Fixed assets and depreciation
A capitalization policy, two October purchases on either side of it, the van's schedule over its whole life, and what selling it does to the books.
The van is Northwind's only fixed asset in September: $24,000 of cash that became a vehicle, a capital expenditure rather than an expense. That's capitalization: recording a cost as an asset because it will serve future periods, then charging it to them through depreciation. October brings the question every company meets in its first month of buying things: where is the line?
Capitalize or expense
GAAP doesn't draw it in dollars. A laptop that lasts three years is, in principle, a fixed asset. But the Codification says its own provisions need not be applied to immaterial items, so a company sets a capitalization threshold and expenses everything below it. Northwind's is $2,500 and a useful life over a year.
Northwind didn't pick $2,500 at random. The IRS lets a business elect a de minimis safe harbor and deduct items up to $2,500 per invoice or item, or $5,000 if it has an applicable financial statement, such as an audited one, provided its books expense them too. Matching the book policy to the safe harbor keeps the two sets of numbers agreeing on the small things. The election is made by a statement attached to the return, for each year it's wanted.
Buy and install shelving for the stockroom: above the threshold, with a five-year life, so it is capitalized.
| Account | Debit | Credit |
|---|---|---|
| 1510Store fixtures | 5,100.00 | |
| 2000Accounts payable | 5,100.00 | |
| Balanced | 5,100.00 | 5,100.00 |
OCT-8
Buy a laptop for the counter: below the threshold, so it is expensed whatever its life.
| Account | Debit | Credit |
|---|---|---|
| 6700Equipment and supplies expense | 1,400.00 | |
| 1000Cash — operating | 1,400.00 | |
| Balanced | 1,400.00 | 1,400.00 |
OCT-8L
The installation is part of the shelving's cost. Getting an asset ready for its intended use is part of what it cost, so the asset is $5,100, not $4,800, and it depreciates at $85 a month for sixty months.
Wrong
Dr 1510 Store fixtures 4,800 Dr 6700 Equipment expense 300 Cr 2000 Accounts payable 5,100
Right
Dr 1510 Store fixtures 5,100 Cr 2000 Accounts payable 5,100
Expensing the installation understates the asset and overstates October's expenses. The cost of getting an asset working is part of the asset.
The van, over its whole life
Each month's credit goes to accumulated depreciation, never to the van itself, so the balance sheet keeps the cost and shows how much of it is used up. The net book value is the difference. If the useful life or salvage value turns out wrong, the remaining schedule is re-spread from that month on; the months already closed stay as they were.
A fixed asset is cost waiting to become expense. The policy decides what goes in, the schedule decides when it comes out, and a sale settles the rest as a gain or a loss.
In this lesson: how to choose a depreciation method, and what happens when the van is eventually sold, each have their own page below.
Pages in this lesson
2 pages go deeper, about 8 minutes in all. Read them in order, or open the one you need.
Where this lesson's rules come from
The sources behind this lesson's requirements, by kind. Background reading explains; it is never the authority for a rule. Anything marked as a convention is ours, not the rule-maker's.
- IRS guidance
- IRS — Tangible Property Final Regulations, de minimis safe harbor (Treas. Reg. §1.263(a)-1(f)) (opens in a new tab)The de minimis safe harbor for small tangible propertyFree to read
- US GAAP
- ASC 105-10-05-6 (opens in a new tab)Immaterial items — why a capitalization threshold is allowed at allFree after registration
- ASC 360-10-35-4 (opens in a new tab)Depreciation allocates cost; it does not measure valueFree after registration
- ASC 250 (opens in a new tab)Accounting Changes and Error CorrectionsFree after registration
- FASB standard — superseded by the Codification
- FASB Statement No. 34, ¶6 (codified in ASC 835-20) (opens in a new tab)An asset's cost includes what it took to get it ready for usePDF · Free to read
- Background reading — not an authority
- Wikipedia, “Fixed asset” (opens in a new tab)Fixed assetFree to read
- Wikipedia, “Depreciation” (opens in a new tab)DepreciationFree to read
- Wikipedia, “Capital expenditure” (opens in a new tab)Capital expenditureFree to read
The full map is in US GAAP, and where these rules come from.
