Q.State the meaning of depreciation and explain the need for providing depreciation in the books of a business.

Depreciation is a real cost of using an asset, and skipping it would quietly distort both the profit figure and the balance sheet.

Meaning. Depreciation is the gradual, continuous and (normally) permanent decrease in the book value of a fixed asset, caused mainly by its use in the business and the passage of time. It is an estimated, non-cash charge, applicable only to assets with a limited useful life.

Need for providing depreciation.

1. To ascertain the true profit or loss. Since the asset helps earn revenue every year, the cost of using it up is as real an expense as rent or wages; omitting it overstates profit.
2. To present the true financial position. The Balance Sheet should show assets at their true worth — an asset shown at its original cost year after year, ignoring the value already used up, misstates the firm's position.
3. To provide funds for replacement of the asset. Charging depreciation retains that much profit inside the business (rather than paying it all out), so that funds are effectively built up towards replacing the asset when its life ends.
4. To comply with legal requirements. Company law provisions require depreciation to be charged before profits are declared or dividends paid. …

Defining depreciation only as 'wear and tear' without mentioning that it is a fall in book value recorded in the accounts; giving only one or two rea …