Depreciation Reserve Definition and Legal Meaning
On this page, you'll find the legal definition and meaning of Depreciation Reserve, written in plain English, along with examples of how it is used.
What is Depreciation Reserve?
n. Reserve of funds which is accumulated each year of an asset’s life so that the business can replace it when it becomes obsolete and totally depreciated.
History and Meaning of Depreciation Reserve
A depreciation reserve is a fund set aside by a company to replace an asset when it depreciates to zero value. The reserve is built up over time, with a fixed percentage of the asset's value being transferred to the reserve each year. When the asset reaches the end of its useful life, the company can use the reserve to purchase a new one. This helps to spread the cost of replacing assets over the life of the asset, rather than incurring a large expense at the end of its life.
Depreciation reserve is a common financial term used in accounting, and it plays a crucial role in a company's financial planning. Companies use depreciation reserve to manage their assets' lifecycle, plan for asset replacements, and reduce the financial impact of replacing assets.
Examples of Depreciation Reserve
A company purchases a new piece of machinery for $100,000 with a useful life of 10 years. The company sets aside 10% of the machinery's value each year in a depreciation reserve. After ten years, the company has accumulated $100,000 in its depreciation reserve, which can be used to purchase a new machine.
A business buys a fleet of trucks for $1,000,000, which has a useful life of 5 years. The business sets aside 20% of the value of the fleet each year in a depreciation reserve. After five years, the business has accumulated $1,000,000 in its depreciation reserve, which can be used to purchase a new fleet of trucks.
An airline buys a Boeing 747 for $500 million, which has a useful life of 25 years. The airline sets aside 4% of the aircraft value each year in a depreciation reserve. After 25 years, the airline has accumulated $500 million in its depreciation reserve, which can be used to purchase a new aircraft.
- Asset: Anything owned by a business or individual that has value and can be turned into cash.
- Depreciation: A reduction in an asset's value over time due to wear and tear, obsolescence, or other factors.
- Capital expenditure: A major investment in a business such as the purchase of land, buildings, or equipment.
- Salvage value: The amount a company expects to recover from the sale of an asset at the end of its useful life.