Another accounts query- re depreciation

[Atomic Ads]

If I buy two assets, one tangible the other intangible, how are these depreciated for accounts purposes?

Asset 1 is a product costing £1000 with an expected lifespan of 5 years.
Asset 2 is essentially the right to use Asset 1 and is valid indefinitely.

Firstly am I right to describe both as assets for the purpose of the balance sheet? And if so how should they be depreciated for the P&L? Straight line over 5 years for Asset 1? How do I calculate residual value? What about Asset 2? Amortisation?

I will be seeking professional advice soon, but want to create some initial forecasts before I do, and how I account for this expenditure is pretty key to the bottom line. Any help much appreciated.

 

[Scottish Business Owner]

Hi Alan,

I guess you know what depreciation is and you are correct that amortisation is really just the equivalent of depreciation for intangible assets. Your comment about it being valid indefinately will be a bit of an issue as the revenue believe that everything really needs to have a useful life. Check out the link below to the HMRC guidance.

http://www.hmrc.gov.uk/manuals/cirdmanual/cird30540.htm

Both are assets on the balance sheet. If asset 1 will have a residual value at the end of the five year period then you could look at using a reduced balance method of depreciation as opposed to straight line. If there is ambiguity over what that value would be then I would err on the side of caution and go straight line. You'll see on the link above that amoritisation is pretty much always done straight line but you should review the useful life aspect each year to make sure it's still valid.

The depreciation and amortisation charges both hit your P&L but most people tend to view these as accounting adjustments from a finance perspective.

I hope that's useful and if I haven't covered everything let me know

 

[Atomic Ads]

Thanks. You've pretty much confirmed what I thought.

In the past when I've bought and sold things I've only considered it a profit when I have made all the initial investment back. I'm trying to get used to the idea of making a profit the day after spending big on equipment, which to me is counter-intuitive but I know it's correct to spread that cost over the lifespan.

Having done quite a bit of accounting at uni I really should know better but it was a long time ago and it's different when it's practical and not just theory.

 

[Scottish Business Owner]

Totally agree Alan. The theory of accounting and the actual commerical practice of it aren't always the same.

Hopefully the decision you make will push the business forward and if you do have any further questions then you know where to come