Fixed Asset Accounting Flashcards

Question 1

What is a fixed asset in general accounting terms?

Accepted Answer

A fixed asset is a tangible or intangible resource that a business owns and uses in operations for more than one accounting period. Examples include buildings, machinery, and vehicles. Because these items deliver benefits over several years, they appear on the balance sheet as noncurrent assets rather than being expensed immediately.

Question 2

Why are fixed assets classified as noncurrent assets?

Accepted Answer

Fixed assets are classified as noncurrent because they are not expected to be converted into cash or consumed within one year or the normal operating cycle, whichever is longer. Their value is gradually used up through operations rather than sold in the ordinary course of business. This helps readers judge how much capital is tied up in long-term resources.

Question 3

What is the difference between tangible and intangible fixed assets?

Accepted Answer

Tangible fixed assets have physical form and can be touched, such as land, buildings, and equipment. Intangible fixed assets lack physical substance but still provide future economic benefits, such as patents. Both types are recorded at cost, and their costs are spread over time, with intangibles usually amortized and tangibles depreciated.

Question 4

What is the historical cost principle as it applies to fixed assets?

Accepted Answer

The historical cost principle requires a fixed asset to be recorded at the original cost paid to acquire it, including costs needed to get it ready for use. The recorded amount is not routinely increased to reflect market value changes. This favors objective, verifiable amounts.

Question 5

Why is land usually not depreciated in fixed asset accounting?

Accepted Answer

Land is usually not depreciated because it is generally considered to have an unlimited useful life, so its cost does not get systematically allocated to expense. Land can be improved with buildings or landscaping, and those improvements are recorded separately and depreciated. Land stays on the balance sheet at cost until sold.

Question 6

What costs are included in the cost of acquiring equipment?

Accepted Answer

The cost of acquiring equipment includes the purchase price, sales taxes, freight, and installation charges, along with any other costs necessary to prepare the asset for its intended use. Costs such as trial runs or testing before operation are typically included. Routine repairs and general training costs are excluded and expensed as incurred.

Question 7

What does it mean to capitalize a cost?

Accepted Answer

To capitalize a cost means to record it as an asset on the balance sheet rather than as an expense on the income statement immediately. The cost is then spread over the asset's useful life through depreciation or amortization. Capitalization is appropriate only when the expenditure provides benefits beyond the current period.

Question 8

What is a useful life for a fixed asset, and who estimates it?

Accepted Answer

A useful life is the period over which a fixed asset is expected to be productive for the business, measured in years or units of output. It is an estimate made by management, based on expected usage, wear and tear, and technological change. Useful life is not the same as physical life.

Question 9

How is the cost of a self-constructed asset determined?

Accepted Answer

The cost of a self-constructed asset includes direct materials, direct labor, and a reasonable share of manufacturing overhead incurred during construction. Interest incurred during construction may also be capitalized under applicable standards. Costs of abnormal waste, administrative overhead unrelated to construction, and general idle time are excluded and expensed.

Question 10

What accounting principle supports including installation costs in an asset's cost?

Accepted Answer

The matching principle supports including installation costs in an asset's cost, because those costs are necessary to obtain the benefits the asset will provide. Recording them with the asset matches the cost to the years that benefit from it. Immediate expensing would shift cost into the purchase year.

Question 11

How is a lump-sum purchase of several assets allocated to each asset?

Accepted Answer

A lump-sum purchase is allocated among the individual assets in proportion to their relative fair values at the acquisition date. Each asset's share of the total price becomes its recorded cost. For example, land and a building bought together are split using their relative fair values.

Question 12

How is a fixed asset received as a donation usually recorded?

Accepted Answer

A donated fixed asset is usually recorded at its fair value on the date it is received, since no cash was paid. The offsetting credit goes to a revenue or equity account according to the applicable reporting rules. The asset is then depreciated over its useful life like any other fixed asset.

Question 13

How is an asset bought on a deferred payment plan recorded?

Accepted Answer

The asset is recorded at the cash price equivalent, which is the present value of the required payments discounted at an appropriate interest rate. The difference between total payments and that cash price is recorded as interest expense over the payment period. This keeps financing charges out of the asset's cost.

Question 14

Why are routine repairs usually expensed rather than capitalized?

Accepted Answer

Routine repairs keep an asset in its normal operating condition but do not add new capacity, extend useful life significantly, or improve its quality. Because their benefit is used up in the current period, they are expensed when incurred. By contrast, major overhauls that extend life or improve output are capitalized.

