𝐸𝑠𝑡𝑖𝑚𝑎𝑡𝑒𝑑 𝑙𝑖𝑓𝑒 𝑜𝑓 𝐴𝑠𝑠𝑒𝑡

Step-4: if further asset is purchased, continue the process as done earlier.

Step-5: if the asset is sold then follow the following process:

Profit/ loss on sale of Asset:

Face value of the asset at purchase time XXXX
Less: Depreciation upto sale, from purchase XXX
Original cost of the asset XXX
Sale proceeds XXX
Profit/ loss on sale of Asset: XX
• If earned profits by sale of asset then show it on debit side of asset account and
if loss occurs then on credit side of asset account.

Step-6: balance the asset account.

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 CASES

Model 1 Single machine purchase

1. Rani purchased machinery for Rs. 10,000 on 1-1-2020. The estimated life of the machinery
is ten years and scrap at the end is Rs. 1,500. Depreciation is to be written-off by fixed
instalment method. Show the machinery account for first four years.

Solution:
(𝐶𝑜𝑠𝑡 𝑜𝑓 𝑡ℎ𝑒 𝑎𝑠𝑠𝑒𝑡+ 𝐼𝑛𝑠𝑡𝑎𝑙𝑙𝑎𝑡𝑖𝑜𝑛)− 𝑆𝑐𝑟𝑎𝑝 (10,000+0)−1500
𝐃𝐞𝐩𝐫𝐞𝐜𝐢𝐚𝐭𝐢𝐨𝐧 = 𝐿𝑖𝑓𝑒 𝑜𝑓 𝑡ℎ𝑒 𝑎𝑠𝑠𝑒𝑡
= 10
= 850

Dr. Machinery Account Cr.

Date Particulars Rs. Date Particulars Rs.
2020 2020
Jan.1 To Bank (cost) 10,000 Dec.31 By Depreciation 850
By Balance c/d 9,150
10,000 10,000
2021 2021
Jan.1 To Balance b/d 9,150 Dec.31 By Depreciation 850
By Balance c/d 8,300
9,150 9,150
2022 2022
Jan.1 To Balance b/d 8,300 Dec.31 By Depreciation 850
By Balance c/d 7,450
8,300 8,300
2023 2023
Jan.1 To Balance b/d 7,450 Dec.31 By Depreciation 850
By Balance c/d 6,600
7,450 7,450
2024
Jan.1 To Balance b/d 6,600

Practice Problems
2. Shiva purchased machinery for Rs. 15,000 on 1-1-2010. The estimated life of the machinery is
ten years and scrap at the end is Rs. 3,000. Depreciation is to be written-off by fixed installment
method. Show the machinery account for first four years.

3. Madhu purchased machinery for Rs. 50,000 on 1-1-2020. The estimated life of the machinery
is ten years and scrap at the end is Rs. 5,000. Depreciation is to be written-off by fixed
installment method. Show the machinery account for first four years.

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Model 2 Single machine purchase with installation expenses
4. Swathi Company Limited acquired a machine costing Rs.1, 20,000 on 1st January 2005 and
installed at a further cost of Rs.10, 000. The life of the machine is 10 years. The company follows
fixed installments system to provide depreciation. Show the machine account and depreciation
account for 5 years.
Solution:
(𝐶𝑜𝑠𝑡 𝑜𝑓 𝑡ℎ𝑒 𝑎𝑠𝑠𝑒𝑡+ 𝐼𝑛𝑠𝑡𝑎𝑙𝑙𝑎𝑡𝑖𝑜𝑛)− 𝑆𝑐𝑟𝑎𝑝 (1,20,000+10,000)−0
𝐃𝐞𝐩𝐫𝐞𝐜𝐢𝐚𝐭𝐢𝐨𝐧 = 𝐿𝑖𝑓𝑒 𝑜𝑓 𝑡ℎ𝑒 𝑎𝑠𝑠𝑒𝑡
= 10
= 13,000
Dr. Machinery Account Cr.
Date Particulars Rs. Date Particulars Rs.
2005 2005
Jan.1 To Bank (cost) 1,20,000 Dec.31 By Depreciation 13,000
To Bank (Installation) 10,000 By Balance c/d 1,17,000
1,30,000 1,30,000
2005 2006
Jan.1 To Balance b/d 1,17,000 Dec.31 By Depreciation 13,000
By Balance c/d 1,04,000
1,17,000 1,17,000
2007 2007
Jan.1 To Balance c/d 1,04,000 Dec.31 By Depreciation 13,000
By Balance c/d 91,000
1,04,000 1,04,000
2008 2008
Jan.1 To Balance b/d 91,000 Dec.31 By Depreciation 13,000
By Balance c/d 78,000
91,000 91,000
2009 2009
Jan.1 To Balance b/d 78,000 Dec.31 By Depreciation 13,000
By Balance c/d 65,000
78,000 78,000
2010
Jan.1 To Balance b/d 65,000

