Depreciation Expense vs. Accumulated Depreciation: An Overview
The difference between depreciation expense and accumulated depreciation is that depreciation appears as an expense on the income statement and accumulated depreciation is a contra asset reported on the balance sheet.
Both relate to the "wearing out" of equipment, machinery, or another asset, however. They help to state the true value of the asset. This is an important consideration when taking year-end tax deductions and when a company is being sold.
Key Takeaways
- Depreciation expense is reported on the income statement just like any other normal business expense.
- Accumulated depreciation is a running total of depreciation expense that's reported on the balance sheet.
- Both depreciation and accumulated depreciation relate 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 such as a quarter or the year. Accumulated depreciation is the total amount of wear to date.
- Depreciation expense isn't an asset and accumulated depreciation isn't an expense.
Depreciation Expense
Depreciation expense is reported on the income statement just like any other normal business expense. The expense is listed in the operating expenses area of the income statement if the asset is used for production. This amount reflects a portion of the acquisition cost of the asset for production purposes.
Factory machines that are used to produce a clothing company's main product have attributable revenues and costs. The company assumes an asset life and scrap value to determine attributable depreciation.
The depreciation expense for a $500,000 machine that's 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. 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's recorded on the balance sheet. An asset's original value is adjusted during each fiscal year to reflect a current, depreciated value.
The machine in our example above that was purchased for $500,000 is reported with a value of $300,000 in the third year of ownership. This tactic is often used to depreciate assets beyond their real value. Companies may do this so they can claim higher depreciation deductions on their tax returns and because it stretches the difference between revenue and liabilities. This makes the company seem more profitable than it is.
Investors should pay close attention to ensure that management isn't boosting book value through depreciation-calculating tactics.
Key Differences
Depreciation is used on an income statement for almost every business. It's listed as an expense so it 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 isn't usually listed separately on the balance sheet where long-term assets are shown at their carrying value net of accumulated depreciation. This information isn't available so it can be difficult 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 such as a quarter or the year. Accumulated depreciation is the total amount that a company has depreciated its assets to date.
Is Depreciation Expense a Current Asset?
No. Depreciation expense 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. 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) because it's a large non-cash expense. Accumulated depreciation can be useful in calculating the age of a company's asset base but it's not often disclosed clearly on financial statements.
