Accumulated depreciation is the total depreciation that is reduced from the value of an asset, and recorded on the credit side to offset the balance of the asset. Hence, it appears on the balance sheet as a reduction from the gross amount of fixed assets reported.
The majority of companies depend on capital assets for part of their business operations and in accordance with accounting rules, they must depreciate these assets over their useful lives. As a result, they have to recognize accumulated depreciation which is reported as a contra asset on the balance sheet. Hence, reducing the net book value of the capital asset section.
As a contra account, is accumulated depreciation debit or credit? In this article, we will discuss debit and credit and why accumulated depreciation is not reported as a debit but as a credit.
Related: Expense debit or credit?
Understanding debit and credit
When accounting for business transactions, the numbers are recorded in the debit and credit columns. The debit and credit entries are used within a business’s chart of accounts to record every transaction.
For every transaction recorded, a debit entry has to have a credit entry that corresponds with it while equaling the exact amount. That is, for accounting purposes, the debit total and credits total for any transaction must always equal each other so that the accounting transaction will be considered to be in balance. If this is not done accurately, it would be difficult to create financial statements.
When it comes to the bookkeeping of a business, debits and credits are very essential for the correct balancing of the financial accounts. They are frequently used by bookkeepers and accountants when recording transactions in accounting records. When a transaction is made, an amount must be entered on the right side of the balance sheet (credit) and the same account is recorded on the left side of the balance sheet (debit). This accounting system helps to provide accuracy and is known as a double-entry system.
A credit entry will increase equity, revenue or liability while decreasing expense or asset accounts. A debit entry, on the other hand, will increase expense or asset accounts while reducing equity, revenue or liability. In double-entry accounting, the debits and credit entries record changes in value resulting from business transactions. As a result, a debit entry in an account would basically mean a transfer of value to that account, whereas a credit entry would mean a transfer of value from the account.
In business, every transaction transfers value from credited accounts to debited accounts. Therefore, a credit entry will always add a negative number to the journal whereas a debit entry will add a positive number. A debit will always be positioned on the left side of the account and a credit on the right side of the account.
See also: Is account receivable an asset?
What is accumulated depreciation?
Accumulated depreciation is the total decrease in the value of an asset on the balance sheet over time. It is the total amount of an asset’s cost that has been allocated as depreciation expense since the time that the asset was put into use. It is reported on the balance sheet as a contra asset that reduces the book value of an asset. Accumulated depreciation is said to be a contra asset account because it has a negative balance that is intended to offset the asset account with which it is paired, which results in a net book value.
Many companies depend on capital assets for part of their business operations and in accordance with accounting rules, they must depreciate these assets over their useful lives. As a result, they have to recognize the accumulated depreciation which appears on the balance sheet as a contra asset that reduces the gross amount of the fixed asset (like property, plant, and equipment). Accumulated depreciation is separately deducted from the asset’s value and treated as a contra asset so as to offset the balance of the asset. It allows analysts and investors to see how much of a fixed asset’s cost has been depreciated.
Depreciation allows the company to even out the cost of an asset over its useful life. The depreciation expenses are a portion of the cost of the asset in the year it was purchased and each year for the rest of the useful life of the asset while the accumulated depreciation is an account that contains the total amount of the depreciation expense that has been recorded so far for the asset. Hence, it is a running total of the depreciation expense that has been recorded over the years. Therefore, as depreciation expenses continue to be recorded, the amount of accumulated depreciation for an asset or group of assets will increase over time.
Accumulated depreciation is used to calculate the net book value of an asset which is the cost of an asset minus accumulated depreciation, giving the value of an asset carried on the balance sheet. The accumulated depreciation of the asset cannot exceed the cost of the asset. Therefore, the accumulated depreciation associated with the asset will be reversed when the asset is eventually sold or put out of use, thus, eliminating all records of the asset from the company’s balance sheet.
Related: Revenue; Debit or Credit?
Is accumulated depreciation debit or credit?
Accumulated depreciation is a contra asset and as a result, will have a credit balance since assets have a natural debit balance. Contra accounts are reported on the same financial statement as the associated account and are used in a general ledger to reduce the value of the related account when netted together. The natural balance of a contra account is always the opposite of the associated account. This means that since fixed asset has a natural debit balance, accumulated depreciation as the contra account would have a credit balance.
