ACCT 322 Test 2

Which depreciation method is a function of use?

Activity

When does the capitalization period end?

When the asset is substantially completed and ready for use.

When does accelerated depreciation switch to straight-line under MACRS?

27.5-39 year property.

What is a capitalization cut-off policy?

A policy where costs of at least X amount to obtain new or used assets that will last at least three years should be capitalized. All costs of at least X amount that extend the useful life of an asset or enhance the quality quantity of output should be capitalized. All other costs should be expensed as incurred.

Steps in interest capitalization?

1. Determine which assets qualify for capitalization of interest. 2. Determine the capitalization period. 3. Compute weighted average accumulated expenditures. 4. Compute actual and avoidable interest. 5. Capitalize the lesser of actual interest costs or avoidable interest.

Objectives, advantages, and disadvantages of the primary depreciation methods?

Activity, the most accurate matching but difficult method. Accelerated methods, such as double-declining and sum-of-years-digits, are primarly used in order to write-off as much of the cost as quickly as possible (to "recover" the cost, in IRS lingo) Declining-Balance Method. Utilizes a depreciation rate (percentage) that is some multiple of the straight-line method. Does not deduct the salvage value in computing the depreciation base.

Rules on non monetary exchange?

An exchange has commercial substance if the future cash flows change as a result of the transaction. Companies recognize a loss immediately whether the exchange has commercial substance or not. Exchanges - Gain Situation Lacks Commercial Substance—Some Cash Received. When a company receives cash (sometimes referred to as "boot") in an exchange that lacks commercial substance, it may immediately recognize a portion of the gain. The general formula for gain recognition when an exchange includes some cash is as follows: ((Cash received [boot])/(cash received [boot]+fair value of other assets received))*Total Gain = recognized gain Exchanges - Gain Situation Has Commercial Substance. Company usually records the cost of a nonmonetary asset acquired in exchange for another nonmonetary asset at the fair value of the asset given up, and immediately recognizes a gain.

What is avoidable interest and how is it calculated?

Avoidable interest is the amount of interest cost during the period that a company could theoretically have avoided if it had not made expenditures for the asset. It is calculated by multiplying the interest rate by the weighted-average accumulated expenditures for qualifying assets during the period.

Why might a company used straight-line for the books and accelerated depreciation for tax purposes?

Because straight line is easiest to calculated but accelerated allows for higher tax deductions.

Usually a building will be purchased together with the land that it's on. You as the accountant have no precise way of knowing how much of the purchase price to apply toward the building or the land. For tax purposes, would a person tend to allocate more toward the building or the land? What if the goal was to maximize current profits? What might be one source of information that could possibly help you objectively allocate the cost between the land account and building account?

Building because of deductions for depreciation. Land. Manipulating the books for a specific outcome. The historical cost, or the tax assessment.

What does capitalize mean?

Capitalize is often used to indicate the cost would be recorded as the cost of an asset. - Deferred costs.

What are some of the ways in which we can make the calculation of depreciation for partial periods simpler?

Conventions can be adopted, such as mid-month or mid-year, used by the IRS.

Distinguish between depreciation, depletion, and amortization.

Depreciation is the accounting process of allocating the cost of tangible assets to expense in a systematic and rational manner to those periods expected to benefit from the use of the asset. physical assets that are exhaustible should be depreciated. Fixed assets = Depreciation expense Intangibles = Amortization expense Natural resources = Depletion expense What does depreciation mean to an accountant? taking the cost of a long-lived asset and spreading that cost over the years that the asset provides benefits. This is in adherence to the matching principle.

Which method doesn't deduct salvage value in order to calculate depreciation expense? Why?

Double declining, because it's depreciation rate is high enough

How does the materiality principle affect a capitalization cut-off policy?

Expense costs which simply maintain but do not increase an asset's future life or quantity/quality of output.

When a non-cash asset is donated by your company, at what value should the donation be recorded?

Fair value of the asset. Debit contribution expense.

When are the group and composite methods of depreciation appropriate? Why is no gain or loss on disposal recorded under these methods?

For smaller tools, etc., where it would be too cumbersome to track each item. Group is used for similar assets with approximately the same useful lives, and composite for dissimilar assets with different lives. Because they aren't recognized.

Concerning the accounting for exploration costs in the oil and gas industry, what can be learned from the controversy?

Full cost concept Cost of drilling a dry hole is a cost needed to find the commercially profitable wells. Successful efforts concept Companies should capitalize only the costs of successful projects. 1 demonstrates the strong influence that the federal government has in financial reporting matters. 2 concern for economic consequences places pressure on the FASB to weigh the economic effects of any required standard. 3 experience with RRA highlights the problems that accompany any proposed change from an historical cost to a fair value approach. 4 controversy illustrates the difficulty of establishing standards when affected groups have differing viewpoints.

