Meaning and definition of Accelerated Definition
Accelerated depreciation refers to a method of depreciation used for income tax or accounting purposes which allows higher deductions in the initial years of an asset’s life. Putting it simple, it is the practice of saving tax money by charging higher depreciation in the starting years. In reference to financial accounting, accelerated depreciation is usually used during times when an asset is likely to generate more profits in its initial years, so that the expense on depreciation is helpful in providing an accurate representation about the usefulness of an asset being used up every year.
On the other hand, for taxation purposes, accelerated depreciation proffers a way of adjourning corporate income tax by reducing taxable income in current years, in lieu of increased taxable income in prospective years. Moreover, this is an important tax incentive that supports a business for purchasing new assets.
Example of accelerated depreciation
Accelerated depreciation can be illustrated in the following example. Let us presume that a company purchases a generator which costs $1,000 and features an expected life of 10 years. As per the simplest form of depreciation, the company can allocate $100 of the cost of the generator to its expense each year, until the $1000 expense on capital has been used up. As per accelerated depreciation, the company can apportion $200 of the generator’s cost for five years.
In the case of normal depreciation, the company declares $100 per annum in depreciation thus having a tax profit of $100. The company is, therefore, constrained to pay tax of $20 on the profit of $100, thus making it to $200 in ten years.
In the case of accelerated depreciation, on the other hand, the company apportions $200 as depreciation for the initial five years and is not supposed to pay anything for the last five years. For the initial five years, the company does not have any taxable profits thus saving the gains tax. For the later five years, the company has a profit of $200 and pays $40 each year in tax, thus making it reach $200.
Comparing both cases, the amount of tax paid is equal but the deferred time in accelerated depreciation is much higher.