Depreciation: Methods and Journal Entries

Depreciation is the gradual reduction in the value of a fixed asset, like machinery, furniture, a computer or a vehicle, over its useful life, recorded as an expense each year. An asset wears out and loses value as it's used, and depreciation spreads that loss across the years the asset serves the business, instead of dumping it all in one year. The two main methods are the Straight Line Method (SLM) and the Written Down Value (WDV) method. This lesson explains both with examples and shows exactly how to pass the depreciation journal entry.

Why we charge depreciation

Suppose a business buys a machine for ₹1,00,000 that will last 10 years. It would be wrong to show the full ₹1,00,000 as an expense in year one, the machine helps earn income for 10 years, so its cost should be spread over those 10 years. Depreciation does this: it charges a portion of the asset's cost as an expense each year, matching the cost to the years that benefit. This gives a truer picture of profit each year and a truer value of the asset on the Balance Sheet. It's a core accounting concept and a common exam and interview topic.

Key terms

• Cost: what you paid for the asset.
• Useful life: how many years the asset is expected to be used.
• Scrap (salvage) value: the estimated value at the end of its life.
• Book value (WDV): the asset's value in the books after deducting depreciation so far.

Method 1: Straight Line Method (SLM)

SLM charges the same amount of depreciation every year. It's the simplest method.

Formula:

Depreciation per year = (Cost − Scrap value) / Useful life

Example: A machine costs ₹1,00,000, scrap value ₹10,000, useful life 9 years.

Depreciation = (1,00,000 − 10,000) / 9 = ₹10,000 per year

So ₹10,000 is charged as depreciation each year for 9 years. Simple and even.

Method 2: Written Down Value (WDV)

WDV (also called the reducing balance method) charges a fixed percentage on the reducing book value each year. So depreciation is higher in early years and smaller later, reflecting that assets often lose more value when new.

Example: A machine costs ₹1,00,000, depreciated at 20% WDV.

• Year 1: 20% of ₹1,00,000 = ₹20,000. Book value = ₹80,000.
• Year 2: 20% of ₹80,000 = ₹16,000. Book value = ₹64,000.
• Year 3: 20% of ₹64,000 = ₹12,800. Book value = ₹51,200.

The depreciation amount falls each year because it's calculated on the reducing balance.

SLM vs WDV, side by side

The depreciation journal entry

Depreciation is a non-cash expense (no money leaves), so it's recorded with a journal entry:

Depreciation A/c      Dr   [amount]
   To Asset A/c              [amount]
(Being depreciation charged on the asset)

• Depreciation A/c is debited because it's an expense (expenses are debited).
• The Asset A/c is credited because the asset's value is reduced.

Example: charging ₹10,000 depreciation on machinery:

Depreciation A/c   Dr   10,000
   To Machinery A/c        10,000

At year-end, depreciation appears as an expense in the Profit & Loss account, and the asset's reduced value appears in the Balance Sheet.

Worked example (full flow)

A business buys furniture for ₹50,000, depreciated at 10% SLM (₹5,000/year):

• Year-end journal: Depreciation A/c Dr ₹5,000 / To Furniture A/c ₹5,000.
• In the P&L: ₹5,000 depreciation reduces profit.
• On the Balance Sheet: furniture now shows ₹45,000 (₹50,000 − ₹5,000).

Next year, another ₹5,000 is charged, furniture becomes ₹40,000, and so on.

Real-world scenario (why accountants must know this)

Every business with assets, and that's almost all of them, charges depreciation at year-end. If an accountant forgets it, profit is overstated (because a real expense was missed) and the asset is overvalued on the Balance Sheet, which misleads the owner and can cause tax problems. Depreciation is also often asked in accounting interviews, both the concept and the entry. And the method matters for tax: different rules can apply for accounting vs income-tax depreciation. An accountant who confidently explains SLM vs WDV and passes the entry correctly stands out as someone who understands accounting, not just data entry.

Pro tips

• Use SLM for assets that wear evenly (furniture, buildings) and WDV for assets that lose value fast early (vehicles, computers).
• Remember depreciation is a non-cash expense, so it's always a journal entry (F7 in Tally).
• Charge it at year-end so the P&L and Balance Sheet are accurate.
• Keep the asset's cost, scrap value and life recorded, so the calculation is easy to repeat each year.

Common mistakes

• Forgetting to charge depreciation. This overstates profit and overvalues the asset. Don't skip year-end depreciation.
• Wrong side in the entry. Depreciation is debited (an expense); the asset is credited (value reduced).
• Mixing up SLM and WDV. SLM is a fixed amount; WDV is a fixed % on the reducing balance. Use the right formula.
• Using cash entries. Depreciation involves no cash, so it's a journal entry, not a payment.

Key takeaways

• Depreciation spreads an asset's cost over its useful life as a yearly expense.
• SLM charges a fixed amount; WDV charges a fixed % on the reducing balance.
• The entry: Depreciation A/c Dr, To Asset A/c (a journal entry, no cash).
• It reduces profit in the P&L and the asset's value on the Balance Sheet.

Practice task

A computer costs ₹40,000 with a 4-year life and no scrap value. Calculate the yearly depreciation under SLM. Then calculate the first two years under WDV at 25%. Finally, write the journal entry to charge the first year's SLM depreciation.

Master depreciation, adjustments and final accounts in the ADFA program at HCI.