Revaluation Method

A method of determining the depreciation charge on a fixed asset against profits for an accounting period by revaluing the asset each year and writing off the fall in value.
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Definition

The Revaluation Method is a technique used to calculate the amount of depreciation to be recorded for a fixed asset during an accounting period. Under this method, the asset is revalued at the end of each period, and the reduction in its value (the difference between its book value and its revalued amount) is treated as the depreciation expense for that period. This method is often applied to assets that are subject to significant and rapid changes in value, such as depreciating assets like loose tools, machinery, or resource-depleting assets like mines.

Examples

  • Loose Tools: A manufacturing company that frequently uses and replaces tools may opt for the revaluation method. At the end of each year, the tools are revalued, and the decrease in their value is recorded as a depreciation expense.

  • Mining Assets: A mining company might use the revaluation method for its equipment and extracted minerals. The value of the mine and its equipment will be reviewed annually, and the fall in value due to extraction and usage will reflect the depreciation expense.

Frequently Asked Questions (FAQs)

  1. What is the main advantage of the revaluation method?

    • The main advantage is that it provides a realistic and updated value of the asset, ensuring that depreciation accurately reflects the current state of the asset.

  2. Can the revaluation method be used for all types of assets?

    • No, this method is typically suited for assets that experience significant changes in value over short periods, such as tools, machinery, and resource-depleting assets like mines.

  3. How often should revaluations be performed?

    • Generally, revaluations are conducted annually, but the frequency can vary depending on the nature of the asset and the company’s accounting policies.

  4. Are there any accounting standards governing the revaluation method?

    • Yes, accounting standards like the International Financial Reporting Standards (IFRS) and Generally Accepted Accounting Principles (GAAP) provide guidance on the revaluation of fixed assets.

  5. How does the revaluation method affect the profit and loss statement?

    • The fall in asset value due to revaluation is recorded as a depreciation expense, thus reducing the profits reported in the profit and loss statement.

  • Depreciation: The systematic allocation of the cost of a tangible asset over its useful life.

  • Fixed Asset: A long-term tangible asset that a company uses in its operations to generate income.

  • Fair Value: The price at which an asset could be exchanged in a current transaction between knowledgeable, willing parties.

  • Book Value: The value of an asset according to its balance sheet account balance, which is the net of the asset’s original cost and accumulated depreciation.

Online References

  1. Investopedia on Depreciation
  2. International Financial Reporting Standards (IFRS)
  3. Generally Accepted Accounting Principles (GAAP)

Suggested Books for Further Studies

  1. “Financial Accounting” by Jerry J. Weygandt, Paul D. Kimmel, and Donald E. Kieso
  2. “Intermediate Accounting” by Donald E. Kieso, Jerry J. Weygandt, and Terry D. Warfield
  3. “Principles of Accounting” by Belverd E. Needles Jr., Marian Powers, and Susan V. Crosson
  4. “Cases in Financial Reporting” by D. Eric Hirst, Mary Lea McAnally, and Charles W. Norwood

Accounting Basics: “Revaluation Method” Fundamentals Quiz

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