What is 'Economic Depreciation'

Economic depreciation is a measure of the decrease in value of an asset over time. This form of depreciation usually pertains to real estate, which can lose value due to indirect causes such as the addition of new construction in close proximity to the property, road additions or closures, a decline in the quality of the neighborhood, or other external factors. Economic depreciation is different than depreciation expense on tangible assets, such as machinery or equipment.

BREAKING DOWN 'Economic Depreciation'

In periods of economic downturn or a general housing market decline, economic depreciation must be considered when a property goes through an appraisal. During the credit crisis and housing market collapse of 2008, the combination of subprime loans requiring low or no down payments with the dramatic drop in housing values resulted in a significant amount of the U.S. home owners owing more money on a home than it was actually worth.

Factoring in Liquidity

Real estate’s lack of liquidity makes the impact of economic depreciation more profound for the owner. Liquidity refers to the ability of an owner to sell an asset, and assets that sell on exchanges, such as stocks and bonds, are more liquid than real estate and other assets. If, for example, an investor wants to sell 100 shares of IBM common stock, that investor can check the bid price on a stock exchange and place a trade to sell the stock on any business day. Real estate, on the other hand, requires the seller to find a buyer, and the two parties must negotiate until the parties agree on a price. In addition, the sale normally requires an appraisal of the property, and a real estate sale can take months to complete.

Differences Between Tangible and Intangible Assets

Economic depreciation is different than the depreciation recognized for tangible assets as those assets are used to create revenue. While land does not depreciate, buildings and other tangible assets do recognize depreciation, which is the decline in value of a physical asset as the asset is used over time. Assume, for example, that a roofing company uses a truck to perform residential roofing work, and that the truck is used for seven years. As the truck is used each year to generate revenue, the company also posts depreciation expense for the decline in value of the asset. Intangible assets, such as a patent or other intellectual property, do not depreciate in value.

RELATED TERMS
  1. Appraisal Method Of Depreciation

    A form of depreciation calculation that is based upon appraisal ...
  2. Carrying Value

    An accounting measure of value, where the value of an asset or ...
  3. Accelerated Depreciation

    Any method of depreciation used for accounting or income tax ...
  4. Salvage Value

    The estimated value that an asset will realize upon its sale ...
  5. Double Declining Balance Depreciation ...

    One of two common methods a business uses to account for the ...
  6. Declining Balance Method

    A common depreciation-calculation system that involves applying ...
Related Articles
  1. Investing

    How Rental Property Depreciation Works

    It's a bit tricky, but a valuable tool to make your investment pay off.
  2. Investing

    An Introduction To Depreciation

    Companies make choices and assumptions in calculating depreciation, and you need to know how these affect the bottom line.
  3. Investing

    How Depreciation Works on a Rental Property

    One of the advantages of owning rental real estate is the depreciation tax deduction.
  4. Investing

    Explaining the Declining Balance Method

    The declining balance method is a system for calculating an asset’s rate of depreciation against its non-depreciated balance.
  5. Investing

    Understanding Carrying Value

    Carrying value is the value of an asset as listed on a company’s balance sheet. Carrying value is the same as book value.
  6. Trading

    Understanding Currency Depreciation

    Currency depreciation occurs when a currency’s value falls in comparison to other currencies.
  7. Investing

    Double Declining Balance Depreciation Method

    The double declining balance depreciation method counts the depreciation of a long-lived asset’s book value at double the rate of its straight-line depreciation.
  8. Managing Wealth

    What's a Tangible Asset?

    Tangible assets are property owned by a business that can be touched -- they physically exist. Examples include furniture and fixtures, computer hardware, delivery equipment, leasehold improvements ...
  9. Investing

    Understanding Accumulated Depreciation

    Depreciation is a rough approximation, in dollar terms, of the wear and tear on an asset. So the accumulated depreciation is the aggregate of the wear and tear on the asset from all prior time ...
  10. Investing

    Depreciation: Straight-Line Vs. Double-Declining Methods

    Appreciate the different methods used to describe how book value is "used up".
RELATED FAQS
  1. Is depreciation only used for tangible assets?

    Learn if tangible assets can be depreciated, as well as what other assets are eligible for depreciation so you can account ... Read Answer >>
  2. What tangible assets are depreciated?

    Learn about why tangible business assets are depreciated, what qualifies as a tangible business asset and which assets cannot ... Read Answer >>
  3. Can real estate be depreciated?

    Decrease the amount of taxable income on your income-producing real estate by depreciating the asset on your federal income ... Read Answer >>
  4. What is the tax impact of calculating depreciation?

    Understand the tax implications of a company's depreciation. Learn how differences in accounting methods change the amount ... Read Answer >>
  5. What would cause a decrease in accumulated depreciation?

    Understand what causes a decrease in a company's accumulated depreciation. Learn why a company's accumulated depreciation ... Read Answer >>
  6. How does accumulated depreciation affect net income?

    Learn why accumulated depreciation does not directly affect a company's net income; understand where a company accounts for ... Read Answer >>
Hot Definitions
  1. Collateral Value

    The estimated fair market value of an asset that is being used as loan collateral. Collateral value is determined by appraisal ...
  2. Fiduciary

    A fiduciary is a person who acts on behalf of another person, or persons to manage assets.
  3. Current Account

    The difference between a nation’s savings and its investment. The current account is defined as the sum of goods and services ...
  4. Liability

    Liabilities are defined as a company's legal debts or obligations that arise during the course of business operations.
  5. Quick Ratio

    The quick ratio is an indicator of a company’s short-term liquidity. The quick ratio measures a company’s ability to meet ...
  6. Covered Call

    An options strategy whereby an investor holds a long position in an asset and writes (sells) call options on that same asset ...
Trading Center