Depreciation Provisions and Reserves Test - 1

In order to fullfill the matching concept, we allocate depreciation amount over the useful life of assets. Because we receive benefits over the useful life of asset. so charging of whole depreciation in one year will be wrong.

A secret reserve is one whose existence is not disclosed in the balance sheet. It can be created by all the methods mentioned above by suppressing sales, by charging over depreciation etc.

Reserves are created out of the profits of the business. Since the profits belong to the propreitor the accumulation of the profits in the form of reserves belong to the owner.

Since fixed assets are continuously used during the normal course of the business they tend to be obselete.Hence the value of the assets are reduced by charging depreciation. Depreciation arises due to the normal wear and tear of the business.

It does not make clear which are the factors which cause reduction in the value of assets. Generally wear and tear, obsolescence, emergence of new technology , expiration of legal rights etc are the causes of depreciation.

Because by all of this the profits are reduced in the balance Sheet. The existence of the reserve is not disclosed in the balance sheet.

Accumulated depreciation account is shown in the liabilities side of the balance sheet. The depreciation to be charged on a fixed asset is accumulated year after year and shown in a separate account called accumulated depreciation account. This account shows a credit balance.

Dividends are issued by a company when they earn profits. In a year when the company incurs a loss and is not able to pay out dividends to its shareholders or when the profits are not sufficient enough to pay same rate of dividend, then dividend equalisation reserve helps in mainitaining the same rate of dividend.

When an asset is sold then the proceedings will be recorded in a separate account called asset disposal account. It enables to calculate the profit earned or loss incurred in the sale transactions.

Prudence concept is to only record a revenue transaction or an asset when it is certain, and record an expense transaction or liability when it is probable. Hence Liability should be created in form of provision.