Methods of Recording Depreciation

Two Methods of Recording Depreciation

When a business records depreciation, it can follow one of two arrangements in the books of account. The choice affects which accounts appear in the ledger and how the fixed asset's book value is presented. Both methods are equally valid under accounting principles, but they produce different ledger postings.

Method 1: Charging Depreciation to the Asset Account

Under this method, depreciation is recorded directly in the asset account itself. The asset account is reduced each year by the amount of depreciation charged. The journal entry is:

The logic is straightforward: the asset's value falls as it is used up, so we credit the asset account to reduce its balance. The debit goes to a nominal account called Depreciation Account, which is later transferred to the Profit & Loss Account at the end of the year.

At the end of the accounting period, the Depreciation Account is closed by transferring its balance to the Profit & Loss Account:

The asset account now shows a reduced balance — the original cost minus accumulated depreciation. This balance is the book value of the asset at that date.

Method 2: Creating Provision for Depreciation / Accumulated Depreciation Account

This method keeps the original cost of the asset intact in the asset account. Instead of crediting the asset account directly, depreciation is accumulated in a separate account called Provision for Depreciation Account (also called Accumulated Depreciation Account).

The journal entry for recording depreciation is:

Notice that the credit goes to the Provision for Depreciation Account, not to the asset account. The asset account continues to show the original cost year after year.

At the end of the period, the Depreciation Account is closed to Profit & Loss Account in the same way as before:

The Provision for Depreciation Account is a contra-asset account. It has a credit balance that grows each year as more depreciation is accumulated. On the Balance Sheet, it is shown as a deduction from the original cost of the fixed asset to arrive at the book value.

Comparison of the Two Methods