Dr. Depreciation Account Cr.

Date Particulars Rs. Date Particulars Rs.
2005 2005
Dec.31 To Machinery a/c 13,000 Dec.31 By Profit & Loss a/c 13,000
13,000 13,000
2006 2006
Dec.31 To Machinery a/c 13,000 Dec.31 By Profit & Loss a/c 13,000
13,000 13,000
2007 2007
Dec.31 To Machinery a/c 13,000 Dec.31 By Profit & Loss a/c 13,000
13,000 13,000
2008 2008
Dec.31 To Machinery a/c 13,000 Dec.31 By Profit & Loss a/c 13,000
13,000 13,000
2009 2009
Dec.31 To Machinery a/c 13,000 Dec.31 By Profit & Loss a/c 13,000
13,000 13,000

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 5. Mr. X Company Limited acquired a machine costing Rs.1, 50,000 on 1st January 2010 and
installed at a further cost of Rs.10, 000. The life of the machine is 10 years. The company follows
fixed installments system to provide depreciation. Show the machine account and depreciation
account for 5 years.

6. A firm purchases a plant for Rs.10,000 on 1st January 2000. Installation charges are Rs.2,000.
Plant is estimated to have a scrap value of Rs.1,000 at the end of its useful life of five years.
You are required to prepare plant account for five years charging depreciation according to
straight line method.

Model 3 Single machine purchase and sold

7. Rajesh purchased a second-hand machine for Rs.18, 000 on 1st April, 1996. He spent Rs.2, 000
on overhaul, and installations, depreciation is written off at 10 per cent per annum on the
original cost. On 30th June, 1999, the machine was found to be unsuitable and sold for Rs.4, 000.
Prepare the machine account from 1996 to 1999 assuming that the accounts are closed on 31st
December every year.

Solution:
Dr. Machinery a/c Cr.
Date Particulars Rs. Date Particulars Rs.
1996 To Bank 20,000 1996 By Depreciation 1,500
Ap.1 (18000+2000) Dec.31 By Balance c/d 18,500
20,000 20,000
1997 1997 By Depreciation 2,000
Jan.1 To Balance b/d 18,500 Dec.31 By Balance c/d 16,500

18,500 18,500
1998 To Balance b/d 16,500 1998 By Depreciation 2,000
Jan.1 Dec.31 By Balance c/d 14,500
16,500 16,500
1999 1999
Jan.1 To Balance b/d 14,500 June.30 By Depreciation 1,000
By Profit & Loss a/c 9,500
By Bank 4,000

14,500 14,500

Working notes:
Calculation of Depreciation:
𝑃𝑒𝑟𝑐𝑒𝑛𝑡𝑎𝑔𝑒 10
Depreciation = cost of the Asset X 100
Depreciation = 20,000 X 100= Rs. 2,000

In the given problem, the Asset is not used for full year at the first year, it is used only for 9
months, hence the depreciation for used months only considered.