The words this lesson teaches
Each links to its glossary definition, which also names the authority behind it and the components that render it.
- Fixed assetA tangible asset held for use in operations over more than one period — property, plant and equipment — carried at cost less accumulated depreciation
- CapitalizationRecording a cost as an asset rather than an expense because it brings a future benefit — then allocated to expense over that benefit
- Capitalization thresholdThe written dollar amount, and minimum useful life, below which an entity expenses a purchase that would otherwise be an asset. GAAP sets no amount — its provisions need not be applied to immaterial items; many US companies align it with the IRS de minimis safe harbor
- Capital expenditureCash spent acquiring or improving long-lived assets in the period — the investing outflow free cash flow subtracts
- De minimis safe harborAn annual tax election to deduct, rather than capitalize, tangible property costing up to $2,500 per invoice or item — $5,000 with an applicable financial statement — provided the books expense the same amounts under an accounting policy in place at the start of the year
- DepreciationSpreading the cost of a fixed asset over the periods it serves
- Accumulated depreciationThe contra-asset holding every dollar of a fixed asset's cost already charged to depreciation — credited each period, presented beneath the asset's cost, and removed with the asset when it is sold or scrapped
- Net book valueCost less accumulated depreciation and impairment — the carrying amount of an asset
- Useful lifeThe period over which an asset is expected to contribute to cash flows, which sets the depreciation period — an estimate, revised prospectively
- Salvage valueThe amount expected from disposing of an asset at the end of its useful life, net of disposal costs — the floor depreciation stops at
- Straight-lineAllocating an amount evenly across the periods it covers — cost less salvage value divided by useful life for depreciation; equal monthly amounts for a prepaid or a ratable subscription. One systematic and rational method among several
- Gain or loss on disposalProceeds from selling or scrapping a long-lived asset less its net book value on that date — presented outside revenue, with the asset's cost and accumulated depreciation removed together
- Temporary differenceA difference between an asset or liability's tax basis and its book carrying amount that will reverse in future years — the source of deferred taxes
In the founder glossary
This lesson’s ideas, explained for the founder running the company. Each has an entry in the founder glossary.
See also
- Schedules, accruals & roll-forwardsEvery balance sheet account needs a schedule behind it, and the schedule has to tie to the GL. Most accounting products ship a ledger and statements and leave the schedules in spreadsheets. That handoff is where closes break.
- Depreciation scheduleStraight-line, double-declining or SYD schedules, with a first-period convention.
- Journal entry for an equipment purchaseWhen equipment is bought, debit the fixed asset account for its full cost (price plus delivery and installation) and credit Cash or Accounts payable. Nothing is expensed on the day of purchase; the cost reaches the P&L as depreciation.
- Journal entry for depreciationEach period, debit Depreciation expense and credit Accumulated depreciation for the period's charge. The asset account keeps its original cost; accumulated depreciation, a contra-asset, grows until net book value reaches salvage value.
- Journal entry for the sale of a fixed assetWhen a fixed asset is sold, debit Cash for the proceeds and Accumulated depreciation for its balance, credit the asset for its original cost, and book the difference as a gain (credit) or a loss (debit) on sale.
- CapEx vs OpExCapital expenditure buys an asset that will serve for more than a year, so its cost is depreciated over that life. An operating expense is used up in the period and hits the P&L in full right away.
- Depreciation vs amortizationDepreciation spreads the cost of a tangible asset over its useful life. Amortization does the same for an intangible one, and for loans and prepaids it also means paying a balance down over time.
- DepreciationScheduleBook and tax in parallel. In-service date, not purchase date.
- RollForwardOpening → movements → closing → tie. The universal shape.
- JournalEntryDebit and credit as two columns. No signed-column variant.