Page 73 - Account for Ag - 2019

CH 12] Accounting for Fixed Assets & Depreciation 12-1

CHAPTER TWELVE: ACCOUNTING FOR FIXED ASSETS & DEPRECIATION

A fixed asset is one that has a service life longer than a single accounting period, and is used in the production
or sale of other assets or services.

A productive life of longer than one accounting period distinguishes a fixed asset from an item of supplies. As
an example, a breeding bull, breeding cow, tractor, barn, warehouse, mature orchard, retail store building,
mercantile fixtures (tables, shelves, etcetera) are all fixed assets; they are all used in the production or sale of other
assets. Conversely, calves held for sale, market hogs, fertilizer, pesticides, store merchandise are examples of
items of supplies (assets used in trade), and are not considered fixed assets. The contribution to production of an
item of supplies is considered to be consumed in a single accounting period, and its cost is charged to the period in
which it is consumed. A fixed asset's contribution continues beyond a single period, and if revenue and expenses
are matched, its cost must be allocated to the several periods of its use.

A fixed asset's use in the production and sale of other assets distinguishes such an asset from an item of
merchandise or an investment. For example, an item of office equipment or factory machinery held for sale by a
dealer is merchandise to the dealer. Likewise, land purchased and held for future expansion but presently unused
is classified as a long-term investment. Neither is a fixed asset until put to use in the production or sale of other
assets or services. 12

Fixed assets may be divided into two major classes:
a) Physical properties held permanently, not for the purpose of sale, but for use in carrying out the regular activities of
the business. Examples are land, buildings, furniture and fixtures, machinery, etcetera.

b) Natural resources subject to depletion through mining, pumping, or cutting the natural deposit or growth comprising
the resource. Examples are mineral, coal, and oil deposits, growing timber, etcetera.

COST OF FIXED ASSETS
Business assets are usually acquired by making a purchase or by exchanging an old asset plus cash for a new
one. The cost of such an asset includes all expenditures necessary to get it in place and in operation. Therefore, in
addition to the price paid to the seller, expenditures incurred for sales taxes, transportation, and installation are
debited to the asset account. Similarly the cost of constructing a building includes the fees paid to architects for
plans and supervision, the cost of temporary sheds to house tools and materials, and other necessary expenditures.
When a secondhand asset is purchased, the initial costs of getting it ready for use, such as expenditures for new
parts, repairs, and painting, are properly chargeable to the asset account. The determination of the cost of
equipment acquired in exchange for another asset is discussed later in this chapter.

DEPRECIATION OF PLANT AND EQUIPMENT

When a fixed asset is purchased, in effect a fund of usefulness that will contribute to production throughout
the life of the asset is acquired. All fixed assets, except land, decline in usefulness as a result of wear, the action of
the elements, and the passing of time. This decline in usefulness is called depreciation. Land is excepted because
as a site for buildings or for other business uses it is permanent, barring such unforeseeable and unusual
occurrences as flood or earthquake.

Depreciation of fixed assets must be recognized in the accounts and on the financial statements. It would
obviously be incorrect to consider a fixed asset as wholly an expense at the time of acquisition. It is equally
obvious that the recognition of depreciation should not be postponed until the period in which the fixed asset is
finally traded in, sold, or discarded. It is necessary that depreciation expense be distributed over the fiscal periods
that are expected to benefit from the use of the fixed asset, or that assets useful life.

Depreciation, as a term, is used in accounting to explain the expiration of a fixed asset's fund of usefulness;
and the recording of depreciation is a process of allocating and charging the cost of this fund to the accounting
periods that benefit from its use.

Land as a fixed asset, for accounting purposes, is considered to have an unlimited life and a fund of usefulness
that remains undiminished throughout its life. Consequently, land is usually assumed not to depreciate.
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