Objectives of Providing Depreciation

Written by True Tamplin, BSc, CEPF®

Updated on July 22, 2022

The following are the objectives of providing depreciation:

1. Knowledge of True Profits

When an asset is purchased, it is nothing more than payment in advance for an expense. For example, purchasing a building for $100,000 for business purposes will save rent in the future. 

However, after a certain number of years, the building will become useless. The cost of the building is, therefore, nothing except paying rent in advance for years.

Any paid rent would have been charged as an expense to determine the true profits made by the business during a particular period. 

Therefore, the amount paid for the purchase of the building should be charged over the period for which the asset would be serviceable.

2. True Financial Position

The assets depreciate in their value on account of various factors.

To present a true state of affairs of the business, the assets should be shown in the balance sheet, at their proper values.

In case depreciation is not charged, the balance sheet will not indicate a true view of the state of affairs of the business.

3. Replacement of Assets

The business uses assets to earn revenue. On account of constant use or lapse of time and similar other causes, a stage may come when the assets need to be replaced. Providing depreciation retains a part of the business profits, which can purchase new assets.

4. Correct Cost of Production

Depreciation is a cost of production, and if depreciation is not charged, the cost of production so determined will not be correct.

Objectives of Providing Depreciation FAQs

About the Author

True Tamplin, BSc, CEPF®

True Tamplin is a published author, public speaker, CEO of UpDigital, and founder of Finance Strategists.

True is a Certified Educator in Personal Finance (CEPF®), author of The Handy Financial Ratios Guide, a member of the Society for Advancing Business Editing and Writing, contributes to his financial education site, Finance Strategists, and has spoken to various financial communities such as the CFA Institute, as well as university students like his Alma mater, Biola University, where he received a bachelor of science in business and data analytics.

To learn more about True, visit his personal website, view his author profile on Amazon, or check out his speaker profile on the CFA Institute website.