Understanding Depreciation and Amortisation in Business: The Role of Schedule II of the Indian Companies Act 2013
Depreciation refers to the decrease in the monetary value of an asset over a period of time which is called the “useful life” of that asset. The term is used frequently in businesses, factories, industries, and even corporate offices where different kinds of assets form part of everyday use. These assets can be long-term or short-term, tangible assets or intangible assets, etc. Calculating depreciation is essential for any company or business as it helps in obtaining accurate numbers when it comes to understanding the financial statements of the company. In this article, we will learn everything about depreciation, amortisation and all the relevant concepts. Most importantly, we will learn about Schedule II of the Companies Act, 2013 in detail and understand how the schedule is used in the calculation of depreciation and amortisation using different methods and formulae.
What is Depreciation?
Depreciation in the monetary value of an asset is due to different factors like wear and tear of the asset, declining demand or usefulness of it, repairs, etc. The calculation of depreciation is crucial for any company or business in order to determine the company’s financial statement and find out whether the company has gained profits or incurred losses in a given financial year. Depreciation also helps in understanding the revenues generated by an asset or class of assets as compared to the cost incurred in its acquisition and maintenance over a specified period of time.
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When assets are used over a period of time, their monetary value decreases or in other words, depreciates. This depreciation is due to different factors like wear and tear of the asset, declining demand or usefulness of it, repairs, etc. Calculating depreciation is essential for any company or business as it helps in obtaining accurate numbers when it comes to understanding the financial statements of the company. Running a business comes with different added costs such as operating costs, distribution and sales, logistics, etc. Depreciation in value of assets includes periodic additions and deductions in the operating cost of the company. It is important to remove expenditures that a company makes every year in the form of payment of interests, loans, taxes, depreciation, and other expenses in order to assess the actual profits made or loss incurred by the company or business.
Cumulative depreciation is calculated by clubbing individual depreciation of each asset, and the whole is deducted from the revenue or EBITDA (Earnings Before Interest, Taxes, Depreciation, and amortisation) of the company to obtain an accurate profit or loss statement. Deducting depreciation is necessary to calculate the net income of the company for each financial year. Only after calculating the net income the profit or loss statement can be estimated accurately. For accuracy in numbers of net income, it is important to deduct variable as well as fixed expenses and depreciation from the gross revenue in each financial year.
Schedule II of the Companies Act, 2013 provides guidelines on the useful life of assets for calculating depreciation. The data in Schedule II specifies the duration for which assets can be economically used and outlines minimum depreciation rates based on different asset categories. Certain other provisions of the Companies Act, 2013 are relevant in computing depreciation under Schedule II, such as Section 123 and Section 198 of the Act.
While calculating depreciation, a ‘fair proportion value’ of the original value is taken into consideration, meaning a proportion from the total value of the asset at the beginning of its purchase. This proportion value is then deducted from the initial value of the asset to obtain the depreciated value of the asset. For instance, an asset is brought for Rs. X, the calculation of its depreciation shall be done at the end of its useful life. The computed depreciable amount will be a ‘fair proportion’ or fragment of Rs. X, which is calculated using the methods of computing depreciation.
In the case of a mobile purchased for Rs. 60,000/-, its depreciation over the useful years will be computed and the amount (suppose Rs. 20,000/- in this case) will be calculated. This amount will be deducted from the initial cost to obtain the cost of the asset at the end of its useful life. This amount that is deducted from the initial cost is known as its ‘fair proportion value.’
Depreciation is calculated for all kinds and forms of assets, such as tangible and intangible assets, movable and immovable assets, etc. The process of calculating the loss in value of intangible assets is known as amortisation. Similarly, depreciation is calculated for all kinds and forms of assets, such as tangible and intangible assets, movable and immovable assets, etc.
Schedule II of the Companies Act, 2013 in detail helps in the calculation of depreciation and amortisation using different methods and formulae. Businesses and corporations must ensure that they keep accurate records of assets to determine the useful life of an asset and the depreciation that can be deducted over time. This is essential for businesses and corporations to ensure they remain financially stable while placing new assets on record. Depreciation and amortisation calculation are complex processes and can be better understood with the help of experts. Accurate computation of these values can help provide an accurate financial statement and ensure the growth of a company in the long run.