How are periodic depreciation and amortization accounted for?

Answer 1

ACCOUNTING FOR PERIODIC DEPRECIATION AND AMORTIZATION

Recording periodic depreciation and amortization results in a debit to either an expense account or a product cost account. Depreciation of factory buildings and equipment used in manufacturing operations becomes part of the cost of work-in-process and finished goods inventories; that is, these depreciation charges are product costs. The amortization of a patent on a semiconductor that a firm embeds in its product is likewise a product cost. Firms classify the amortization of a customer list as either amortization expense or selling expense, depending on whether the firm classifies expenses by their nature or by their function. Firms classify the depreciation of office equipment in the corporate headquarters as either depreciation expense or administrative expense. The amortization of the customer list and depreciation of the office equipment do not relate to product manufacturing and are, therefore, period costs.

The recording of amortization of intangibles generally results in a credit directly to the asset account that is being amortized, such as Patent or Customer List. The recording of depreciation of tangible assets could, in principle, likewise result in a credit directly to the asset account, such as Buildings or Equipment. In practice, however, most firms credit a contra-asset account called Accumulated Depreciation. Using the contra account leaves the acquisition cost of the asset undisturbed and permits the analyst to compute both the amount written off through depreciation and the undepreciated acquisition cost. If the firm credited the asset account directly, an analysis of the accounts would reveal only the net effect of the two.

The Work-in-Process Inventory account is an asset. Product costs, such as depreciation on manufacturing facilities, accumulate in the Work-in-Process Inventory account until the firm completes the goods and transfers them to Finished Goods Inventory. The Accumulated Depreciation account appears either on the balance sheet or in the notes. The balance in this account is a deduction from the asset account to which it is contra. The balance in the Accumulated Depreciation account usually represents the total charges in all accounting periods up through the balance sheet date for the depreciation on assets currently in use. The difference between the balance in the asset account (the gross value) and the balance in the Accumulated Depreciation account is the asset's net carrying value or net book value.