Capital assets also known as fixed assets are simply such assets which are used over a period longer than one year. Although real cash outflow takes place for the whole price at the time of acquisition of such assets however, for reporting purposes such costs are not expensed out in the year of purchase of asset rather a systematic approach is followed to reduce the value of asset recorded in financial books (book value). The amount which is treated as an expense every year is a depreciation expense in the Income statement.
Now basic idea is to reduce the value of asset over time for its use and to do this one easy way is to credit the asset account directly. However, in order to keep the historic cost concept intact, the credit effect of depreciation entry is not made in the asset account rather a separate account is opened with the name accumulated depreciation which is of opposite nature to real asset account or contra asset account. By separating the amount of depreciation, cost at which asset was purchased or revalued will not be disturbed but total depreciation accounted for so far will also be kept in financial books and whenever user desire to know the remaining value of asset then they can simply deduct the balance in accumulated depreciation account from the balance in asset account.
After explaining the concept behind two accounts under discussion now we can proceed with understanding the differences which as follows:
- Closing balance of depreciation account is reported in income statement whereas closing balance of accumulated depreciation account is reported in statement of financial position
- Depreciation account is a temporary account and needs to be closed in the income statement by the end of year whereas accumulated depreciation account is permanent account and is carried forward to next accounting period.
- Depreciation account is pure expense arising out of cost expired due to use of asset where as other is simply a contra asset account maintained only for reporting purposes and making it more understandable by presenting historic cost information.
- Depreciation account shows the reduction in the value of asset in a particular period whereas accumulated depreciation shows the total devaluation occurred so far since the purchase or depreciation commenced.