USA An engineer groking accumulated depreciation

[Tom Haws]

New member here. I mailed in my first articles of incorporation yesterday. The non-profit engineering company is afloat.

Now I have decided to "go to school" about accounting. I want to understand the equation of accounting, etc. I want to understand the fundamentals. So I may be here from time to time.

My question at the moment is about the accumulated depreciation asset account. How close am I to getting the idea of this based on my explanation below?

You buy a car for $10,000. After 10 years, you depreciate it to zero. But to reflect the fact that you still in fact own the car, your accumulated depreciation asset account for that car now has a bunch of debits that now show a $10,000 balance.

1. Is the purpose of the balance really "to reflect the fact that you still own the car"? If not, does the balance have any real meaning?

2. Is the fact that this asset account stands at $10,000 even though the car is no longer worth that much a reflection of the idea that you do not actually take the loss until you retire or sell the car?

3. It's possible to have a large amount of accumulated depreciation artificially inflating the Assets? This is in fact an overstatement of assets? Does that matter, or am I misunderstanding the meaning of assets (confusing it with equity?) in accounting?

4. All these debits to the accumulated asset accounts do not show up in equity accounts because they are merely offsets of depreciation expense account credits?

Thanks for your help with a newbie. I am interested in learning this.

Tom

 

[Fidget]

Welcome to the board!

When you buy the asset, it goes on the balance sheet at its cost. It's then depreciated over its useful life - 10 years in your example. This is done by charging the Profit & Loss with the amount of depreciation each year. The entries are:

Dr: Profit & Loss: Depreciation Charge
Cr: Balance Sheet: Accumulated Depreciation

So, you can see that it's actually credits that are in are in the accumulated depreciation account. And, because both the asset account and the accumulated depreciation account are in the balance sheet, this has the effect of reducing the value of the asset over each period until it is fully depreciated - ie, has a value of zero.

Hope this helps explain.

 

[kirby]

1. Is the purpose of the balance really "to reflect the fact that you still own the car"? If not, does the balance have any real meaning?

Fidget covered this above.

2. Is the fact that this asset account stands at $10,000 even though the car is no longer worth that much a reflection of the idea that you do not actually take the loss until you retire or sell the car?

The car will have a "net book value" , which is the net of the accounting cost DEBIT less the accounting accumulated depreciation CREDITS. This will rarely equal its 'actual market value." The difference between the car's net book value at sale and the sale price will be your gain or loss on sale.

3. It's possible to have a large amount of accumulated depreciation artificially inflating the Assets?
No. Remember that the accumulated depreciation account is composed of CREDITS, which reduces total assets.
And you will not depreciate the car to a negative net book value.

This is in fact an overstatement of assets?
No. Remember that the accumulated depreciation account is composed of CREDITS

Does that matter, or am I misunderstanding the meaning of assets (confusing it with equity?) in accounting?



4. All these debits to the accumulated asset accounts do not show up in equity accounts because they are merely offsets of depreciation expense account credits?

The CREDITS to the accumulated depreciation account are offset by DEBITS to Depreciation Expense and those DEBITS will reduce equity.

 

[Tom Haws]

Thank you for the clear answers. I will think about this.

 

[Tom Haws]

5. The Accumulated Depreciation account is an Asset (left-hand side) account, right?

6. Asset accounts are Debit accounts, right?

7. When you say that accumulated depreciation is CREDITED to the account, you are telling me that the account generally has a NEGATIVE balance, right?

8. The account types/categories are Left (Debit): Asset, Expense, Loss and Right (Credit): Liability, Revenue, Gain, Equity, ) Is this right?

Left (Debit) | Right (Credit)
Asset, Expense, Loss | Liability, Revenue, Gain, Equity

 

[kirby]

5. Yes. Given that you are thinking that Assets "are on the left side of the balance sheet and Liabilities and Owner's Equity are on the right side) In fact as the Accumulated Depreciation account holds credits - which usually would put it on the 'right side" is actually reported on the left side (to net down the Fixed Asset account) , it is called a "contra -asset" account.

6. It is better to say that Asset accounts usually hold debit balances. Why? Well one exception to "asset accounts are debit accounts" is the Accumulated Depreciation account, which (see above) is a "contra -asset" account. Another is the "Allowance for loan losses."

7. Yes.

8. It is better to think in terms that the Asset, Expense, and Loss accounts normally have Debit balances and the Liability, Revenue, gain and equity accounts normally have Credit balances. Reason : see 6 above for exceptions to the rules. Also, if your business loses lots of money at some point the Equity account may have a Debit balance as it includes the retained earnings account.