Depreciation and disposal of fixed assets
If a fixed asset is sold, or otherwise disposed of, the following accounting entries are made to record the relevant transactions:
- A new account called disposal of fixed assets account is opened and the cost of the fixed asset being disposed of is transferred to this account by debiting the disposal of fixed assets account and crediting the relevant fixed asset account with the cost of the asset being disposed of.
- Any accumulated depreciation is also transferred to disposal of fixed assets account by debiting the provision for depreciation account and crediting the disposal of fixed assets account with the total accumulated depreciation on the item being disposed of. It should be noted here that it is generally not considered advisable to provide any depreciation for the year of disposal. Hence the amount transferred to disposal of fixed assets account is the accumulated depreciation at the end of previous accounting period.
- The effect of the above two entries is that the cost and accumulated depreciation is removed from the normal accounts. Also, disposal of fixed assets account now shows the book value of the item to be disposed of.
- If the asset is sold for cash, the cash or bank account is debited and disposal of fixed assets account is credited with the amount actually received on the sale of fixed asset.
- If the asset is traded in, or sold on credit, or is destroyed and an insurance claim is made, the account of the supplier of new machine, or the account of debtor, or insurance company is debited and disposal of fixed assets account is credited with the agreed value of the item being disposed of.
- After making all the entries discussed above, the disposal of fixed assets account shows a debit or credit balance. If it shows a debit balance, it denotes a loss on disposal of fixed asset. Like all expense accounts this debit balance should be transferred to the debit of profit and loss account at the end of the year. If, on the other hand, the disposal of fixed assets account shows a credit balance, it denotes a gain or profit on sale of fixed asset and should be transferred to the credit of profit and loss account as an ancillary income (also known as other income or non operating income ) at the end of the year.
The KLM company has several motor vehicles. On January 1, 2016, the motor vehicles account shows a balance of $79,300. On the same date the provisions for depreciation on motor vehicles account stood at $31,800. On March 5, 2016, motor vehicle number 026 was sold for $8,400. It had a cost of $14,000 and an accumulated depreciation of $7,250.
Required: Show journal entries and relevant ledger accounts assuming a depreciation rate of 20% p.a. on cost.