Depreciation

What it means

Depreciation is the part of a fixed asset’s cost charged to expenses in one period. Accounting depreciation should reflect actual wear; tax depreciation follows the Income Tax Act.

The two systems almost never coincide. The company sets accounting depreciation in its own schedule; tax depreciation is determined by the asset’s depreciation group and the method chosen - straight-line or accelerated.

Depreciation is not an impairment allowance. Depreciation spreads an asset’s cost systematically under a plan and is permanent; an allowance records a temporary fall in value that may later be reversed. Some assets are not depreciated at all, such as land or works of art, because use does not wear them out.

How it works in practice

Depreciation starts in the month the asset is brought into use, not the month it is bought. Cost includes transport, installation and duty; a technical improvement increases it and depreciation continues from the new amount.

The gap between accounting and tax depreciation is settled in the return by an add-back or deduction, and for some entities it feeds deferred tax. Assets below the threshold are low-value assets.

For a car that the director or sole trader also uses privately, only a proportion of the depreciation is tax-deductible. The proportion is shown by a mileage log or the statutory flat rate is applied; we record which route the client takes as soon as the car is added to the asset register, so the treatment does not change by accident over the years of depreciation.

What to watch out for

Suspending tax depreciation is provided for by law and can be advantageous - in a loss year, so the deductions are not wasted. Conversely, depreciating an asset no longer used or already disposed of distorts both the tax base and the carrying value.

The company chooses the tax depreciation method, straight-line or accelerated, when the asset is brought into use and cannot change it while depreciation runs. Accelerated depreciation chosen in a year when a loss is expected needlessly pulls deductions out of the years in which they could have been put to better use.