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What is depreciation and what are the 2 methods of depreciating non-current assets?

It is a way of measuring the amount of the fall in value of NCAs over a period of time. It is perceived as a measure of the consumption of the asset over its useful economic lifetime.

It is a non-cash expense.

The two most common methods of calculating depreciation are:

Straight-line

Depreciation is calculated using the following formula:

(cost of the asset-residual value)/ nr of years an asset is expected to be used for

Reducing balance method

A fixed percentage is written off the reduced balance each year.

The reduced balance is the cost of the asset less depreciation to date.

The differences between the 2 methods are:

-Depreciation amount is the same each year when using the straight line method, reducing balance method on the contrary provides us with different money amounts each year: more than the straight line in the early years, less in the later years,

-When using the straight-line method, lower depreciation percentage is required to achieve the same residual value as with the reduced balance method,

-Straight-line method is suitable for fixed assets that are likely to be kept for the whole of their expected lives, whereas reducing balance method is best used for non-current assets which appreciate more in the early years and are not kept for the whole of their expected lives.

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