A shop owner in Gwalior buys a
printing machine for ₹5,00,000. Three years later, he looks at his books and
says, "The machine still works perfectly. Why should I reduce its value
every year?"
That sounds sensible at first.
Then another question appears. If
the machine helps earn revenue every year, should the entire cost sit in one
year's accounts? Or should that cost slowly move into different years where the
machine actually helped the business earn money?
I remember a learner once saying to
me, "Sir, the machine didn't disappear, so why are we treating it as an
expense?" The interesting part is that accounting is not tracking whether
a machine physically exists. It is tracking how much economic benefit remains.
That small shift changes everything.
This brings us to depreciation methods — because businesses don't just reduce asset values randomly. They follow specific approaches depending on how the asset is expected to lose value.
What
is Depreciation Methods?
Depreciation methods are systematic
ways of allocating the cost of a fixed asset over its useful life. Different
depreciation methods calculate expense differently depending on how an asset
loses value, wears out, or generates benefits for a business.
Common depreciation methods include
the Straight Line Method (SLM), Written Down Value Method (WDV), Units of
Production Method, and Sum of Years Digits Method. The objective is to match
asset cost with the periods benefiting from its use.
Depreciation
Methods Explained Simply
Think of buying shoes.
Suppose you buy a pair for ₹4,000.
If you wear them occasionally, they may last years. If you run daily marathons
wearing them, they may wear out quickly.
Assets behave similarly.
The purpose behind depreciation
methods is simple: different assets lose usefulness differently. A laptop may
become outdated because technology changes. A delivery truck may lose value due
to heavy usage. A factory building may decline slowly over many years.
That is why one single depreciation
approach cannot fit every situation.
Let's break the logic step by step:
Step 1: A business purchases an
asset.
Examples include machinery,
computers, furniture, vehicles, or buildings.
Step 2: The asset starts helping
generate revenue.
The machine produces goods. The
vehicle delivers products. The computer helps process business work.
Step 3: The value gradually reduces.
Reduction may happen because of:
- Physical wear and tear
- Technological obsolescence
- Passage of time
- Usage level
Step 4: An accounting method spreads
cost across years.
Instead of charging the entire cost
immediately, accounting allocates it gradually.
One thing beginners miss is this:
Depreciation is usually not about
market price.
A car purchased for ₹10 lakh may
sell for ₹7 lakh after two years, but accounting depreciation may show a
different amount entirely because accounting follows rules and estimates rather
than market emotions.
Professionals also think about
another layer: tax treatment and financial reporting impact.
Two businesses may own identical
machines and still use different depreciation methods because their reporting
objectives differ.
Pause and think about something: if
two machines cost the same amount but one runs 20 hours daily and another runs
only 2 hours daily, should both lose value equally?
Probably not.
That question gave birth to multiple
depreciation methods.
Depreciation
Methods Formula
Straight
Line Method (SLM)
Depreciation = (Cost − Residual
Value) ÷ Useful Life
Written
Down Value Method (WDV)
Depreciation = Book Value ×
Depreciation Rate
Units
of Production Method
Depreciation per Unit = (Cost −
Residual Value) ÷ Estimated Total Units
Sum
of Years Digits Method
Depreciation = Remaining Useful Life
÷ Total Years Sum × Depreciable Cost
Depreciation
Methods Solved Example
Business Scenario — Indian
Manufacturing Unit
A small Jaipur furniture
manufacturer purchases a cutting machine for ₹4,00,000.
Estimated useful life = 5 years
Residual value = ₹50,000
Owner wants to compare methods.
Teacher: Which method should we apply first?
Student: Straight Line Method.
Step 1:
Depreciable Amount
= ₹4,00,000 − ₹50,000 = ₹3,50,000
Step 2:
Annual depreciation
= ₹3,50,000 ÷ 5 = ₹70,000
Therefore:
Year 1 asset value:
₹4,00,000 − ₹70,000 = ₹3,30,000
Now using WDV at 20%:
Year 1 depreciation:
₹4,00,000 × 20% = ₹80,000
Remaining value:
₹3,20,000
Year 2:
₹3,20,000 × 20% = ₹64,000
Remaining value:
₹2,56,000
Interpretation:
Straight Line Method produces equal
expense every year.
