What is Depreciation?

Depreciation does not sound like a happy word, but it is an interesting and important concept to understand if you want to stay on top of your finances. Yes, it can be complicated, but it will also make you more financially literate and enable you to use services like Payday Depot wisely. Why is that? Let us find out!

Depreciation Defined

Depreciation is a term used in the accounting and economic worlds rather frequently. If you are at all interested in finance, you will have come across it. It refers to the process through which every item loses some of its value over time.

Don’t panic! This is a completely natural process and has been a thing for centuries. Let us take an example, shall we? Imagine you have bought a new bicycle. When new, it runs great. However, after a year, it might develop some problems. The chain might loosen up. After another year, the condition might worsen. Maybe the brakes are not as strong anymore.

If you decide to sell your bicycle now, do you think you will get as much money as you spent two years ago? No, you will not. This is because the value of the bike has gone down. In other words, it has depreciated.

Depreciating Assets

If you do your own finances, you will be aware of how you will have to depreciate your assets in accordance with government regulation. When it comes to finances, depreciation takes on a new meaning. In case you are a business owner and buy something expensive, depreciation allows you to reduce the total cost of the asset.

For example, say you bought a new laptop. The life cycle of a good laptop is around five years. The government will ask you to keep depreciating this asset for five years based on these guidelines. However, you have a lot of freedom in this process, too.

You can decide how much money is written off each year. Not only that, but you can also choose to depreciate things faster or slower. Taking the example of a laptop mentioned above, if you know that it will go “bad” in four years, you can choose to depreciate it accordingly. If you know that it will last longer, you can make plans accordingly.

What Assets Can You Depreciate?

There are a few different kinds of assets you can depreciate. Firstly, keep in mind that even though we have spoken only about tangible assets, intangible assets can also be depreciated. Taking a step back, assets are of two kinds – tangible and intangible. It might help if you think of tangible assets as goods and intangible assets as services.

For example, a laptop is a tangible asset. We can touch it, so It counts as goods. A patent or copyright is an intangible asset. You cannot touch it, and thus it is a service. Depreciation of intangible assets is called amortization. With that out of the way, to be depreciated, your asset will have to meet a few requirements:

• You must own it.
• You must use it to produce some form of income.
• You can determine how long it will be of service.
• You know it will last more than a year.

And that’s that! We have covered everything you need to know about depreciation!