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Depreciation Expense vs. Accumulated Depreciation: an Overview
The basic difference between depreciation expense and accumulated depreciation lies in the fact that one appears as an expense on the income statement (depreciation), and the other is a contra asset reported on the balance sheet (accumulated depreciation). However, both pertain to the “wearing out” of equipment, machinery, or another asset. They help state the true value for the asset; an important consideration when making year-end tax deductions and when a company is being sold.
Key Takeaways
- Depreciation expense is reported on the income statement as any other normal business expense, while accumulated depreciation is a running total of depreciation expense reported on the balance sheet.
- Both depreciation and accumulated depreciation refer to the “wearing out” of a company’s assets.
- Depreciation expense is the amount that a company’s assets are depreciated for a single period (e.g, quarter or the year), while accumulated depreciation is the total amount of wear to date.
- Depreciation expense is not an asset and accumulated depreciation is not an expense.
Depreciation Expense
Depreciation expense is reported on the income statement as any other normal business expense. If the asset is used for production, the expense is listed in the operating expenses area of the income statement. This amount reflects a portion of the acquisition cost of the asset for production purposes.
For example, factory machines that are used to produce a clothing company’s main product have attributable revenues and costs. To determine attributable depreciation, the company assumes an asset life and scrap value.
The depreciation expense for a $500,000 machine that is expected to have a value of $100,000 in five years is $80,000 per year. This is calculated as ($500,000 – $100,000) / 5 = $80,000.
The guidance for determining scrap value and life expectancy can be ambiguous. So, investors should be wary of overstated life expectancies and scrap values.
Accumulated Depreciation
Accumulated depreciation is a running total of depreciation expense for an asset that is recorded on the balance sheet. An asset’s original value is adjusted during each fiscal year to reflect a current, depreciated value.
For example, the machine in the example above that was purchased for $500,000 is reported with a value of $300,000 in year three of ownership. Again, it is important for investors to pay close attention to ensure that management is not boosting book value behind the scenes through depreciation-calculating tactics. But with that said, this tactic is often used to depreciate assets beyond their real value.
This is done for a few reasons, but the two most important reasons are that the company can claim higher depreciation deductions on their taxes, and it stretches the difference between revenue and liabilities. This makes the company seem more profitable than they are.
Key Differences
Depreciation is used on an income statement for almost every business. It is listed as an expense, and so should be used whenever an item is calculated for year-end tax purposes or to determine the validity of the item for liquidation purposes.
Accumulated depreciation is usually not listed separately on the balance sheet, where long-term assets are shown at their carrying value, net of accumulated depreciation. Since this information is not available, it can be hard to analyze the amount of accumulated depreciation attached to a company’s assets.
Is Accumulated Depreciation Equal to Depreciation Expense?
No. Depreciation expense is the amount that a company’s assets are depreciated for a single period (e.g,, quarter or the year). Accumulated depreciation, on the other hand, is the total amount that a company has depreciated its assets to date.
Is Depreciation Expense a Current Asset?
No. Depreciation expense is not a current asset; it is reported on the income statement along with other normal business expenses. Accumulated depreciation is listed on the balance sheet.
Is Accumulated Depreciation an Expense?
No. Accumulated depreciation is a measure of the total wear on a company’s assets. In other words, it’s the total of all depreciation expenses incurred to date.
The Bottom Line
The annual depreciation expense shown on a company’s income statement is usually easier to find than the accumulated depreciation on the balance sheet. The annual depreciation expense is often added back to earnings before interest and taxes (EBIT) to calculate earnings before interest, taxes, depreciation, and amortization (EBITDA) as it is a large non-cash expense. Accumulated depreciation can be useful to calculate the age of a company’s asset base, but it is not often disclosed clearly on the financial statements.