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 𝑈𝑠𝑒𝑑 𝑚𝑜𝑛𝑡ℎ𝑠 9
Depreciation Amount X 2,000 X = 𝑅𝑠. 1,500
12 12
Profit/ Loss on sale of Asset
Face value of the purchased asset as on 1-4-1996 20,000
Less: Depreciation @ 10% upto 31-12-1996 (2,000X9/12) 1500
Face value of the asset as on 1-1-1997 18,500
Less: depreciation @ 10% upto 31-12-1997 2000
Face value of the asset as on 1-1-1998 16,500
Less: depreciation @ 10% upto 31-12-1998 2000
Face value of the asset as on 1-1-1999 14,500
Less: depreciation @ 10% upto sale on 30-6-1999 (2,000X6/12) 1000
Actual value of the asset at the time of sale 13,500
Sale proceeds 4000
Loss on Sale of asset 9,500

8. Pradeep purchased a second-hand machine for Rs.20, 000 on 1st April, 2006. He spent Rs.5,
000 on overhaul, and installations, depreciation is written off at 10 per cent per annum on the
original cost. On 30th June, 2009, the machine was found to be unsuitable and sold for Rs.6,
000. Prepare the machine account from 2006 to 2009 assuming that the accounts are closed on
31st December every year.

9. Pradeep purchased a second-hand machine for Rs.20, 000 on 1st April, 2006. He spent Rs.5,
000 on overhaul, and installations, depreciation is written off at 10 per cent per annum on the
original cost. On 30th June, 2009, the machine was found to be unsuitable and sold for Rs.6,
000. Prepare the machine account from 2006 to 2009 assuming that the accounts are closed on
31st December every year.

Model 4 Three Machines- one sold

10. Raja Limited Company purchased on 1st January 2001 a small plant for Rs.10,000 on 1st July
in the same year, an additional plant was purchased costing Rs. 5,000. On 1st October 2003 the
plant purchased on 1st January, 2001 having become obsolete, is sold off for Rs. 6,750. On the
same date, a fresh plant was purchased for Rs. 12, 000. Depreciation is provided at 10% p.a. on
the straight-line method. Prepare Plant account and Depreciation account for three years
assuming that the accounts are closed on 31st December every year.

SOLUTION:
Working Notes:

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 Profit/ Loss on sale of Asset
Face valu of the purchased asset as on 1-1-2001 10,000
Less: Depreciation @ 10% upto 31-12-2001 1000
Face value of the asset as on 1-1-2002 9,000
Less: depreciation @ 10% upto 31-12-2002 1000
Face value of the asset as on 1-1-2003 8,000
Less: depreciation @ 10% upto sale on 1-10-2003 (1,000X9/12) 750
Actual value of the asset at the time of 7,250
sale
Sale proceeds 6,750
Loss on Sale of asset 500

Dr. Plant Account Cr.

Date Particulars Rs. Date Particulars Rs.
2001 2001
Jan.1 To Bank( P1) 10,000 Dec.31 By Depreciation
10,000x10/100 1,000
250 1,250
5,000x10/100x6/12
July 1 To Bank( P2) 5,000 By Balance c/d 13,750
15,000 15,000
2002 1-1-2002 13,750 31-12-2002
Jan.1 To Balance b/d By Depreciation
15,000x10/100 1,500
By Balance c/d 12,250
13,750 13,750
2003 2003
Jan.1 To Balance b/d 12,250 Oct.1 By Depreciation 750
Octo.1 To Bank (P3) 12,000 By Profit & Loss 500
By Bank(P1) 6,750
Dec.31 By Depreciation
5,000x10/100 500
300 800
12,000x10/100x3/12
Balance c/d 15,450
24,250 24,250
Dr. Depreciation Account Cr.
Date Particulars Rs. Date Particulars Rs.
2001 2001
Dec.31 To Plant a/c 1,250 Dec.31 By Profit & Loss a/c 1,250
1,250 1,250
2002 2002
Dec.31 To Plant a/c 1,500 Dec.32 By Profit & Loss a/c 1,500
1,500 1,500
2003 2003
Oct.1 To Plant a/c 750 Dec.31 By Profit & Loss a/c 1,550
2003
Dec.31 To Plant a/c 800
1,550 1,550

11. Padmaja Limited Company purchased on 1st January 2001 a small plant for Rs.20,000 on 1st
July in the same year, an additional plant was purchased costing Rs. 5,000. On 1st October 2003

11
the plant purchased on 1st January, 2001 having become obsolete, is sold off for Rs. 16,750. On
the same date, a fresh plant was purchased for Rs. 22, 000. Depreciation is provided at 20% p.a.
on the straight-line method. Prepare Plant account and Depreciation account for three years
assuming that the accounts are closed on 31st December every year.

