Accounting for Change in Depreciation Method

Changing one method of depreciation by another does not violate accounting standards. The following procedure must be followed for your change:

1. Perform the recalculation of the depreciation from its first year to the date of the change, by both methods to obtain the difference in terms of monetary units.
2. Proceed to the accounting recording emerging from the difference determined affecting the account Cumulative results, as such difference must necessarily affect such account, since the results of previous years could vary as a result of using another method.

Accounting for Change in Depreciation Method

For your demonstration we will use the above assumption. That is, Sunshine Ltd  during the first year used the descending sum of digits method to account for the depreciation of their computing equipment and from the second year uses the straight-line method (Blake and Lunt, 2001).

Try a short analysis of the possible economic impact of the change in case IAS in Australia apply IAS 16

There are two important differences between AASB 116and Australian regulations that would cause significant economic and cultural impacts, the first being the existence of a fair value and the second the recognition by the IAS of a existence of losses due to impairment of assets.

In terms of fair value, in the IAS it is of great importance that an organization’s accounting accurately and reliably reflects the reality of the accounting situation, therefore, fair value is defined as: “the amount for which a Active, or canceled a liability, between interested and duly informed parties, in a transaction made in conditions of mutual independence “for purposes such as recognition and measurement after recognition of the assets, even allowing the use of this” market value ” Rather than the historical cost, which is commonly used in our society. In Australia, it is allowed to “update” the assets through an appraisal of qualified people, however, this form of updating in our culture is generally used when you want to sell the asset, when there are legal problems and in general, For “extra” events that have little or nothing to do with the intention of faithfully reflecting daily accounting reality. In addition to this, the depreciation closely linked to the recognition or measurement of assets, for Australian accounting is more a “respite” that allows the legislation, in particular, the tax rules to reduce taxes, taking into account that according to this The method is usually chosen, although Australian regulations suggest that it was evaluated with a certain periodicity, just like the IAS, it is preferred to omit this part and simply, without additional questions, to use the method that according to the criteria of the counters decreases to a greater extent the Taxes to the convenience of the companies (Blake and Lunt, 2001). Because of the above, the application of the IAS in Australia could imply a strong cultural shock in Australia, many will see the opportunity to present to the society and in particular to its stakeholders, clearer accounting, with more meaning and especially not mechanized (To do things because they have always done so or because), but others will think to change my accounting “mechanisms” if so far have worked  (International Accounting Standards 2001, 2001).

Possible Economic Impact of the Change in Case IAS in Australia Apply IAS 16

Another fundamental issue to be addressed in Australia with the application of the IAS and, as a result, highly linked to its measurement is the impairment loss (which is extensively covered in IAS 36). In terms of post-recognition measurement, both the cost method and the revaluation method are referred to the accounting of the assets taking into account the accumulated amount of impairment losses that the asset has suffered. The IAS, in accordance with the aforementioned principle of faithfully reflecting the accounting reality, allows and in fact implies recognition of fluctuations in the value of assets in the market, which means taking into account the valuations and devaluations of the assets. While the Australian legislation only capitalizes the valuations, but paradoxically it does not take into account the devaluations. This implies significant shocks at the time of the application of the IAS in Australia, in the first place we have the feeling that decree 2649 and in general, the Australian normativity would not be presenting the reality of the assets and secondly it could be To think that this non-presentation of reality may even become a “deception” for investors (Rayman, 2013). This last one is given, since when considering the valuations as part of the assets for certain years, in which the market value is greater than the book value, the perception about the company is that better in relation to the other years , Which is real, however, when a devaluation of the asset is obtained, the valuation of the previous years will disappear (in the event that the devaluation exceeds the amount of the recorded valuation, otherwise it will only decrease) and the asset simply, Will be recorded at historical cost less depreciation, i.e. in this year the assets will simply reflect what from the time of purchase of the asset have reflected, will not take into account the factors of reality that would involve a decrease in assets ; Leading to extremes, in times of crisis, the reasons and other financial indicators related to the assets could come to reflect the same as before the crisis, according to Australian law.

Then, one way of promoting the application of this IAS in Australia following the cultural line that characterizes us, would then be to raise awareness about the importance of faithful, reliable, reliable and truthful representation of financial statements.

Depreciation in Finances

There are different methods for calculating depreciation. However, the most used in Colombia is the straight-line depreciation. The method applied depends on the strategies and policies of the company in terms of liquidity and profitability. An accelerated depreciation, for example, implies high depreciation costs in the first years of the life of the asset affecting the operational profits and therefore the profitability of the company. However, as operating profits decrease, tax payments will be lower which will favor the company’s liquidity.

According to AASB 116 , slow depreciation leads to low charges to the statement of profit and / or loss resulting in much higher operating results than in the accelerated depreciation method; In terms of profitability this strategy favors the company but affects liquidity when taxes (taxes) increase.

In finance, depreciation plays an important role, especially with regard to the development of net cash flows.