Therefore, accumulated depreciation is not a debit but a credit. Contra accounts are recorded with a credit balance that decreases the balance of an asset. As a result, accumulated depreciation reduces fixed and capital asset balances (reducing the net book value of the capital asset section). It is the total depreciation that is reduced from the value of an asset, which is therefore recorded on the credit side to offset the balance of the asset.
The accumulated depreciation account on a company’s balance sheet is recorded as a contra asset account under the asset section, thus, reducing the total value of assets recognized on the financial statement. The depreciation expense account is debited, each year, expensing a portion of the asset for that year, whereas the accumulated depreciation account is credited for the same amount. As the depreciation expense is charged against the value of the fixed asset over the years, the accumulated depreciation increases.
Since fixed assets on the balance sheet have a debit balance, by recording accumulated depreciation as a credit balance, the fixed asset can be offset. Therefore, the accumulated depreciation as a contra-asset account offsets the value of the asset that it is depreciating and as such is reported as a negative balance on the balance sheet under the long-term assets section.
As the fixed asset is reported at its original cost on the balance sheet, the accumulated depreciation is recorded as well. Thus, allowing investors to see how much of the fixed asset has been depreciated. The asset’s net book value is then the net difference or remaining amount that is yet to be depreciated. That is, the formula for the net book value of an asset is the cost of the asset minus accumulated depreciation.
In fact, by recording the accumulated depreciation as a credit, investors can easily determine the net book value of the asset, its original cost, and, how much has been depreciated. When an asset is eventually retired or sold, the total amount of the accumulated depreciation associated with it is reversed, thereby completely removing the record of the asset from a company’s books. The accumulated depreciation is, therefore, reduced when the asset’s credit balance is removed by debiting accumulated depreciation.
Related: Liabilities Examples in Accounting
Why accumulated depreciation is not a debit but a credit
Accumulated depreciation is not a debit but a credit because it aggregates the amount of depreciation expense charged against a fixed asset. On the balance sheet, the accumulated depreciation is paired with the fixed assets line item, so that the combined total of the two accounts reveals the remaining book value of the fixed assets. As more depreciation is charged against the fixed assets, the amount of accumulated depreciation will increase over time, resulting in an even lower remaining book value.
Accumulated depreciation is used rather than making a direct reduction to the fixed assets account so that readers of the financial statements can see that there are fixed assets on the company’s financial statements and also see the original amount of this investment. If not, presenting only a net book value figure might mislead readers into thinking that the business has never invested substantial amounts in fixed assets.
More so, accumulated depreciation is not a debit but a credit because fixed assets have a debit balance. Therefore, accumulated depreciation must have a credit balance to be able to properly offset the fixed assets. Thus, it appears immediately below the fixed assets line item within the long-term assets section of the balance sheet as a negative figure.
Also, recall that a credit entry will increase equity, revenue or liability while decreasing expense or asset accounts and a debit entry will increase expense or asset accounts while reducing equity, revenue or liability. Therefore, accumulated depreciation is not a debit but a credit because it decreases an asset (fixed and capital asset) account.
See also: Assets, Liabilities, Equity: Comparison
Increase in accumulated depreciation (debit or credit)
The assets account will increase with a debit and decrease with a credit. Conversely, accumulated depreciation as a contra asset account will increase with a credit and a debit will decrease its value. When an amount of depreciation expense is recorded for a company, the same amount is also credited to the accumulated depreciation account, allowing the company to show both the cost of the asset and the total-to-date depreciation of the asset.
The yearly depreciation expense then adds to the balance of the accumulated depreciation account. So, as depreciation expenses continue to be recorded, the amount of accumulated depreciation for an asset or group of assets will increase over time. Therefore, leading to a decrease in the book value of fixed assets of the company until the book value of the asset becomes zero.
Once the balance of the asset account is zeroed, then no further entry concerning the accumulated depreciation of that asset will be passed. This is because the accumulated depreciation account balance cannot be more than that of the balance of the underlying asset account. Conclusively, an increase in accumulated depreciation will not be caused by a debit but by a credit.Last Updated on November 8, 2023 by Nansel Nanzip Bongdap
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