Question 15

How does capitalizing a cost rather than expensing it affect current period income?

Accepted Answer

Capitalizing a cost moves it off the income statement for the current period, so current expenses are lower and net income is higher than under immediate expensing. Over later periods, depreciation spreads the cost and reduces income. Overstating assets by capitalizing improper costs can mislead readers, so the criteria must be applied carefully.

Question 16

Which details should a fixed asset record include at acquisition?

Accepted Answer

A fixed asset record usually includes a description, asset tag or serial number, acquisition date, total capitalized cost, estimated useful life, salvage value, depreciation method, and physical location. Maintaining these details supports accurate depreciation, insurance coverage, and audits. The register should be updated when assets are transferred, repaired, or disposed of.

Question 17

What is depreciation, and what does it accomplish?

Accepted Answer

Depreciation is the systematic allocation of a tangible fixed asset's depreciable cost over its useful life. It matches the expense of using the asset with the revenue it helps produce. Depreciation is an allocation process, not a method of valuing the asset, so book value may differ from market value.

Question 18

What is depreciable cost, and how is it calculated?

Accepted Answer

Depreciable cost is the asset's original cost minus its estimated salvage value, the amount expected to be recovered at retirement. For example, a machine costing 10,000 with an estimated salvage value of 1,000 has a depreciable cost of 9,000. Some assets, like land, are not depreciated at all.

Question 19

How is straight-line depreciation calculated for a fixed asset?

Accepted Answer

Straight-line depreciation spreads the depreciable cost evenly over the useful life. The annual expense equals depreciable cost divided by useful life in years. For example, a 9,000 depreciable cost over five years gives an annual expense of 1,800, which is recorded each year until book value reaches salvage value.

Question 20

What is the formula for declining balance depreciation?

Accepted Answer

Declining balance depreciation is calculated by multiplying a fixed rate by the asset's beginning book value each period, so expense is highest early and falls over time. The rate is often double the straight-line rate, and the calculation uses book value rather than depreciable cost. Depreciation stops once book value reaches salvage value.

Question 21

How does the double-declining balance method compute the annual rate?

Accepted Answer

The double-declining balance method doubles the straight-line rate, which equals two divided by useful life in years, and applies it to beginning book value each year. For a five-year asset, the rate is 40 percent. The first year's expense is the asset's cost multiplied by 40 percent, and later years use the reduced book value.

Question 22

What is the units of production method and when is it used?

Accepted Answer

The units of production method allocates depreciable cost according to actual output or usage, such as machine hours, miles driven, or units produced. The depreciation per unit equals depreciable cost divided by total estimated units over the asset's life. It suits assets whose wear depends mainly on use.

Question 23

How does the sum-of-the-years'-digits method calculate annual expense?

Accepted Answer

The sum-of-the-years'-digits method multiplies depreciable cost by a fraction each year. The denominator is the sum of the years of useful life, and the numerator is the remaining life at the start of that year. For a five-year asset, the denominator is 15, so year one uses 5/15, and year two uses 4/15.

Question 24

Why might a company switch from declining balance to straight-line depreciation?

Accepted Answer

A company may switch to straight-line depreciation once that method produces a larger expense than the declining balance method for the remaining years. Spreading the remaining book value evenly over the remaining life can produce that result, which ensures the asset is fully depreciated to salvage value by the end of its life.

Question 25

What is an impairment loss on a fixed asset?

Accepted Answer

An impairment loss is the reduction recorded when a fixed asset's carrying amount is not recoverable and exceeds its fair value. It is tested when conditions suggest the asset's value may have fallen below its book value. The loss reduces the asset's book value and is recognized in income.

Question 26

What events might indicate that a fixed asset may be impaired?

Accepted Answer

Common indicators include a significant drop in market price, physical damage, obsolescence, a plan to abandon the asset, and adverse changes in the business climate or legal environment. Management must consider these signs at each reporting date. Not every decline triggers a loss, but noticeable warning signs require a formal review.

Question 27

How is the amount of an impairment loss generally measured?

Accepted Answer

The impairment loss is generally measured as the excess of the asset's carrying amount over its fair value. For example, if a machine has a book value of 50,000 and fair value of 35,000, the impairment loss is 15,000. The asset then carries a lower book value going forward.

Question 28

What is the difference between impairment and normal depreciation?

