In accounting, depreciation is an expense that is created by the gradual erosion of the value of a fixed asset. It is also supposed to create a reserve for the replacement of the asset.

Rates of depreciation vary with the class of the asset and the life expectancy of the asset. For example a building would be depreciated over a longer period of time than a computer.

Most companies use the IRS guidelines for depreciation. The most common one is the straight line method. For example a vehicle purchased at a cost of $17,000 would be depreciated as follows:

Initial cost $17000 less salvage value $2000 = $15000 or $3000 per year for 5 years.

If the vehicle were to be sold before the 5 year period were up and the sales price exceeded the depreciated value then the excess depreciation would be considered as income by the IRS.