Accounting Depreciation: Legal and Practical Methods

Depreciation is not an arbitrary spreading of an expense. It is the accounting recognition of the consumption of the expected economic benefits of an asset. This definition governs everything else: the useful life used must reflect the actual use of the asset, not a tax optimum. The divergence between what accounting requires and what tax law allows is precisely what makes the subject technical — and what produces most reassessments.

The Depreciable Base and Useful Life

The depreciable base is the entry value of the asset reduced by its residual value, that is, the amount the company would obtain from disposing of it at the end of its use. This residual value is only taken into account if it is both significant and measurable — which, in practice, limits it to a few categories such as vehicles or certain equipment with an active secondary market.

The useful life is the period of use expected by the company, assessed asset by asset. It should not be confused with the technical service life of the equipment: a machine usable for fifteen years but which the company plans to replace after seven is depreciated over seven years.

An allowance exists for small businesses, which may use the useful lives accepted for tax purposes rather than the actual period of use. This simplification eases the justification burden, but it does not exempt them from revising the depreciation schedule when the conditions of use change significantly.

Depreciation Methods

Straight-line depreciation spreads the base evenly over the useful life. It is the standard method, applicable to any depreciable asset, and the only one accepted absent justification of a different consumption pattern.

Declining-balance depreciation concentrates the deduction in the earlier financial years, by applying a coefficient to the straight-line rate. It is reserved for certain new assets listed exhaustively, and its nature is tax-driven before being an accounting one: when it does not correspond to the actual consumption pattern, the difference from the accounting depreciation is recorded as an extraordinary tax depreciation adjustment.

Units-of-production depreciation, calculated on units of activity — machine hours, kilometers, units produced — is the most economically accurate method when use is irregular. It requires actual tracking of these units, without which it cannot be justified.

The Component Approach

This is the obligation most frequently overlooked in small businesses, and it is not optional.

When an asset comprises significant elements with different useful lives, these elements must be recorded and depreciated separately. A building is thus broken down into structural framework, façade and waterproofing, technical installations, and fittings — each with its own useful life.

The issue is not just one of compliance. The replacement of a component is capitalized and depreciated over its new useful life, while the net residual value of the replaced component is removed from the balance sheet. Without componentization, that same replacement is recorded as an expense and a tax audit reclassifies it as a capital asset, with the usual consequences described in our article on tax audits.

What Cannot Be Depreciated

Three categories consistently come up:

• Land, whose value is not consumed. When acquiring a built property, the split between land and building is mandatory, and a clearly unbalanced split will be corrected.
• Goodwill, not depreciable in principle, except when its useful life is limited and determinable. A regulated exception exists for small businesses.
• Financial assets, which are subject to impairment rather than depreciation.

The distinction between depreciation and impairment is fundamental: depreciation reflects an expected and planned consumption, while impairment reflects an unforeseen loss of value. An asset may be subject to both — the reasoning is the same as that described for provisions.

Tax Limits

Three rules limit the deduction, regardless of the accounting treatment chosen.

The starting point is the date the asset is put into service for straight-line depreciation, whereas declining-balance depreciation runs from the first day of the month of acquisition. Depreciating an asset that has been acquired but not yet put into service is a classic error.

Passenger vehicles are subject to a cap on deductible depreciation, the amount of which varies according to the vehicle's emissions. The excess portion is added back outside the accounts each year.

Minimum depreciation is the least well-known and most costly rule. A company must have recorded, at the close of each financial year, a cumulative amount of depreciation at least equal to the cumulative amount that would result from the straight-line method. Depreciation that has been irregularly deferred — that is, not recorded when it should have been — is permanently lost for deduction purposes. Deferring depreciation to improve a loss-making result does not postpone it: it eliminates it.

Usage Scenarios

Acquiring a building. Split the land and the building, then break down the building into components. This is the moment when the breakdown is straightforward; reconstructing it five years later at the time of renovation works is considerably harder.

A loss-making financial year. Do not suspend depreciation. The minimum depreciation rule turns an apparent deferral into a permanent loss of the right to deduct.

Replacing equipment. Check whether the replaced asset constituted an identified component. If so, the replacement is capitalized and the residual value of the outgoing component is recorded as an expense. The corresponding documentation discipline falls under bookkeeping.

Frequently Asked Questions

What useful life should be used? The actual period of use expected by the company, assessed asset by asset. Small businesses may use the useful lives accepted for tax purposes, which simplifies the justification without exempting them from revising the schedule if usage changes.

Straight-line or declining-balance? Straight-line is the standard method. Declining-balance is reserved for certain new assets and follows a tax-driven logic: when it diverges from the actual consumption pattern, the difference is recorded as an extraordinary tax depreciation adjustment.

Is land depreciated? No. When purchasing a built property, the split between land and building is mandatory, and an unbalanced allocation will be corrected.

Can depreciation be suspended in a loss-making year? Not without consequences. The cumulative amount recorded must remain at least equal to the straight-line cumulative amount, otherwise the deferred portion is permanently lost for deduction purposes.

What is component-based depreciation? The separate recording and depreciation of the significant elements of an asset that have different useful lives. It is mandatory as soon as these conditions are met, and is not optional.

How is a vehicle depreciated? Like any other asset, but the deductible portion is capped for passenger vehicles, according to a scale linked to emissions. The excess is added back each year.

Key Takeaways

Depreciation is justified by the actual use of the asset, never by a profit target. Three points account for most reassessments, and all of them are settled at the time the asset is capitalized rather than at the time of an audit.

The allocation comes first — land and building, then components — which determines the treatment of all subsequent replacements. The consistency of the useful life comes next, which must be explainable by more than a reference to a table. And minimum depreciation comes last, meaning that depreciation not recorded in time is not deferred but lost. These choices fit within the broader framework of corporate taxation, where the quality of documentation determines what survives an audit.