Q1: What is ‘Depreciation’?
Ans: Depreciation is the decrease in the value of fixed assets caused by wear and tear over time. These fixed assets could be anything from furniture to machinery to a building. It is important to note that such fixed assets do not include land, as the value of land increases over time.
Q2: State briefly the need for providing depreciation.
Ans:The following are the requirements for providing depreciation:
Q3: What are the causes of depreciation?
Ans: The following are the causes of depreciation:
Q4: Explain basic factors affecting the amount of depreciation.
Ans:The following are the primary factors that influence the amount of depreciation:
Q5: Distinguish between straight line method and written down value method of calculating depreciation.
Ans: The following are the differences between the straight line and written down value methods:
Q6: “In case of a long term asset, repair and maintenance expenses are expected to rise in later years than in earlier year”. Which method is suitable for charging depreciation if the management does not want to increase burden on profits and loss account on account of depreciation and repair.
Ans:When the assets have long-term utility and the repair and maintenance costs are expected to rise in the later years of the asset's life, the written down value method is more useful than the straight line method of depreciation. As a result, this method of depreciation does not impose a burden on the profit or loss accounts. This occurs because the rate of depreciation in this method of depreciation decreases year after year.
Q7: What are the effects of depreciation on profit and loss account and balance sheet?
Ans: Depreciation has a direct impact on the profit and loss account because it is recorded as an expense. When the amount of depreciation is greater, the net company of income is less than in the case where the rate of depreciation was lower. The effect of depreciation on the balance sheet reduces the net amount of assets, which has a further impact on the business's net income on the balance sheet.
Q8: Distinguish between ‘provision’ and ‘reserve’.
Ans:The distinction between provision and reserve is as follows:
Q9: Give four examples each of ‘provision’ and ‘reserves’.
Ans: It is required to make provisions, which are undertaken and determined based on the identifiable expenses that any business incurs in an expected manner during the accounting period. The reserves, on the other hand, are intended to strengthen the company's financial position. The four examples of each are:
Q10: Distinguish between ‘revenue reserve’ and ‘capital reserve’.
Ans: The following are the distinctions between revenue reserves and capital reserves:
Q11: Give four examples each of ‘revenue reserve’ and ‘capital reserves’.
Ans:Here are four examples of revenue reserves:
Q12: Distinguish between ‘general reserve’ and ‘specific reserve’.
Ans: The 'general reserve' is established to strengthen the company's financial position, and it can thus be used for any purpose the management sees fit. On the other hand, the creation of a "specific reserve" is done to address a specific need of the organization. Thus, when specific reserves are used for the purpose for which they were created, they outlive their usefulness.
Q13: Explain the concept of ‘secret reserve’.
Ans: The secret reserve is established to deal with the reduction of the business's tax liability and to combine it with the profits made by the business in years when it is incurring losses in order to increase net profits. The secret reserve is not shown on the company's Balance Sheet, and it is created on the basis of highly charged depreciation on assets, showing contingent liabilities as actual liabilities, and making an excessive provision for doubtful debts. Thus, the establishment of a secret reserve is permissible if it is within reasonable limits.
Q1: Explain the concept of depreciation. What is the need for charging depreciation and what are the causes of depreciation?
Ans: Depreciation is defined as the reduction in the value of a business's asset over time. Fixed assets that must be depreciated include machinery, furniture, buildings, offices, and so on. (It is important to note that land is not a depreciable asset, and its value increases over time.) The following are the requirements for providing depreciation:
The following are the causes of depreciation:
Q2: Discuss in detail the straight line method and written down value method of depreciation. Distinguish between the two and also give situations where they are useful.
Ans: The Straight-line method is a technique for calculating the depreciation that occurs to the asset's original cost. The amount with which the depreciation must be done is fixed under this method, and thus the depreciation occurs every year with the specified fixed amount.
The written down value method, on the other hand, refers to a depreciation technique in which the depreciation to the value of the fixed asset occurs with the reduction decreasing year after year. It subtracts the amount of the original cost from the amount of depreciation, which is calculated based on the asset's usage until it is used.
The straight line method has the following advantages:
The Straight Line Method has the following limitations:
Similarly, the Written Down Value Method has a number of advantages, which are as follows:
The written down value method has the following limitations:
Q3: Describe in detail two methods of recording depreciation. Also give the necessary journal entries.
