Is Accumulated Depreciation an asset or a liability?
Accumulated depreciation is the total depreciation which is reduced from the value of the asset and it is recorded on the credit side so as to offset the balance of the asset and it is treated as long term contra asset as it is classified under the heading property, plant, and equipment as a credit balance. However, many experts argue that it is a liability as it does not represent something that produced economic value.
Explanation
Depreciation is normal wear and tear in the asset’s value as the asset value gets depreciated with the usage and passage of time. Accumulated depreciation is total wear and tear in the value of assets to date. Accumulated depreciation is to be reduced from the book value of the asset to represent the true value of the asset. Accumulated depreciation is the long-term contra asset as with the usage of assets, the depreciation is applied, and usage of assets contributed to the progress of entity and producing the economic value. But some view depreciation as a liability because it contains the credit balanceCredit BalanceCredit Balance is the capital amount that a company owes to its customers & it is reflected on the right side of the General Ledger Account. Usually, Liability accounts, Revenue accounts, Equity Accounts, Contra-Expense & Contra-Asset accounts tend to have the credit balance. read more, and depreciation is applied even when the asset is not used due to the passage of time and introduction of new technology, the value gets depreciated. Hence the value of accumulated depreciation does not represent something that produced economic value, whether in the past or the future. Hence it is not an asset nor a liability.
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For eg:
Source: Accumulated Depreciation – An Asset or Liability (wallstreetmojo.com)
Example
A Ltd has several long-term assets. The classification of long-term assets and depreciation details are given below:
The business started operations on 01-04-2015. Land purchased on 01-07-2015. Office premises were on rent at the time of the start of business. It is purchased on 01-04-2016. Plant and machinery and furniture were purchased at the time of incorporating a business, i.e., 01-04-2015. Vehicles purchased on 01-04-2017 for business operations like pick and drop facility to managers and other staff members.
Show the classification of the asset as per generally accepted accounting principlesGenerally Accepted Accounting PrinciplesGenerally accepted accounting principles (GAAP) are the minimum standards and uniform guidelines for the accounting and reporting. These standards prohibit firms from engaging in unethical business activities and enable for a more accurate comparison of financial reports to investors.read more and also state at what value the assets will be shown in the balance sheet and treatment of depreciation and the accumulated depreciation, whether it is treated as an asset or liability. State the values as of 31-03-2020.
Solution:
As the value of land is appreciating; hence land is not a depreciable asset.
Calculation of Net Book Value of Office Building:
Calculation of Net book value of Plant and Machinery:
Calculation of Net book value of Furniture & Fixtures
Calculation of Net book value of Vehicles
Presentation of Asset in Balance Sheet
Accumulated Depreciation is neither shown as an asset nor as a liability. It is separately deducted from the asset’s value, and it is treated as a contra asset as it offsets the balance of the asset. Every year depreciation is treated as an expense and debited to the profit and loss account.
Reason
Accumulated Depreciation is neither an asset nor a liability because of the following reasons:
- Accumulated depreciation is not considered an asset because assets represent something that will produce economic value to the enterprise over the past. And accumulated depreciation does not produce the organization’s economic value as accumulated depreciation itself shows the credit balance.
- Accumulated Depreciation is not considered as a liability because liability is something that represents the obligation to pay, and accumulated depreciation is not a payment obligation to the entity. Instead, it is created for internal and valuation purposes.
- If we have to select the classification of accumulated depreciation as an asset or liability, we will choose it to represent an asset as if we represent it as a liability. It will create an impression that it is obligated to pay the third party, which is not a fact. Hence accumulated depreciation is treated as a contra asset, which means it contains a negative balance used to offset the asset. Hence it is classified separately from a normal asset or liability account.
Conclusion
Accumulated Depreciation is the total amount of wear and tear in the value of assets. It is levied due to the continuous usage of assets or devaluation of assets due to the passage of time or introduction of new technologies. There are mixed views about the classification of accumulated depreciation as an asset or liability. But the industry experts and experienced professionals concluded that accumulated depreciation is neither an asset nor a liability, as it does not produce economic benefit; hence cannot be treated as an asset, nor it is not an obligation towards a third party; hence it cannot be classified as a liability. Hence accumulated depreciation is treated as a contra asset which offset the balance of asset. Accumulated depreciation is also shown separately from assets and liabilities as accumulated depreciation in long term assets against the reduction from the book value of the asset.
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