12. Amitha Ltd. purchased second hand machinery on 1st January, 1995 for Rs.60,000 and
immediately spent Rs.40,000 on overhauling. On July 1st, 1995 additional plant costing Rs.50,000
was purchased. On July 1st, 1997 the machinery acquiring on 1st January, 1995 having become
obsolete was sold off for Rs.20,000. On the same date another machinery was purchased at a
cost of Rs.1, 20,000.
Depreciation was provided annually on 31st December @ 10% per annum on the original cost
of the machine. Show machinery account as it appeared at the end of each year from January,
1995 to 31st December, 2000.

13. On July 1st, 2000, a company purchased second hand machinery for Rs.80, 000 and spent
Rs.12, 000 on overhauling. On 1st January, 2001 the company has purchased another machinery
for Rs.48, 000. On 30th June, 2002, the machinery purchased on 1st January, 2001 was sold for
Rs.32, 000 and on 1st July, 2002, a fresh plant was installed at a cost of Rs.60,000. The company
provides depreciation at 10% on the original cost. The accounts are closed every year on 31st
March. Show the Machinery Account.

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 DIMINISHING BALANCE METHOD

Introduction:
Under straight line depreciation, a business recognizes an equal amount of depreciation expense
for every year an asset is in service. The reducing balance method loads more depreciation into
the first years of an asset's life. This works well if the business wants a larger immediate tax
deduction, but it reduces depreciation tax breaks for subsequent years.

Definition and Explanation:

Diminishing balance method is also known as written down value method or reducing
installment method. Under this method the asset is depreciated at fixed percentage calculated
on the debit balance of the asset which is diminished year after year on account of depreciation.

Advantages of Diminishing Balance Method:

1. The strongest point in favor of this method is that under this, the total burden imposed
on profit and loss account due to depreciation and repairs remains equal year after year
since the amount after depreciation goes on diminishing with the passage of time
whereas the amount of repairs goes on increasing an asset grow older.
2. Separate calculations are unnecessary for additions and extensions, though in the first
year some complications usually arise because of additions are generally made in the
middle of the year.
Disadvantages of Diminishing Balance method:
1. This method ignores the question of interest on capital invested in the asset and the
replacement of the asset.
2. This method cannot reduce the book value of an asset to zero if it is desired.
3. Very high rate of depreciation would have to be adopted otherwise it will take a very
long time to write an asset down to its residual value

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ACCOUNTING PROCEDURE FOR REDUCING BALANCE METHOD

Under the reducing balance method, the asset is depreciated at a higher percentage rate than
it would be under straight line depreciation. To calculate depreciation under the reducing
balance method, follow these steps:

Step-1: Calculate the straight-line depreciation percentage based on useful life for the first
year.

Step-2: calculate the depreciation on the Reduced Value (face value which derived after
deducting the first year’s depreciation in the assets value.)

Step-3: Subtract accumulated depreciation from the asset's original value to find current book
value.
Step-4: Repeat until the asset is fully depreciated.

Model 1 Single machine

1. On 1st January, 2010, a merchant purchased plant and machinery costing Rs 25,000. It has
been decided to depreciate it at the rate of 20 percent p.a. on the Diminishing Balance Method
(written down value method). Show the plant and machinery account in the first three years.
Plant and Machinery Account
Debit Side Credit Side
Date Rs Date Rs
2010 Jan. 1 To Bank 25,000 2010 Dec. 31 By Depreciation 5,000*
By Balance c/d 20,000

25,000 25,000

2011 Jan. 1 To Balance b/d 20,000 2011 Dec. 31 By Depreciation 4,000**

By Balance c/d 16,000

20,000 20,000

2012 Jan. 1 To Balance b/d 16,000 2012 Dec. 31 By Depreciation 3,200***

By Balance c/d 12,800

16,000 16,000

Formula or equation for the depreciation calculation may be written as follows:

*First year: 25,000 × 20% = 5000
**Second Year: (25000 - 5000) × 20% = 4,000
***Third Year: [25000 - (5,000 + 4,000)] × 20% = 3,200

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 2. On 1st January, 2010, Kishore purchased plant and machinery costing Rs 15,000. It has been
decided to depreciate it at the rate if 10 percent p.a. on the diminishing balance method
(written down value method). Show the plant and machinery account in the first three years.

