Depreciation spreads an asset's cost across its useful life
Depreciation allocates the cost of a long-lived asset across the periods that use it. A ₹60,000 machine with a five-year useful life and no expected residual value has ₹12,000 of annual straight-line depreciation. This accounting expense does not mean ₹12,000 leaves the bank each year.
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The payment and the expense differ
A machine may support production for several years, even if the business pays for it on a single day. Depreciation allocates its depreciable cost over its estimated useful life.
Under the straight-line method, a ₹60,000 machine with no residual value and a five-year life produces an annual expense of ₹12,000, assuming a full year of use.
- The initial purchase involves paying for or financing the asset.
- Later depreciation charges reduce accounting profit.
- Those charges do not themselves create fresh cash payments.
Depreciation is also not a precise forecast of resale value. A machine's market price may fall faster or slower than its accounting carrying amount because condition, demand and technology can change independently.