Written Down Value Method produces
higher depreciation initially and lower amounts later.
The surprising part? Two methods,
same machine, different annual profits.
Exceptions
and Special Cases in Depreciation Methods
Some situations do not fit regular
treatment.
1. Land normally is not depreciated
Land generally has an unlimited life
and therefore does not lose value in the same accounting sense.
2. Intangible assets
Patents and copyrights generally
follow amortization rather than normal depreciation.
3. Change in estimate
Suppose management initially
estimates a machine will last 10 years but later discovers it will last only 6
years.
Future depreciation calculations may
change.
4. Component accounting
Large assets sometimes contain major
components with different useful lives.
Example:
An aircraft engine and aircraft body
may be depreciated separately.
Common
Mistakes to Avoid
Wrong: "Depreciation means cash
goes out every year."
Right: "Depreciation is a
non-cash expense. Cash was paid when purchasing the asset."
Wrong: "All assets use one
depreciation method."
Right: "Different assets may
require different methods depending on usage patterns."
Wrong: "Depreciation equals
market value reduction."
Right: "Accounting depreciation
follows estimates and accounting rules."
How
to Think About Depreciation Methods in Real Life
Imagine you own a delivery company
in India.
You are purchasing two assets:
- Office furniture
- Delivery trucks
Furniture usage remains fairly
stable over years.
Delivery trucks lose value much
faster because of heavy use.
A professional accountant would not
blindly apply one method to both.
Thinking process:
Step 1: Understand how the asset
creates benefit.
Step 2: Estimate how quickly
benefits reduce.
Step 3: Match expense pattern with
benefit pattern.
Step 4: Consider financial statement
and tax implications.
That judgment is where accounting
slowly becomes business thinking.
Exam
Tip
Examiners frequently give
depreciation questions where useful life or residual value changes midway.
First calculate depreciation until the date of change, then revise future
calculations. Mixing old and new estimates together usually costs marks.
Quick
Recap
• Depreciation methods allocate
asset cost across useful life.
• Different assets lose value
differently.
• SLM creates equal annual
depreciation.
• WDV creates higher depreciation
initially.
• Depreciation does not mean cash
payment.
• Market value and accounting value
may differ.
Frequently
Asked Questions
Q: What is the most common
depreciation method?
A: Straight Line Method and Written
Down Value Method are commonly used because they are simple and suitable for
many business situations.
Q: How to calculate depreciation
under SLM?
A: Subtract residual value from
asset cost and divide by useful life.
Q: Why is depreciation charged?
A: Depreciation follows the matching
concept by allocating asset cost across periods receiving benefits.
Q: What is the difference between
SLM and WDV?
A: SLM gives equal yearly expense,
while WDV applies depreciation on reducing balance values.
Q: Which depreciation method is used
for tax purposes?
A: Tax treatment depends on
applicable rules and regulations. In India, WDV is commonly seen in several tax
calculations.
Q: Can land be depreciated?
A: Normally no. Land generally has
an unlimited useful life.
Q: Why do businesses use different
methods?
A: Different assets consume benefits
differently, so businesses select methods that reflect economic reality.
Related
Terms
→ Accumulated Depreciation
→ Fixed Assets
→ Residual Value
→ Book Value
→ Amortization
→ Useful Life
→ Depreciation Expense
→ Asset Valuation
Related
Guides
→ How does accumulated depreciation
affect the balance sheet and profit calculation?
A business rarely fails because of a
wrong formula; sometimes it begins with misunderstanding where value quietly
disappears.
AUTHOR BIO: Hi, I'm Manoj Kumar —
MBA, with hands-on experience in accounting, taxation, and business concepts.
Most students don't struggle with commerce itself; they struggle because no one
breaks it down properly. That's what I focus on with Learn with Manika: simple,
logical steps that make concepts stick, whether you're prepping for exams or
just want to understand how things actually work.
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