3. A company purchased machinery on 1st January, 2007 for Rs.38, 000 and spent Rs.2, 000 on
its erection. Depreciation is written off at 10% under Reducing Installment Method. Show the
Machinery Account for 3 years, assuming that the accounts are closed on 31st December of every
year.

Model 2: Two machines

4. Anil purchases a machinery on 1st July 2000 for Rs.50, 000. He purchases one more machine on 1 st
October 2001 for Rs.20, 000. He charges depreciation @ 10% per annum on diminishing balance method.
Show Machinery Account for three years assuming that the books are closed on 31 st December every
year.

Solution: 2
Dr. Machinery a/c Cr.
Date Particulars Rs. Date Particulars Rs.
2000 2000 By Depreciation 2,500
July 1 To Bank a/c (M1) 50,000 Dec.31 Rs.50,000 x 10/100 x 6/12
By Balance c/d 47,500
50,000 50,000
2001 2001 By Depreciation
Jan.1 To Balance b/d 47,500 Dec.31 M1- 47,5000 x 10/100 4,750
Oct.1 To Bank a/c(M2) 20,000 M2- 20,000 x 10/100 x 3/12 500
By Balance c/d 62,250
67,500 67,500
2002 2002
Jan.1 To Balance b/d 62,250 Dec.31 By Depreciation
Rs.62,250 x 10/100 6,225
By Balance c/d 56,025
62.250 62,250
2003
Jan.1 To Balance b/d 56,025

5. Amar purchases machinery on 1st July 2010 for Rs.1, 00, 000. He purchases one more machine
on 1st October 2011 for Rs.40, 000. He charges depreciation @ 10% per annum on diminishing
balance method. Show Machinery Account for three years assuming that the books are closed on
31st December every year.

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6. On 1st January, 2007, a firm purchases machinery worth Rs.50, 000. On 1st July, 2009, it buys
additional machinery worth Rs.10, 000 and spends Rs.1, 000 on its erection. The accounts are
closed each year on 31st December. Assuming the annual depreciation to be 10%, Show the
machinery account for 3 years under reducing installment method.

Model 3: Single machine purchase and sale

7. On 1st July 2000, Ram Mohan purchased a second-hand machine for Rs.18,000 and spent Rs.2,000 on
its repairs and installation. On 30th June 2003, the machinery was disposed-off for a sum of Rs.13,600.
Assuming that the books are closed on 31st December each year and taking the rate of depreciation at
10% p.a. on diminishing balance method. Show the machinery a/c.

Solution:
Machinery Account
Dr. Cr.
Date Particulars Rs. Date Particulars Rs.
2000 2000
July 1 To Bank 20,000 Dec.31 By Depreciation
(18,000 + 2,000) 20,000 x 10/100 x 6/12 1,000
By Balance c/d 19,000
20,000 20,000
2001 2001
Jan.1 To Balance b/d 19,000 Dec.31 By Depreciation 19,000 x 10/100 1,900
By Balance c/d 17,100
19,000 19,000
2002 2002
Jan.1 To Balance b/d 17,100 Dec.31 By Depreciation 17,100 x 10/100 1,710
By Balance c/d 15,390
17,100 17,100
2003 2003
Jan.1 To Balance b/d 15,390 June 30 By Depreciation 770
Rs.15,390 x 10/100 x 6/12
By Bank 13,600
By Profit & Loss a/c loss (B./F) 1,020
15,390 15,390

Working Notes:

Profit/ Loss on sale of Machinery

Face valu of the purchased asset as on 1-7-2000 20,000
Less: Depreciation @ 10% upto 31-12-2000 2000X9/12 1000
Face value of the asset as on 1-1-2001 19,000
Less: depreciation @ 10% upto sale on 31-12-2001 19000X10/100 1900
Face value of the asset as on 1-1-2002 17100
Less: depreciation @ 10% upto sale on 31-12-2002 17100x10/100 1710