The Changes in Depreciation and its Effects

Depreciation in Finances

Depreciation is a charge that does not represent cash outflow; Therefore, must be added again to net income to obtain an estimate of the cash flow from the company’s operations. Consequently, depreciation is also an internal source of resources; By not generating cash outflow, this cost decreases the operational profits and, consequently, the payment of taxes. This is why depreciation is an internal source of resources: it generates tax savings.

First, we must know that depreciation is the accounting and financial recognition of the wear and tear on fixed assets due to their use, for their contribution to generate income or income for the company.

The company to earn income, must make use of its assets, those that when used, naturally suffer a deterioration or wear, which is what we know as depreciation.

When depreciation exists, the wear and tear suffered by the assets can be taken to the expense or to the income statement, consequently, when there is an expense, the profit is affected, since the profit is a result of subtracting from the income expenses and costs.

Thus, depreciation has a direct effect on the utility of the company, from which we can conclude that the more assets are used, the more they generate income, but at the same time they wear out, which implies a higher depreciation expense , Which at the same time diminishes the final result that is the utility (Cooke and Nobes, 2012).

Depreciation, in addition to having a direct effect on profit, also has an effect on the financial structure of the company, in the balance sheet, since when an asset is worn, it decreases its value within the company, so that accounting , Whenever an asset depreciates, its book value is diminished until it disappears, so that the company will have to proceed to recover that depreciated or depleted asset by its use.

Here we come to the real reason for depreciation. It is a fact that when using an asset, it wears out until it becomes unusable or unusable, so it is necessary to replace it, to buy another one so that the company can continue to operate and generate income (Clarification of acceptable methods of depreciation and amortisation, n.d.).When it is necessary to replenish the worn or depreciated assets, the company must have sufficient resources for their replacement.These resources would not be available if depreciation did not exist.

Ethics and Governance in Relation to Depreciation

The Changes in Depreciation and Its Effects

By distributing greater profits to the partners, depreciation resources are being distributed, that is, the resources with which the assets once redeemed will be replenished.

So that depreciation is what it does is to avoid the distribution of the resources that must replenish the assets that are worn down by their use. Depreciation has as its main role to protect the assets of the company, and allow to restore or maintain the operational capacity of the same.

Fixed Assets, therefore, are not used as raw material in the production of the goods and / or services that the company produces and are not reserved for sale, in order to obtain income.

The buildings of the company, are an example of fixed assets, but the buildings that a real estate company acquires in order to sell them in the short or medium term and that, therefore, will not remain in the company for a long period of time , Are not and instead are an example of current assets, in the latter case (Thomas, n.d.).

With regard to AASB 116, the amortization of a liability: “From the financial point of view, the term is understood to mean the gradual repayment of a debt (Thomas, n.d.). The obligation to repay a loan received from a bank is a liability, the amount of which is reintegrated into several payments deferred over time. The part of the borrowed capital (or principal) that is canceled in each of these payments is an amortization . Then, “Amortizing is the financial process by which a debt is gradually extinguished through periodic payments, which may be the same or different .

With respect to the amortization of an asset, it is understood as a synonym of theoretical depreciation.

Consequently Maria the accountant,  speaks of amortization of a liability (for example, the payment of a debt) the term, Amortization is used. On the other hand, when we speak of amortization of an asset (the accounting will have to forge profits for the years 2018 and 2017.

Methods of calculating depreciation There are two main methods for calculating the depreciation of a depreciable fixed asset: Linear Depreciation: This method assumes that the assets are used with the same Intensity year by year, throughout its useful life; Therefore, depreciation is periodic and constant. This method distributes the value of the fixed assets in equal parts, each year of use. This is its formula: Accelerated depreciation: It consists of distributing the depreciable value of an asset in a decreasing way, that is, a greater proportion of its value in the first years of useful life and a smaller proportion of its value in its last years of its useful life (Baxter, Davidson and Davidson, 2014).

Accelerated Depreciation As a conclusion, we agree that those assets that are not depreciable, which do not experience reductions in their value due to the use and the passage of time, at the end of the project life cycle will have associated An investment intact, having to recover the project, only, the interests of this. On the contrary, depreciable assets at the end of the project life cycle will probably have a value of zero, so it is necessary to recover the total investment  in addition to interest (Berry and Jarvis, 2011).

References

Blake, J. and Lunt, H. (2001). Accounting standards. Harlow, Essex, England: Pearson Education.

Baxter, W., Davidson, S. and Davidson, S. (2014). Studies in Accounting. Hoboken: Routledge, Taylor and Francis Group.

Berry, A. and Jarvis, R. (2011). Accounting in a business context. Hampshire: South-Western.

Cooke, T. and Nobes, C. (2012). The Development of Accounting in an International Context. Hoboken: Taylor and Francis.

Clarification of acceptable methods of depreciation and amortisation. (n.d.). .

International Accounting Standards 2001. (2001). London: International Accounting Standards Committee.

Rayman, R. (2013). Accounting Standards. Hoboken: Taylor and Francis.

Thomas, S. (n.d.). Accounting methods and standards and bonus depreciation.