Chapter 10:PPE
fixed assets
Assets of a durable nature used in the regular operations of a business. Also called property, plant, and equipment and plant assets. (p. 556).
How are overhead costs related to self-constructed assets accounted for? And why?
Assigning a pro rata portion of fixed overhead to the asset.A pro rata portion of fixed overhead should be assigned to the self-constructed asset because a better matching of costs and revenues results.
What are the different means of acquisition and valuation of PPE
cash discounts, deferred payment contracts, lump sum purchases, issuance of stock, nonreciprocal transfers "acquisition & disposition of contributions", and exchanges "non-monetary assets."
prudent cost
A concept that states that if for some reason a company ignorantly paid too much for an asset originally, it is theoretically preferable to charge a loss immediately. (p. 574).
Assets acquired in a lump sum purchase should be recorded at their:
Assets acquired in a lump sum purchase are recorded on the basis of their relative fair market values.
Where would you included a special assessment by the municipality for sidewalks and a drainage system?
Include in the cost of LAND.
The cost of property acquired by the issuance of securities is equal to?
The MARKET VALUE of the SECURITIES. Property acquired in non-cash transactions is recorded at the market value of the item given up or the market value of the property received, whichever is more readily determinable.
Alix Company purchased equipment for $35,000. Sales tax on the purchase was $350. Other costs incurred were freight charges of $400, insurance during shipping of $ 75, repairs of $650 for damage during installation, and installation costs of $525. What is the cost of the equipment?
The cost is $35,000 + $350 + $400 + $75 + $525 = $36,350. Repair costs are not capitalized.
Name some costs of land
purchase price, payments to clear liens, cost of leveling and grading, the main point is that they have a long term life!
When interest revenue is earned on funds borrowed to finance construction of PPE who does the interest belong to?
Interest revenue account and it is not to be used to reduce the cost of interest to be capitalized.
A plant site donated by a township to a manufacturer that plans to open a new factory should be recorded on the manufacturer's books at
It's Market Value.
The sale of a depreciable asset resulting in a loss indicates that the proceeds from the sale were
Less than book value.
When nonmonetary assets are traded in an exchange that lacks commercial substance and no cash is received what do you do with a loss?
Losses that arise in an exchange of nonmoneary assets that lacks commercial substance are not deferred but recognized!
What is an important thing to remember regarding the interest cost capitalized during the period and the actual interest cost incurred?
The amount of interest cost capitalized during the period should not exceed the actual interest cost incurred.
weighted-average accumulated expenditures
A measure used in determining the amount of interest that can be capitalized. Computed by weighting construction expenditures by the amount of time (e.g., fraction of a year) that a company can incur interest cost on the expenditure. (p. 561).
How would you allocated a portion of fixed overhead incurred during self-constuction of an asset?
A portion of fixed overhead incurred during self-construction of an asset may be allocated to the construction process. Alternatively, the company may assign no fixed overhead to the cost of the constructed asset.
The period of time during which interest must be capitalized ends when
A. the asset is substantially complete and ready for its intended use.
plant assets
Assets of a durable nature used in the regular operations of a business. Also called property, plant, and equipment and fixed assets. (p. 556).
What is Avoidable interest?
Avoidable interest is the amount of interest cost incurred during the construction period that a company could theoretically avoid if it had not made expenditures for the asset.
What is cash received in an exchange referred to?
Boot.
Name some costs of building.
Building permits, excavation costs, overhead costs incurred during construction.
Explain the Disposition of PPE.
Depreciation up to the date of disposition must be recorded. The cost and accumulated depreciation of the asset must be removed from the books, any cash received must be recorded and a GAIN or LOSS is recognized!!
commercial substance
In accounting for exchanges of nonmonetary assets, the basis for measuring the gain or loss on an exchange. If the future cash flows change (if the two parties' economic positions change) as a result of the transaction, the transaction is said to have commercial substance, and the parties to the exchange recognize a gain or loss on the exchange. (p. 568).
Special assessments for local improvements, such as pavements, street lights, sewers, and drainage systems, are usually charged to what account?
Land. Such assessments are usually charged to Land as they are relatively permanent in nature and are maintained and replaced by the local governmental body.
Name the costs that are capitalized for self-constructed assets.
Materials, labor, and overhead.
Land is part of PPE, is it depreciated?
No, Land is the only PPE that is not depreciated!