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 Face value of the asset as on 1-1-2003 15390
Less: depreciation @ 10% upto sale on 30-6-2003 15390x10/100x6/12 770
Actual value of the asset at the time 30-6-2003 14,620
of sale
Sale proceeds 13,600
Loss on Sale of Machinery 1,020

8. On 1st July 2000, Murali purchased a second-hand machine for Rs.75,000 and spent Rs.25,000
on its repairs and installation. On 30th June 2003, the machinery was disposed-off for a sum of
Rs.53,000. Assuming that the books are closed on 31st December each year and taking the rate
of depreciation at 10% p.a. on diminishing balance method. Show the machinery a/c.

9. On 1st July 2010, supriya purchased a machine for Rs.15,000 and spent Rs. 5,000 on its repairs
and installation. On 30th June 2013, the machinery was disposed off for a sum of Rs. 3,000.
Assuming that the books are closed on 31st December each year and taking the rate of
depreciation at 10% p.a. on diminishing balance method. Show the machinery a/c.

Model 4: Repairs to the Asset

10. On 1st January 2000, BajiRao purchased a second hand motor car for Rs. 1, 50,000 and paid Rs. 30,000
towards repairs. The estimated life of the car is ten years with a scrap value Rs. 20,000 at the end.
Prepare motar car A/c for four years writing off depreciation at 10% under reducing Balance Method?
Motor Car Account
Dr. Cr.
Date Particulars Rs. Date Particulars Rs.
2000 2000
Jan. 1 To Bank 1,50,000 Dec.31 By Depreciation
30,000 1,80,000 x 10/100 18,000
To Bank (Repairs)
By Balance c/d 1,62,000
1,80,000 1,80,000
2001 2001
Jan.1 To Balance b/d 1,62,000 Dec.31 By Depreciation 16,200
1,62,000 x 10/100
By Balance c/d 1,45,800
1,62,000 1,62,000
2002 2002
Jan.1 To Balance b/d 1,45,800 Dec.31 By Depreciation 14,580
145800 x 10/100
By Balance c/d 1,31,220
1,45,800 1,45,800
2003 2003
Jan.1 To Balance b/d 1,31,220 June 30 By Depreciation 13122
131220 x 10/100
1,18,098
1,31,220 1,31,220

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11. On 1st January 2010, Balaji purchased a second-hand motor van for Rs. 2, 00,000 and paid
Rs. 20,000 towards repairs. The estimated life of the van is 10 years with a scrap value Rs. 20,000
at the end. Prepare motor Van A/c for five years writing off depreciation at 10% under reducing
Balance Method?

12. Bajaj purchased a second-hand car on 1st January 2000, for Rs. 1, 50,000 and paid Rs. 50,000
towards repairs. The estimated life of the van is 10 years with a scrap value Rs. 10,000 at the
end. Prepare motor car A/c for four years writing off depreciation at 20% under reducing Balance
Method?

Model 5: Two machines purchase- One sold – different rates of depreciation

13. A company purchased a machinery costing Rs.48, 000 on 1 st January 1997 and installed it on the
same day incurring Rs.2,000 as installation expenses. The machine is to be depreciated at 20% per
annum under diminishing balance method. On 30 th June 2000, the company sold the machinery for
Rs.20,000 as it was unsuitable. On 1.7.2000 a latest machinery was purchased for Rs.75, 000. The new
machine is to be depreciated at 15% per annum under the same method. Show the machinery account
from 1997 to 2001 assuming that the account year ends on 31st December every year.

Solution:
Working Notes:
Profit/ Loss on sale of Machinery
Face valu of the purchased asset as on 1-1-1997 50,000
Less: Depreciation @ 20% upto 31-12-1997 50000X20/100 10000
Face value of the asset as on 1-1-1998 40,000
Less: depreciation @ 20% upto 31-12-1998 40000X20/100 8000
Face value of the asset as on 1-1-1999 32000
Less: depreciation @ 20% upto 31-12-1999 32000x20/100 6400
Face value of the asset as on 1-1-2000 25600
Less: depreciation @ 20% upto sale on 30-6-2000 25600x20/100x6/12 2560
Actual value of the asset at the time 30-6-2000 23,040
of sale
Sale proceeds 20,000
Loss on Sale of Machinery 3,040