Accepted Answer

Normal depreciation is a planned, systematic allocation of cost over the asset's expected life, while impairment is an unplanned write-down triggered by a specific event or condition. Depreciation follows a predetermined schedule, whereas an impairment loss reflects a sudden or significant drop in the asset's recoverable value.

Question 29

How does a company record the disposal of a fixed asset sold for cash?

Accepted Answer

When a fixed asset is sold, its original cost and accumulated depreciation are removed from the accounts. Any difference between the cash received and the remaining book value is recorded as a gain or loss. For example, an asset with cost 20,000, accumulated depreciation 15,000, and sale price 7,000 produces a 2,000 gain.

Question 30

What happens to accumulated depreciation when an asset is retired without sale?

Accepted Answer

When an asset is retired and scrapped with no proceeds, its original cost and accumulated depreciation are both removed from the accounts. If the asset is fully depreciated, the removal produces no gain or loss. If it still has book value, that remaining amount is recorded as a loss on disposal.

Question 31

What is the carrying amount of a fixed asset?

Accepted Answer

The carrying amount, also called book value, is the asset's original cost minus accumulated depreciation and any accumulated impairment losses. It represents the unexpired cost still on the balance sheet. Carrying amount is not the same as market value, which can be higher or lower depending on conditions.

Question 32

Can a recognized impairment loss on a fixed asset later be reversed?

Accepted Answer

Under US GAAP, a recognized impairment loss on a fixed asset held for use cannot be reversed, so the lower carrying amount becomes the basis for future depreciation. Under IFRS, reversal is permitted for most assets, up to the carrying amount that would have existed without the impairment.

Question 33

How do fixed assets appear on the balance sheet?

Accepted Answer

Fixed assets are usually shown in the noncurrent section, often as property, plant, and equipment, net of accumulated depreciation. Each major class may be listed separately, with the accumulated depreciation shown as a deduction. Readers can then see both the historical cost and the net carrying amount.

Question 34

How do fixed assets affect the statement of cash flows?

Accepted Answer

Purchases of fixed assets are cash outflows and sale proceeds are cash inflows, both in investing activities. Depreciation is a noncash expense, so it is added back to net income when computing operating cash flow under the indirect method. Gains or losses on disposal are removed from operating cash flow.

Question 35

How do depreciation methods affect reported net income in early years?

Accepted Answer

Accelerated methods such as double-declining balance produce higher depreciation in early years, which lowers reported net income compared with straight-line depreciation. Over the full life, total depreciation is the same under all methods, so the difference reverses in later years. Method choice therefore affects timing of profit, not total profit.

Question 36

How is partial-year depreciation calculated when an asset is bought mid-year?

Accepted Answer

Partial-year depreciation is the full annual expense multiplied by the fraction of the year the asset was in service. For example, a machine with annual straight-line expense of 1,800 placed in service after six months records 900 in its first year. The company's policy for partial periods should be applied consistently.

Question 37

How does a change in useful life affect future depreciation?

Accepted Answer

A change in useful life is applied prospectively, spreading the remaining book value over the revised remaining life. Past depreciation is not restated. For example, if the remaining life of an asset is extended from 4 years to 6 years, future annual expense falls because the same remaining amount is spread over more years.

Question 38

How do you compute the book value of an asset after several years of straight-line depreciation?

Accepted Answer

Subtract accumulated depreciation from the original cost. Accumulated depreciation equals the annual expense multiplied by the years elapsed, and book value never falls below salvage value. For example, an asset costing 10,000 with a 1,000 salvage value and five-year life has annual expense of 1,800 and book value of 6,400 after two years.

Question 39

What is the fixed asset turnover ratio and what does it show?

Accepted Answer

The fixed asset turnover ratio divides net sales by average net fixed assets, showing how much revenue the business generates for each dollar invested in fixed assets. A higher ratio generally suggests more efficient use of those assets, although it can also reflect heavily depreciated assets. Ratios should be compared within the same industry.

Question 40

What is an asset retirement obligation and how is it recorded?

Accepted Answer

An asset retirement obligation is a legal duty to remove a tangible long-lived asset at the end of its useful life. It is recorded as a liability at its present value, and an equal amount is added to the asset's cost. The added cost is depreciated, and the liability grows through accretion expense.

Fixed Asset Accounting Flashcards

1Fixed asset basics and classification

2Initial measurement and capitalization

3Depreciation methods and calculations

4Impairment and disposal

5Reporting and applied analysis

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