Meaning of Depreciation - SS1 Accounting Lesson Note

Depreciation is the process of allocating the cost of a tangible asset over its useful life. It is a non-cash expense that reflects the wear and tear or obsolescence of an asset over time. Depreciation is usually calculated on fixed assets such as buildings, vehicles, equipment, and machinery.

When a company purchases a fixed asset, it is considered a long-term investment. However, the asset will eventually wear out or become outdated and will need to be replaced. To account for this eventual loss in value, the cost of the asset is spread out over its useful life through depreciation.

The amount of depreciation taken each year is calculated using a specific formula based on the cost of the asset, its estimated useful life, and its estimated salvage value at the end of its useful life. The result is a depreciation expense that reduces the value of the asset on the company's balance sheet and reduces the company's taxable income. Thus, depreciation is a way of recognizing the gradual loss in value of a tangible asset over time.