Machinery Account
Date Particulars Rs. Date Particulars Rs.
1997 1997 31-12-97
Jan.1 To Bank (cost) (M1) 48,000 Dec.31 By Depreciation 10,000
50,000X20/100
To Bank 2,000 By Balance c/d 40,000
(installation charges)

50,000 50,000
1998 1998
Jan.1 To Balance b/d 40,000 Dec.31 By Depreciation 8,000

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 By Balance c/d 32,000
40,000 40,000
1999 1999
Jan.1 To Balance b/d 32,000 Dec.31 By Depreciation 6,400
By Balance c/d 25,600
32,000 32,000
2000 2000
Jan.1 To Balance b/d 25,600 July.1 By Depreciation 2,560
By Bank 20,000
By Profit & Loss a/c (Loss) 3,040
2000 2000
July 1 To Bank (M2) 75,000 Dec.31 By Depreciation 5,625
75000X15/100=11250X6/12
By Balance c/d 69,375

2001 1,00,600 2001 1,00,600

Jan.1 To Balance b/d 69,375 Dec.31 By Depreciation 10,406.25
By Balance c/d 58,968.75
69,375 69,375.00
2002 To Balance b/d 58,968.75
Jan.1

14. A company purchased a machinery costing Rs.50, 000 on 1st January 2008. The machine is to
be depreciated at 10% per annum under diminishing balance method. On 30th June 2010, the
company sold the machinery for Rs.40,000 as it was unsuitable. On 1.7.2010 a latest machinery
was purchased for Rs.50, 000. The new machine is to be depreciated at 15% per annum under
the same method. Show the machinery account from 2008 to 2011 assuming that the account
year ends on 31st December every year.

15. On 1-1-96, machinery was purchased for Rs.80,000. On 1-1-97, additions were made to the
machinery of Rs.40, 000. On 31-3-98 machinery purchased on 1-1-97 costing Rs.12,000 was sold
for Rs.11,000 and on 30-6-98, the machinery purchased on 1-1-96 costing Rs.32,000 was sold for
Rs.26,700. On 1-10-98, additions made to machine were Rs.20, 000. Depreciation was provided
at 10% p.a. on the diminishing balance method. Show the Machinery account for three years 1-
1-96 to 31-12-98.

16. A Company purchased a machine costing Rs.48,000 on 1-1-2000 and installed it on the same
day by incurring Rs.2,000 as installation expenses. The machine is to be depreciated at 20% p.a.
under the diminishing balance method. On 30.6.2003, the company sold the machine for
Rs.20,000 as it was unsuitable. On 1-7-2003, a latest machine was purchased for Rs.75,000. The

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new machinery is to be depreciated at 20% p.a. under the same method. Show the machinery
account from 2000 to 2004 assuming that the account year ends on 31st December every year.

17. A concern whose books are closed on 31st March purchased a machine for Rs.1, 50,000 on 1st
April 2000. Additional machinery was acquired for Rs.1, 00,000 on 30th September 2001 and for
Rs.25,000 on 1st April 2003. Certain machinery which was purchased for Rs.80,000 on 30th
September 2001, was sold for Rs.34,000 on 30th September, 2003.Give the machinery account
for the year ending 31st March 2004 charging depreciation at 10% per annum on the written down
value method.

18. On 1st January 1999 X purchased machinery for Rs.50,000. On 1st July 2000 additions were
made to the extent of Rs.10,000. On 1st April 2001 further additions were made to the extent of
Rs.6,400. On 30th June 2002 Machinery, the original value of which was Rs.8,000, On 1st January
1999 was sold for Rs.6,000. X close his books on 31st December each year. Depreciation is charged
at 10%. Show the Machinery account of Diminishing balance method.

ANNUITY METHOD OF DEPRECIATION

According to this method, the purchase of the asset concerned is considered an investment of
capital, earning interest at certain rate. The cost of the asset and also interest thereon are
written down annually by equal installments until the book value of the asset is reduced to nil
or its bread up value at the end of its effective life. The annual charge to be made by way of
depreciation is found out from annuity tables. The annual charge for depreciation will be
credited to asset account and debited to depreciation account, while the interest will be debited
to asset account and credited to interest account.

