Quote: "Read my lips – no new taxes" George Bush Snr New York Times 19th August 1988
Every asset has a finite life. In considering the expenses incurred in running a business it is important to include a proportion of the cost of each asset unless the life of the asset is exhausted in the same accounting period as that when it was acquired.
Thus if an asset has a life of three years its cost might be set against income in three annual installments or in 36 monthly installments.
The remaining life should be reconsidered frequently, so using the example above, if you reconsider the life of the asset at the end of the second year and decide that the asset has a remaining life of two years and not one, then the remaining value is depreciated over two years.
Where you decide that the depreciation is to write off the cost of the asset over a fixed period in even installments (even if you change your mind as to the number of years part way through) this is “Straight Line Depreciation”.
As an alternative you may consider that the asset never really ceases to have value to the business. Then your depreciation may be a fixed percentage of the value brought forward from the previous year. This is called “Reducing Balance Depreciation”. Consider the following example:-
| Asset cost Depreciation rate 25% | Straight Line Method | Reducing Balance Method |
| 1,000.00 | 1,000.00 | |
| Year1 Depreciation | 250.00 | 250.00 |
| Balance of cost | 750.00 | 750.00 |
| Year 2 Depreciation | 250.00 | 187.50 |
| Balance of cost | 500.00 | 562.50 |
| Year 3 Depreciation | 250.00 | 140.63 |
| Balance of cost | 250.00 | 421.88 |
| Year 4 Depreciation | 250.00 | 105.47 |
| Balance of cost | 316.41 | |
| Year 5 Depreciation | 79.10 | |
| Balance of cost | 237.30 | |
| Year 6 Depreciation | 59.33 | |
| Balance of cost | 177.98 | |
| etc. |
Where the reducing balance method is used the depreciation for a year is the fixed percentage of the balance at the end of the previous year. The choice of method is a matter of judgement for you. While the reducing balance method was once favoured, the advent of short life fashion and high technology goods has led to a preference for the straight line method.
While depreciation is useful for management accounts it is ignored by HM Revenue and Customs.
If your letting business qualifies for Capital Allowances (Furnished Holiday Letting, Industrial and Commercial buildings etc) then these may be claimed. They are effectively depreciation on a reducing balance at a rate set down by statute. See Capital Allowances
Where Capital Allowances are not available there are two alternatives for the landlord of fully furnished residential property: Either the Renewals Basis can be used or the landlord may claim a Wear and Tear Allowance.
The renewals basis allows the landlord to claim as a deduction from profits the cost of replacing furnishings and fittings etc.
The wear and tear allowance allows the landlord to make a deduction for depreciation calculated as 10% of the gross rents less certain expenses.