Ans: Depreciation is recorded using one of two methods:
(I)Charging depreciation directly to the asset account – In this method, depreciation is first charged from the asset's cost, then to the profit and loss account. The balance sheet thus shows the net value of the asset after depreciation is dedcted. The journal entries in this method are as follows:
(II) Making a provision for accumulated depreciation – The amount of depreciation to be charged in the accumulated under the separate account under this method of charging depreciation. Thus, in the balance sheet, the asset's value is shown in its original value, and the accumulated amount of depreciation is shown in the liabilities side of the balance sheet.
The journal entries in this method are as follows:
Q4: Explain determinants of the amount of depreciation.
Ans:
Q5: Name and explain different types of reserves in details.
Ans: A business establishes a reserve in order to strengthen its financial position through retained earnings. There are several types of reserves:
Q6: What are ‘provisions’. How are they created? Give accounting treatment in case of provision for doubtful Debts.
Ans: Provisions are created by businesses to allow them to incur expenses and losses that are known to the business and that they may incur in the future Provisions are charged on the business's revenue and are thus shown as a deduction from assets or as the business's current liability. Some examples of provisions are as follows:
The accounting treatment of provision for doubtful debts is as follows: Doubtful debts are those for which the company is unsure of the recovery, so they make a provision to account for such losses. The following is the journal entry:
Q1: On April l, 2010, Bajrang Marbles purchased a Machine for Rs. 1,80,000 and spent Rs. 10,000 on its carnage and Rs. 10,000 on its installation. It is estimated that its working life is 10 years and after 10 years its scrap value will be Rs. 20,000.
(a)Prepare Machine account and Depreciation account for the first four years by providing depreciation on straight line method. Accounts are closed on March 31st every year.
(b)Prepare Machine account, Depreciation account and Provision for depreciation account (or accumulated depreciation account) for the first four years by providing depreciation using straight line method accounts are closed on March 31 every year.
Ans:
(a) Books of Bajrang Marbles
Working notes:Calculation of annual depreciation
(b)
Q2: On July 01, 2010, Ashok Ltd. Purchased a Machine for Rs. 1,08,000 and spent Rs. 12,000 on its installation. At the time of purchase it was estimated that the effective commercial life of the machine will be 12 years and after 12 years its salvage value will be Rs. 12,000.
Prepare machine account and depreciation Account in the books of Ashok Ltd. For first three years, if depreciation is written off according to straight line method. The account are closed on December 31st, every year.
Ans: Books of Ashok Ltd.
Working Note: Calculation of annual depreciation
Q3: Reliance Ltd. Purchased a second hand machine for Rs 56,000 on October 01, 2011 and spent Rs 28,000 on its overhaul and installation before putting it to operation. It is expected that the machine can be sold for Rs 6,000 at the end of its useful life of 15 years. Moreover, an estimated cost of Rs 1,000 is expected to be incurred to recover the salvage value of Rs 6,000. Prepare machine account and Provision for depreciation account for the first three years charging depreciation by fixed Instalment Method. Accounts are closed on March 31, every year.
Ans: Books of Reliance Ltd.
Working Note: Calculation of annual depreciation
Note: As per the solution, the balance of provision for depreciation account, as on March.31, 2015 is Rs 11,850; whereas, as per the book, it is Rs 18,200. However, if we ignore the scrap value and prepare provision for depreciation for 4 years, the answer would match to that of the book.
Q4: Berlia Ltd. Purchased a second hand machine for Rs 56,000 on July 01,2015 and spent Rs 24,000 on its repair and installation and Rs 5,000 for its carriage. On September 01, 2016, it purchased another machine for Rs 2,50,000 and spent Rs 10,000 on its installation.
(a) Depreciation is provided on machinery @10% p.a on original cost method annually on December 31. Prepare machinery account and depreciation account from the year 2015 to 2018.
(b) Prepare machinery account and depreciation account from the year 2015 to 20018, if depreciation is provided on machinery @10% p.a. on written down value method annually on December 31.
Ans:
(a)Books of Berlia Ltd.
Working notes: Calculation of annual depreciation
(i) Depreciation (p.a.) on Machinery Purchased on July 01,2015
(ii) Depreciation (p.a.) on Machinery purchased on September 01, 2016.
(b)
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1. What is depreciation and how is it calculated? |
2. What are provisions and how do they differ from reserves? |
3. Why is it important for businesses to maintain accurate depreciation records? |
4. How do depreciation and provisions impact financial statements? |
5. What are the common methods of calculating depreciation? |
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