Advantages:
1. This method takes interest on capital invested in the asset into account.
2. It is regarded as most exact and precise from the point of view of calculations; and is
therefore most scientific.

Disadvantages:
1. The system is complicated.
2. The burden on profit and loss account goes on increasing with the passage of time
whereas the amount of depreciation charged each year remains constant. The amount
of interest credited goes on diminishing as years pass by, the ultimate consequence being
that the net burden on profit and loss account grows heavier each year.

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 3. When the asset requires frequent additions and extensions, the calculation have to be
changed frequently, which is very inconvenient.

ILLUSTRATION:

1. A firm purchased a 5 years' lease for Rs40,000 on first January. It decides to write off
depreciation on the annuity method, presuming the rate of interest to be 5% per annum. Show
the lease account for the first 3 years. Calculations are to be made to the nearest rupee.

Annuity Table
Amount required to write off Rs1 by the annuity method.

Years 3% 3.5% 4% 4.5% 5%

3 0.353530 0.359634 0.360349 0.363773 0.367209

4 0.269027 0.272251 0.275490 0.278744 0.282012

5 0.218355 0.221418 0.224627 0.227792 0.230975

6 0.184598 0.187668 0.190762 0.193878 0.197017

7 0.160506 0.163544 0.166610 0.169701 0.172820

8 0.142456 0.145477 0.148528 0.151610 0.154722

Solution:
According to the annuity table given above, the annual charge for depreciation reckoning
interest at 5 percent p.a. would be:
230975 × 40,000 = Rs9,239
Lease Account
Debit Side Credit Side

Date Rs Date Rs
1st Year 1st Year
Jan. 1 To Cash 40,000 Dec. 31 By Depreciation 9,239
Dec. 31 To Interest 2,000 By Balance c/d 32,761

42,000 42,000

2nd 2nd
Year Year
Jan. 1 To Balance b/d 32,761 Dec. 31 By Depreciation 9,239
Dec. 31 To Interest 1,638 By Balance c/d 25,160

34,399 34,399

3rd
Year
Jan. 1 To Balance b/d 25,160 Dec. 31 By Depreciation 9,239

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Dec. 31 To Interest 1,258 By Balance c/d 17,179

26,418 26,418

3rd
Year
Jan. 1 To Balance b/d 17,170

2. Poorna purchased a 5 years' lease for Rs 1,00,000 on 1st January. It decides to write off
depreciation on the annuity method, presuming the rate of interest to be 20% per annum.
Show the lease account for the first 3 years. Calculations are to be made to the nearest rupee.

3. A lease is purchased on 1st January 2000 for 4 years at a cost of Rs.20, 000. It is proposed to
depreciate the lease by the annuity method charging 5 per cent interest. A reference to the
annuity table shows that to depreciate Re.1 by annuity method over 4 years, charging 5%
interest. The amount to be written off is Re.0.282012. Show the lease account and profit and
loss account for 4 years.

4. A lease is purchased on 1st January 2000 for 3 years at a cost of Rs.10, 000 and it was decided
to depreciate the lease by annuity method calculating interest at 5 percent per annum. A
reference to the annuity table shows that to depreciate Re.1 by annuity method over 3 years,
charging 5% interest, the amount to be written off is Re.0.367208. Show the lease a/c for 3 years
and also the relevant entries in the profit and loss account.

5. A lease is purchased on 1-1-1990 for 5 years at a cost of Rs.50, 000. It is proposed to depreciate
the lease by annuity method charging 5% interest p. a. A reference to the Annuity table shows
that to depreciate Re.1 by annuity method over 5 years. Charging 5% interest, the amount to be
written off is Re.0.230975. Show the lease account for 5 years and the relevant entries in the
profit and loss account.

6. A company has acquired a lease of a Cinema Hall for a term of 5 years by payment of Rs.4,
00,000. It is proposed to depreciate the lease by the annuity method charging 5% per annum.
Show the lease account for 5 years. Reference to the Annuity Table shows that the amount for
Re.1 for five years at 5% is Re.0.230975. Calculations are made to the nearest rupee.

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