What is the difference between land and land improvements?

Land improvements include paved parking areas, driveways, etc. Land improvements are recorded separately from land, because land improvements have a limited life and are depreciated. Land is assumed to last indefinitely and will not be depreciated.

How do the objectives of GAAP and tax-rules differ when it comes to depreciation?

MACRS differs from GAAP 1. a mandated tax life, which is generally shorter than the economic life; 2. cost recovery on an accelerated basis;3. an assigned salvage value of zero.

What is MACRS?

Modified Accelerated Cost Recovery System, income tax depreciation.

Does tax depreciation consider salvage value?

No

Does depreciation provide for the replacement of assets.

No, funds for the replacement of assets come from revenues.

Is property held for sale classified as PP&E?

No, it is an investment, not used in operations.

Specific items to be capitalized?

Special purpose equipment. Material costs which increase the useful life of assets or enhance the quality/quantity of their output. Additions, improvements, betterments, replacements, re-arrangements, re-installations, and major repairs.

Which depreciation method is a function of time?

Straight line

Which method tends to be used the most?

Straight line (the easiest)

What was Bernie Ebber's defense?

That he was just a PE grad, not an economist

What are impairments, and when and how should a loss be recorded?

When the carrying amount of an asset is not recoverable, a company records a write-off referred to as an impairment Events leading to an impairment: a. Significant decrease in the fair value of an asset. b. Significant change in the manner in which an asset is used. c. Adverse change in legal factors or in the business climate that affects the value of an asset. d. An accumulation of costs in excess of the amount originally expected to acquire or construct an asset. e. A projection or forecast that demonstrates continuing losses associated with an asset.

Can capitalized interest ever be greater than the actual interest?

Yes

Is the straight line method an acceptable alternative to MACRS?

Yes

Distinguish between additions, improvements, replacements, rearrangements, reinstallations, and ordinary or major repairs?

additions - increase or extension of existing assets improvements & replacements - substitution of an improved asset for an existing one rearrangement reinstallation - movement of assets from one location to another repairs - expenditures that maintain assets in condition for operation

What is the accounting treatment of these types of expenditures?

improvements & replacements - a) carrying value known: remove cost of an accumulated depreciation on old asset, recognizing any gain or loss. capitalize cost of improvement/replacement b) carrying value uknown: 1. if asset useful life extended, debit accumulated deprec. for cost of improvement/replacement 2. if quantity or quality of asset's productivity is increased, capitalize cost of improvement/replacement to asset account rearrangement reinstallation - a) if original installation cost if known, account for cost of rearrangement/reinstallation as a replacement (carrying value known) b) if original installation cost if unknown & rearrangement/reinst. cost is material in amount & benefits future periods, capitalize as an asset c) if original installation cost is unknown and rearrange/instal. cost if not material or future benefit is questionable, expense cost when incurred repairs - a) ordinary: expense cost of repairs when incurred b) major - as appropriate, treat as an addition improvement, or replacement

Which method was used by the companies on the depreciation survey?

straight line

When natural resources are depleted but not sold, should the depletion be recorded as an expense or as inventory?

Inventory.

What four types of costs are included in the depletion base of natural resources?

Acquisition costs, exploration costs, development costs, and restoration costs.

How do IFRS differ from US GAAP regarding the accounting reporting of PP&E and natural resources?

IFRS requires component depreciation. GAAP, component permitted but rarely used. IFRS, companies can use historical cost model or the revaluation model. GAAP does not permit revaluations of property, plant, and equipment or mineral resources. In testing for impairments of long-lived assets, GAAP uses a two-step model to test for impairments. As long as future undiscounted cash flows exceed the carrying amount of the asset, no impairment is recorded. The IFRS impairment test is stricter, unlike GAAP, reversals of impairment losses are permitted.

When depreciation rates are revised, should prior years' depreciation be restated?

No. Changes in estimates are a continual and inherent part of any estimation process.

Define PP&E

Property, plant, and equipment are assets of a durable nature. Other common terms are plant assets and fixed assets.

Which assets under construction qualify for interest costs to be capitalized?

Require a period of time to get them ready for their intended use. Two types of assets: Assets under construction for a company's own use. Assets intended for sale or lease that are constructed or produced as discrete projects.

When does the capitalization period begin?

When expenditures for the asset have been made, activities for readying the asset are in progress, interest costs are being incurred.

When plant assets are sold or retired, are all gains and losses recognized?

Yes