Depreciation

Depreciation is sometimes defined as a decline in tangible plant's service potential. Depreciation is often confused with the concept of valuation.  In fact, depreciation is an accounting method of cost allocation.  Depreciation of an asset has nothing to do with the fair market value of the asset.  It is a method of allocating the cost of a tangible asset in a systematic manner to those time periods that benefit from the use of the asset.

The two most common methods of accounting for depreciation today include:

• Straight Line Depreciation, calculated as follows:

(Cost - Salvage Value) / Estimated Service Life

• Accelerated Depreciation - uses rules established by the Internal Revenue Service, the most common of which is the Modified Accelerated Cost Recovery System, or MACRS.