Depreciation on the income statement is best described as:

• A. Cash outlay for asset replacement
• B. An equity adjustment
• C. Depreciation expense; non-cash allocation of asset cost over its useful life.
• D. Revenue from asset sale

Answer: (C)

Depreciation on the income statement is a non-cash allocation of an asset’s cost over its estimated useful life. In each period, a portion of the asset’s cost is expensed to reflect its wear and use, which reduces reported net income. But no cash is exchanged when depreciation is recorded—the cash outlay occurred when the asset was purchased. Because it doesn’t involve an actual cash flow, depreciation is added back when reconciling net income to cash flow from operations. It also helps match expenses with the revenues they help generate and reduces the asset’s book value through accumulated depreciation on the balance sheet. This isn’t a cash outlay for asset replacement, an equity adjustment, or revenue from an asset sale.