Question

Why is depreciation considered a non-cash expense? Provide some examples of non-cash expenses and explain if should be considered when making decisions for purchasing capital assets. Why or why not.

Answer 1

Solution:

Depreciation is a non-cash expense because when we charge depreciation on non-current assets there is no payment made to outside of the business. This Depreciation is the charge on fixed assets to reduce the cost of assets over the useful life of assets.

Example of non-cash expense is   

1. Impairment of Goodwill  

2. Unrealized loss

3. Amortization on Intangible assets

4. Value of Assets written down

5. Provision for future loss

Non Cash Expenditure like depreciation is considered while making an investment in capital assets because

A. Depreciation is an allowable expense while calculating Profit for Tax purposes. Higher depreciation will result in low profit for tax But without any real cash outflow boost business internally generated cash for future investment and expansion plans.

B. The government around the globe in order to encourage more investment in capital assets and boost the economy offer higher level depreciation like 150% or 200% of new investment made in capital assets ( plant and machinery). This results in excess tax-saving and higher internally generated cash for the business.

Hence Depreciation plays an important role while making decision for capital investment.