It is important for a company to follow a uniform policy with respect to the acquisition, capitalization, management and disposition of equipment and other capital assets for financial statement purposes. Assets acquired by a company are either expensed or capitalized. Companies develop specific guidelines about which purchases of assets will be expensed and which must be capitalized. Typically, a company will develop a formula that will be used to determine which asset acquisitions are to be capitalized. The variables that are considered in determining whether or not to capitalize an asset are:
The nature of the product that has been acquired along with its intended use
The normal useful life of the asset. [For an asset to be capitalized, it must provide economic benefit over a number of years]
The unit acquisition cost. [Below a certain dollar threshold it simply not rational to go to the time and trouble to capitalize an asset that has been purchased]
Property acquired by the company under review that does not meet each of these tests will be expensed in the accounting period in which the acquisition took place. Otherwise, the amount to be capitalized should be equal to the cost to purchase or construct the asset plus the cost to ready it for use. The costs to purchase an asset may include closing costs, freight, handling charges, and assembly and installation costs. Annual depreciation for financial reporting allocates the cost over the economic useful life of the asset. It should be noted that tax depreciation methods that may permit accelerated cost recovery over periods less than the economic life of an asset are not appropriate for financial reporting purposes.
Joseph Mangan in Insurance Advocate explains that FIFO and LIFO are accounting rules used to prepare financial statements. Specifically, they determine how an accountant values a firm's inventory. The choice of LIFO and FIFO inventory valuation affect...