Chapter 6: Depreciation And its Accounting (JAIIB – Paper 3)

1. What does depreciation primarily represent in accounting?

• A. Loss due to fall in market price
• B. Cash outflow for asset purchase
• C. Gradual reduction in the value of an asset due to usage and time
• D. Increase in liability over time

Depreciation is the systematic allocation of the cost of a tangible asset over its useful life, reflecting wear and tear, passage of time, or obsolescence.

2. Which of the following is NOT a cause of depreciation?

• A. Wear and tear from use
• B. Obsolescence due to new technology
• C. Natural factors like rust or decay
• D. Increase in market demand of the asset

Market demand fluctuations do not cause depreciation. Depreciation arises due to physical wear, time, obsolescence, or natural causes.

3. Why is charging depreciation necessary in financial statements?

• A. To allocate asset cost over useful life and show true profit
• B. To increase cash flow of business
• C. To calculate goodwill
• D. To reduce tax liability only

Depreciation matches the cost of assets with the revenue they generate, ensuring accurate profit reporting and provision for asset replacement.

4. Which of the following is a key factor in determining the amount of depreciation?

• A. Market demand of the asset
• B. Estimated useful life of the asset
• C. Owner’s intention to sell the asset
• D. Share capital of the company

Useful life, cost of asset, and estimated residual value are the main factors that determine depreciation.

5. Which of the following best explains the term 'obsolescence' as a cause of depreciation?

• A. Loss due to wear and tear from daily use
• B. Decline in asset value due to rust or natural damage
• C. Reduction in value due to lapse of time
• D. Loss in value due to new inventions and technology replacing the asset

Obsolescence means the asset becomes outdated or less useful due to technological advancements or changes in demand.

6. What is the correct accounting entry when depreciation is charged on machinery?

• A. Depreciation A/c Dr. To Cash A/c
• B. Cash A/c Dr. To Depreciation A/c
• C. Depreciation A/c Dr. To Machinery A/c
• D. Machinery A/c Dr. To Depreciation A/c

The correct entry is: Depreciation A/c Dr. To Machinery A/c. This reduces the asset’s book value and records depreciation as an expense.

7. If depreciation is transferred to the Profit & Loss Account, what is the entry?

• A. Profit & Loss A/c Dr. To Depreciation A/c
• B. Depreciation A/c Dr. To Profit & Loss A/c
• C. Machinery A/c Dr. To Profit & Loss A/c
• D. Cash A/c Dr. To Profit & Loss A/c

Depreciation is an expense, so it is transferred to the Profit & Loss Account: Profit & Loss A/c Dr. To Depreciation A/c.

8. Under the Straight Line Method (SLM), depreciation is charged:

• A. As a fixed percentage on book value every year
• B. Higher in earlier years and lower in later years
• C. Based on actual production of the asset
• D. As an equal amount every year over the useful life

In SLM, depreciation is calculated on original cost, equally spread over useful life, so the charge remains the same each year.

9. Which method of depreciation charges higher depreciation in the initial years and lower in later years?

• A. Straight Line Method
• B. Written Down Value Method
• C. Production Unit Method
• D. Sinking Fund Method

Under WDV method, depreciation is charged on the reducing balance, resulting in higher depreciation in the initial years.

10. A machine costing ₹1,00,000 with a useful life of 10 years and no residual value is depreciated using SLM. What will be the annual depreciation?

• A. ₹10,000
• B. ₹5,000
• C. ₹20,000
• D. ₹15,000

Under SLM, depreciation = (Cost – Residual Value) ÷ Useful Life = (₹1,00,000 – 0) ÷ 10 = ₹10,000 per year.

11. Under Straight Line Method, depreciation is calculated on:

• A. Closing book value of the asset
• B. Original cost of the asset
• C. Fair market value of the asset
• D. Replacement cost of the asset

In SLM, depreciation is based on the original cost minus residual value, spread equally over the useful life.

12. Under Written Down Value (WDV) Method, depreciation is charged on:

• A. Original purchase cost
• B. Replacement cost
• C. Salvage value
• D. Book value at the beginning of each year

In WDV method, depreciation is calculated on the reducing balance (book value at the start of each year).

13. A machine costing ₹50,000 is depreciated at 10% p.a. using SLM. What will be the depreciation expense for the first 3 years?

• A. ₹5,000 in year 1, ₹4,500 in year 2, ₹4,000 in year 3
• B. ₹6,000 each year
• C. ₹5,000 each year
• D. ₹4,500 each year

Under SLM, depreciation = Cost × Rate = ₹50,000 × 10% = ₹5,000 every year.

14. A machine costing ₹1,00,000 is depreciated at 10% p.a. using WDV method. What is the depreciation charge for the second year?

• A. ₹9,000
• B. ₹10,000
• C. ₹8,500
• D. ₹9,500

In WDV, depreciation is charged on book value. Year 1 depreciation = 10% of ₹1,00,000 = ₹10,000. Book value = ₹90,000. Year 2 depreciation = 10% of ₹90,000 = ₹9,000.