Losses on exchanges of nonmonetary assets are:
Recognized in the period of the exchange. All losses on exchanges of nonmonetary assets are recognized in the period when the exchange takes place.
capital expenditures
Expenditure whose purpose is to create a new asset or to increase an asset's future benefits. Such expenditures are to be capitalized, rather than expensed. (p. 575).
revenue expenditure
Expenditure whose purpose is to maintain a given level of services (or revenues generated from these expenditures). Ordinary repairs are an example. Revenue expenditures are expensed in the period in which they take place. (p. 575).
Name the three conditions that must be in order for the capitulation period to begin and continue.
Expenditures for the asset have been made, activities that are necessary to get the asset ready for its intended use are in progress, interest cost is being incurred.
What are the interest rate(s) used in computing avoidable interest?
rate incurred on specific borrowings for the weighted-average expenditures equal to the specific borrowings and the weighted average rate of other borrowings for the excess expenditures.
Explain how to account for PPE "acquisition" for a nonreciprocal transfers
The fair value of the asset should be used to record the asset on the company's books. A strict application of the cost principle would not result in a reasonable valuation of the asset. The corresponding credit which the company will record is REVENUE in the amount of the asset's fair value.
Burton Company sold equipment with a cost of $55,000 and accumulated depreciation of $32,000 for $27,000. The journal entry to record this transaction will include:
A credit to Accum Depr-Equip $32k. When plant assets are sold for an amount greater than their book value, a gain is recorded. The journal entry would include debits to Cash ($27,000) and Accumulated Depreciation ($32,000) and credits to Equipment ($55,000) and a gain account ($4,000).
self-constructed asset
An asset that a company constructs on its own. Without a purchase price or contract price, the company must allocate costs and expenses to arrive at the cost of the self-constructed asset. Materials and direct labor used in construction come directly from work and material orders related to the asset. To account for indirect overhead costs for the constructed asset, the company assigns a portion of all overhead to the construction process. (p. 558).
PPE
Assets of a durable nature used in the regular operations of a business. Also called fixed assets and plant assets. (p. 556).
In an exchange of nonmonetary assets that lacks commercial substance in which a gain exists and no cash is paid or received, the asset received is recorded at:
fair value of the asset given up less the deferred gain.In exchanges of nonmonetary assets that lack commercial substance not involving cash received where gains exist, the asset received is recorded at the fair value of the asset given up less the deferred gain.
A nonmonetary asset acquired in an exchange that has commercial substance is usually recorded at the:
fair value of the asset given up, unless fair value of the asset received is more clearly evident.The cost of an asset acquired in an exchange that has commercial substance is usually recorded at the fair value of the asset given up, unless the fair value of the asset received is more clearly evident.
In an exchange that lacks commercial substance in which a gain exists and cash is received, the asset received is recorded at the:
fair value of the asset received less the deferred portion of the gain.When cash is received in an exchange that lacks commercial substance and a gain exists, the asset received is recorded at the fair value of the asset received less the deferred portion of the gain.
Avoidable Interest
The amount of interest cost in a period that a company could theoretically avoid if it had not made expenditures for an asset. When a company capitalizes interest expense, the amount of interest to capitalize is limited to the lower of actual interest cost incurred during the period or the amount of avoidable interest. (p. 560).
If interest costs incurred on land which is being developed for lot sales, who does the interest belong to?
The interest belong to the land's cost.
If an exchange has commercial substance, how do you treat gains/losses?
should be recognized immediately.
Grambling Company exchanged equipment that cost $66,000 and has accumulated depreciation of $30,000 for equipment with a fair value of $48,000 and received $12,000 cash. The exchange lacked commercial substance. The gain to be recognized from the exchange is
$4,800 gain.
Crompton Company purchased land and a building for a lump sum cost of $210,000. The land has a fair market value of $80,000 and the building has a fair market value of $160,000. The cost assigned to the land is
$70,000The lump sum price incurred to acquire more than one asset is allocated among them based on their relative fair market values: ($80,000/ $240,000) ($210,000) = $70,000.
Boutique Suites Hotel Corporation recently purchased Rodeo Resort and the land on which it is located with the plan to tear down the Rodeo Resort and build a new luxury hotel on the site. Boutique Suites Hotel Corporation salvaged fixtures and wood flooring from Rodeo Resort prior to demolishing the building. The proceeds from the sale of the salvaged materials should be
recorded as a reduction of the cost of the land.Proceeds from the sale of the salvaged materials should reduce the cost of the land.
