Understanding Depreciation
Comprehensive Guide to SLM and WDV Methods
What is Depreciation?
Depreciation is the systematic allocation of the cost of a tangible fixed asset over its useful life. It represents the decline in the value of an asset due to wear and tear, obsolescence, or passage of time. Depreciation is a non-cash expense that reduces the book value of assets on the balance sheet and is charged to the profit and loss account.
Straight Line Method (SLM)
Under the Straight Line Method, depreciation is charged at a fixed amount every year throughout the useful life of the asset. The annual depreciation remains constant.
5 Examples of SLM Depreciation
SLM Calculator
Written Down Value Method (WDV)
Under the Written Down Value Method (also known as Reducing Balance Method), depreciation is charged at a fixed percentage on the reducing balance of the asset. The depreciation amount decreases each year.
5 Examples of WDV Depreciation
WDV Calculator
Difference Between SLM and WDV
| Basis | Straight Line Method (SLM) | Written Down Value (WDV) |
|---|---|---|
| Depreciation Amount | Fixed amount every year | Decreasing amount each year |
| Calculation Basis | Calculated on original cost | Calculated on written down value |
| Book Value | Reduces uniformly | Reduces at a decreasing rate |
| Asset Value at End | Can reach zero or salvage value | Never reaches zero |
| Suitable For | Assets with uniform usage (furniture, buildings) | Assets with higher initial efficiency (vehicles, machinery) |
| Repair Costs | Increases over time | Lower initially, increases later |
| Total Impact | Lower depreciation + Higher repairs = Balanced | Higher depreciation + Lower repairs = Balanced |
| Recognition | Accepted by Companies Act | Accepted by Income Tax Act |
Need for Providing Depreciation
True Financial Position
Shows the actual value of assets on the balance sheet by reducing their book value over time.
Accurate Profit Calculation
Matches the cost of assets with revenue generated, ensuring true profit or loss is calculated.
Asset Replacement
Helps accumulate funds for replacing assets when they become obsolete or worn out.
Legal Compliance
Required by accounting standards and laws to maintain proper books of accounts.
Asset Valuation
Reflects the wear and tear, obsolescence, and decline in the value of fixed assets.
Tax Benefits
Depreciation is a tax-deductible expense, reducing taxable income and tax liability.
Factors to Consider While Computing Depreciation
Cost of Asset
The original purchase price of the asset including all expenses incurred to bring it to working condition (installation, transportation, etc.)
Estimated Useful Life
The expected period over which the asset will be used by the business, considering physical wear, technological obsolescence, and legal limits.
Salvage or Scrap Value
The estimated residual value of the asset at the end of its useful life, which can be realized through sale or disposal.
Method of Depreciation
The chosen method (SLM, WDV, etc.) which determines how depreciation will be calculated and allocated over the asset's life.
Legal and Tax Requirements
Compliance with Companies Act, Income Tax Act, and accounting standards (AS-6, Ind AS-16) which prescribe specific rates and methods.