What Is a Depreciation Expense Account?
Amortization, or depreciation as it is sometimes called, is the loss in value that machines, equipment and other assets accrue in the course of their routine use in business operations. It is an important concept in accounting, and its inclusion as an expense in each accounting period is meant to increase accounting information's veracity and accuracy. Amortization is accounted for as an expense on income statements and as a contra-asset on balance sheets.
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Accrual Basis Accounting
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Almost all accounting is done on an accrual basis, meaning that revenues are recognized when they are earned and realizable. Realizable means that there exists a reasonable expectation that the sums in question will be paid in time. For example, large amounts owed by costumers with notoriously poor credit histories and poised on the brink of bankruptcy tend not to be considered realizable. Accrual basis accounting exists because this practice avoids disproportionate distortions of incomes and losses across time periods, particularly for companies who work with long-term contracts and only receive payment at the end of their services.
Matching Principle
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The matching principle is one of the accounting principles that form the foundations of accrual-basis accounting. It states that costs should be assigned to the same time period as the revenues that their occurrence helped earn. Since assets lose value as they are used in business activities, the matching principles require these amounts to be recognized as expenses in the same time period when they were incurred, hence depreciation.
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Depreciation on the Income Statement
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Depreciation is listed as an expense on the income statement and can be quite prominent depending on a business' assets. The amounts of depreciation incurred each accounting period are estimated depending on the assets in question and specific methods used to account for how they lose their value through use. For example, motor vehicles lose value quickly once they are sold and calculating depreciation for them is done through deducting a percentage of their remaining asset value each period. All depreciation amounts for the period are accumulated into one expense called simply Depreciation Expense on the income statement.
Depreciation on the Balance Sheet
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Depreciation expenses are collected at the end of each accounting period into separate liability accounts called contra-assets. Contra-assets are called that because each is counterpart to an asset on the balance sheet, representing how much that asset has lost in value through depreciation. Once an asset is sold or discarded, its contra-asset is written off in order to represent that the loss in value was accrued over time rather than in one go at the time of the asset's disposal. Contra-asset accounts are most often called "Accumulated Depreciation - [Name of Asset]" on the balance sheet. For example, the contra-asset of computer equipment would be listed under that account on the balance sheet as "Accumulated Depreciation - Computer Equipment."
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