Learn It
Some things a business buys are used up quickly — office supplies, for example. Those are recorded as expenses right away. But other purchases are meant to last for years. Equipment, furniture, vehicles, and buildings are all examples of fixed assets.
A fixed asset is a long-term asset the business owns and uses to operate. Because it will provide value for more than one year, the cost is not recorded as an expense all at once. Instead, the cost is capitalized — recorded as an asset — and then gradually moved to expense over the asset's useful life. This gradual move is called depreciation.
As we covered in Purchases and Expenses, the difference between an asset and an expense is about timing. An expense is used up quickly. An asset provides value over a longer period. Depreciation is the bridge that turns the asset's cost into an expense over time.
Key Terms
Useful Life
How long the business expects to use the asset. A computer might have a useful life of 3 years. A building might have 30 years. The useful life is an estimate, not a guarantee.
Residual Value
What the asset is expected to be worth at the end of its useful life. Also called salvage value. If a $12,000 machine is expected to be worth $2,000 after 5 years, the residual value is $2,000. Only the cost above residual value is depreciated: $12,000 − $2,000 = $10,000.
Accumulated Depreciation
The total depreciation recorded since the asset was purchased. It is a contra-asset — it sits next to the asset and reduces its book value. The original cost account never changes. Instead, Accumulated Depreciation grows over time.
Book Value
What the asset is worth on the books right now. Book value = original cost − accumulated depreciation. Book value is not the same as market value — it is the accounting value, not what the asset could sell for.
Straight-Line Depreciation
The simplest method is called straight-line depreciation. The same amount of depreciation is recorded each year. The formula is:
To get the monthly amount, divide the annual depreciation by 12. This monthly amount is what gets recorded at the end of each month as an adjusting entry.
Depreciation does not mean cash leaves the bank each month. The cash was spent when the asset was purchased. Depreciation is a way of spreading that already-spent cost across the periods that benefit from the asset.
See It
A business buys equipment for $12,000. The estimated useful life is 5 years. The residual value is $0.
Monthly Depreciation = $2,400 ÷ 12 = $200 per month
Here is how the books change over time:
| End of Year | Equipment | Accum. Dep. | Book Value | Dep. Expense (yr) |
|---|---|---|---|---|
| Year 1 | $12,000 | $2,400 | $9,600 | $2,400 |
| Year 2 | $12,000 | $4,800 | $7,200 | $2,400 |
| Year 3 | $12,000 | $7,200 | $4,800 | $2,400 |
| Year 4 | $12,000 | $9,600 | $2,400 | $2,400 |
| Year 5 | $12,000 | $12,000 | $0 | $2,400 |
Notice what happens: the Equipment account stays at $12,000 the entire time. Accumulated Depreciation grows by $2,400 each year. Book value shrinks. And each year, $2,400 of Depreciation Expense hits the income statement — reducing profit. But no cash leaves the bank for depreciation. The cash left when the equipment was purchased.
At the end of Year 5, the book value reaches $0. The asset is fully depreciated. If the business keeps using the equipment after that, no more depreciation is recorded. If the business sells or discards the asset, that is called a disposal — the asset and its accumulated depreciation are removed from the books, and any difference between the book value and the sale price creates a gain or loss.
Book Depreciation vs. Tax Depreciation
The depreciation recorded in the books (book depreciation) and the depreciation used for tax returns (tax depreciation) may be different. Tax rules often allow faster depreciation methods or special deductions that reduce taxable income more quickly. The bookkeeper records depreciation for the books based on the useful life estimate. Tax depreciation is a separate calculation handled by the tax preparer.
This lesson covers book depreciation — the depreciation that appears on the financial statements. It is not tax training.
Do It
Complete the fixed-asset schedule for three assets, then record the month-end depreciation journal entry.
Do It — Complete the Fixed Asset Schedule
Three assets are listed below. All use straight-line depreciation with no residual value. For each asset, calculate and type:
- Annual Depreciation = Cost ÷ Useful Life (in years)
- Depreciation Recorded to Date = Monthly Depreciation × Months Elapsed
- Accumulated Depreciation = same as Depreciation Recorded to Date (all months have been recorded)
- Ending Book Value = Original Cost − Accumulated Depreciation
Monthly Depreciation = Annual Depreciation ÷ 12. All these numbers divide evenly.
| Asset | Cost | Life (yrs) | Months Elapsed | Annual Dep. | Dep. to Date | Accum. Dep. | Book Value |
|---|---|---|---|---|---|---|---|
| Office Equipment Jan 1, Year 1 | $12,000 | 5 | 18 | $ | $ | $ | $ |
| Furniture Jul 1, Year 1 | $7,200 | 6 | 12 | $ | $ | $ | $ |
| Computer Oct 1, Year 1 | $3,600 | 3 | 6 | $ | $ | $ | $ |
Now record one month of depreciation for all three assets combined.
Add the monthly depreciation for each asset together. This is the month-end adjusting entry. Select the correct accounts and type the debit and credit amounts.
| Account | Debit | Credit |
|---|---|---|
$ | — | |
| — | $ |
Prove It
Answer each question, then read the explanation. There's no score — this is just to help the ideas stick.
Question 1
A business buys a $12,000 piece of equipment expected to last 5 years with no residual value. How is the cost recorded?
Question 2
Which account is credited when monthly depreciation is recorded?
Question 3
A piece of equipment cost $12,000. Accumulated Depreciation is $4,800. What is the book value?
Ready for more than a short exercise?
This exercise isolates one skill — calculating depreciation and recording the adjusting entry. Real bookkeeping requires you to track many assets, handle partial-year depreciation, record disposals, and reconcile accumulated depreciation to supporting schedules. QBO Dojo practice clients let you apply these skills across realistic business activity inside QuickBooks Online.
Explore QBO Dojo Practice ClientsKey Takeaways
- A fixed asset is a long-term asset recorded at its original cost, not expensed all at once.
- Depreciation spreads the cost over the asset's useful life.
- The original cost account never changes — Accumulated Depreciation grows as a contra-asset.
- Book value = original cost − accumulated depreciation.
- Straight-line depreciation = (cost − residual value) ÷ useful life.
- Depreciation does not reduce cash — the cash was spent when the asset was purchased.
- Book depreciation and tax depreciation may differ.