15. Which of the following statements is TRUE about Straight Line and WDV methods?

• A. Both methods result in equal depreciation every year
• B. SLM charges equal depreciation, while WDV charges decreasing depreciation
• C. WDV always gives higher depreciation than SLM for all years
• D. SLM is always preferred over WDV in all cases

In SLM, depreciation remains the same each year. In WDV, depreciation decreases annually since it is based on reducing book value.

16. Which of the following is an advantage of Straight Line Method of depreciation?

• A. Easy to calculate and simple to apply
• B. Matches depreciation with actual usage of asset
• C. Provides higher depreciation in earlier years
• D. Asset value never becomes zero

The Straight Line Method is simple and easy to apply because the same amount of depreciation is charged every year.

17. Which of the following is a limitation of Straight Line Method?

• A. Complex calculation each year
• B. Provides higher depreciation in earlier years
• C. Matches actual wear and tear of assets
• D. Ignores the asset’s declining efficiency with age

SLM does not reflect the actual usage or decline in efficiency of an asset, as it charges equal depreciation each year.

18. Which of the following is an advantage of Written Down Value Method?

• A. Charges equal depreciation each year
• B. Ignores the effect of asset’s usage
• C. Matches higher depreciation with higher benefits in early years
• D. More suitable for assets with constant efficiency

WDV is advantageous because higher depreciation is charged in the early years when the asset’s utility and repairs are low.

19. Which of the following is a disadvantage of Written Down Value Method?

• A. Depreciation amount is simple to calculate
• B. Book value of asset never becomes zero
• C. Matches depreciation with revenue generation
• D. More appropriate for tax purposes

In WDV method, the asset’s value keeps reducing but never reaches zero, which can complicate asset replacement planning.

20. Which of the following statements is TRUE regarding SLM and WDV methods?

• A. Both methods always give the same depreciation
• B. SLM is preferred for tax purposes in India
• C. WDV is used only for intangible assets
• D. SLM is simple but ignores efficiency, WDV reflects usage but book value never becomes zero

SLM is easy but does not reflect actual wear and tear, while WDV matches depreciation with usage but leaves residual book value.

21. The Units of Production Method of depreciation is most suitable for which type of assets?

• A. Buildings
• B. Plant and machinery whose output can be measured
• C. Furniture and fixtures
• D. Intangible assets

Units of Production Method is ideal for assets like machinery, where depreciation is based on actual output or usage rather than time.

22. In the Units of Production Method, depreciation expense is calculated based on:

• A. Original cost of asset
• B. Remaining useful life in years
• C. Number of units produced or hours used
• D. Revaluation reserve

Depreciation = (Cost − Residual Value) × (Units Produced in the year ÷ Estimated Total Units).

23. Sum of the Years’ Digits (SYD) Method of depreciation is an example of:

• A. Accelerated depreciation method
• B. Straight line method
• C. Units-based method
• D. Hybrid method

SYD is an accelerated depreciation method where higher depreciation is charged in early years and lower in later years.

24. If the useful life of an asset is 5 years, the denominator (sum of digits) used in SYD method will be:

• A. 5
• B. 10
• C. 12
• D. 15

Sum of digits = 1+2+3+4+5 = 15. Each year’s depreciation fraction is based on remaining life ÷ 15.

25. In SYD method, which year will have the highest depreciation?

• A. Last year of useful life
• B. First year of useful life
• C. Middle year
• D. Same each year

SYD charges higher depreciation in the first year (since remaining life fraction is highest) and reduces over time.

26. The purpose of creating a Sinking Fund for replacement of a fixed asset is:

• A. To increase the value of the asset
• B. To avoid charging depreciation
• C. To accumulate funds systematically for replacement of the asset
• D. To reduce the purchase price of asset

A sinking fund is created to accumulate a specific sum over time to replace a fixed asset when its useful life ends.

27. In accounting, how is the sinking fund investment generally treated?

• A. Shown as an asset in the Balance Sheet
• B. Deducted from fixed assets
• C. Added to reserves
• D. Transferred to Profit and Loss Account

Investments made under the sinking fund are shown as assets until realized for replacement of the fixed asset.

28. Amortisation of intangible assets refers to:

• A. Charging depreciation on tangible fixed assets
• B. Writing off preliminary expenses
• C. Creating provision for bad debts
• D. Systematic allocation of cost of intangible assets over their useful life

Amortisation is similar to depreciation but applies to intangible assets like patents, trademarks, and goodwill.

29. Which of the following intangible assets is not amortised but tested for impairment annually as per accounting standards?

• A. Patents
• B. Goodwill
• C. Copyrights
• D. Trademarks with definite life

Goodwill is not amortised; instead, it is tested for impairment annually or more frequently if indicators exist.

30. Which accounting standard/Ind AS provides guidance on amortisation of intangible assets?

• A. Ind AS 2
• B. Ind AS 10
• C. Ind AS 38
• D. Ind AS 116

Ind AS 38 – Intangible Assets deals with recognition, measurement, and amortisation of intangible assets.