Discount on Notes Payable
A contra liability account arising when the proceeds of a note payable is less than the face amount of the note. The debit balance in this account will be amortized to interest expense over the life of the note.
Zoum Company sold manufacturing equipment with a cost of $88,000 and accumulated depreciation of $64,000 for $19,000. The journal entry to record this transaction will include:
A debit to a LOSS account for $5,000. When book value exceeds disposal price, a loss has occurred. The journal entry to record the sale would include debits to Cash ($19,000), Accumulated Depreciation - Equipment ($64,000) and a loss account ($5,000). Equipment would be credited for $88,000.
lump-sum price
A single amount paid for a group of plant assets. To determine the cost for the individual assets acquired in a lump-sum purchase, the company allocates the total cost among the various assets on the basis of their relative fair values. (p. 566).
Expenditures that extend the useful life of a plant asset without improving its quantity or quality are accounted for:
By debiting Accumulated Depreciation.
What does it mean to "capitalize" an item?
Capitalize is used to indicate that the cost would be recorded as the cost of an asset. That procedure is often referred to as deferring a cost, and the resulting asset is sometimes described as a deferred cost.
How do you classify Land that is held for speculative purposes?
Classify as Investment.
Property received through a contribution is to be recognized at its fair market value and offset with a credit entry to a:
Contribution Revenue Account. FASB requires that such contributions be recognized as revenues in the period received.
nonreciprocal transfers
Contributions (donations or gifts of cash, securities, land, buildings, or use of facilities) that transfer assets in only one direction. Companies that receive contributions should record the transferred asset at its fair value. In general, companies should recognize contributions as revenue in the period received. (p. 573).
How do you account for a contribution of an asset?
Contributions received should be recorded as revenue int he period received.
Name the different components of Acquisition of PPE Costs
Cost of Land, cost of buildings, cost of equipment, cost of self-constructed assets
How do you Find 'Book Value?"
Cost of PPE(initial cost) - Accumulated Depreciation of that specific PPE = Book Value.
How do you calculate the LOSS on an exchange of PPE? What kind of account is Loss?
Fair Value of PPE - less: Book Value of Used PPE = Loss Losses decrease ASSETS or Increases LIABLITIES. Loss increases on the Debit and decrease on the Credit. It accts like an expesne account.
nonmonetary assets
Fixed assets such as property, plant, and equipment. Ordinarily, companies account for the exchange of nonmonetary assets by recognizing immediately any gains or losses on the exchange, using the fair value of the asset given up or the fair value of the asset received, whichever is clearly more evident. The accounting for exchanges of nonmonetary assets with a gain involves assessing whether the transaction has commercial substance. (p. 568).
Explain the basic principle of interest costs during construction of PPE and how do you treat this interest?
Interest costs incurred during construction of PPE is part of the cost of getting the asset & preparing it for it's intended use. Interest cost should be capitalized & depreciated over the expected useful life of the asset.
what type of account is "accumulated Depreciation"
It is a Contra-Asset, therefore it increases on the credit and decreases on the debit side. The opposite of an asset, why? Because it is an account used to accumulate the depreciation of an ASSET!
Explain the FAIR VALUE in the exchange of PPE
Ordinarily accounting for the exchange of nonmonetary assets should be based on the fair market value of the assets given up or the fair market value of the assets received, whichever is more clearly evident. Whenever the fair value basis is used as the cost basis of the new asset, the realized gain or loss on disposal of the old asset is always recorded in FULL. However, conservatism requires non-recodnition of some gains on exchanges that lack commercial substance, in these cases the recorded cost of the new asset is less than its fair market value.
Plant assets purchased in exchange for a zero-interest-bearing note should be accounted for at the:
Present Value of the Note. Plant assets purchased in exchange for a zero-interest-bearing note are recorded at the present value of the note.
ordinary repairs
Routine expenditures to maintain plant assets in operating condition. Examples are replacing minor parts, lubricating and adjusting equipment, repainting, and cleaning. Companies treat ordinary repairs as operating expenses and charge these amounts to an expense account in the period incurred. (p. 577).
major repairs
Significant expenditures, such as an overhaul, whose purpose it to maintain assets in operating condition. Several periods benefit from major repairs, and companies should depreciate the cost of such repairs as they would the costs for an addition, improvement, or replacement. (p. 577).
historical cost
The cash or cash equivalent price of obtaining an asset and bringing it to the location and condition necessary for its intended use. Most companies use historical cost as the basis for valuing property, plant, and equipment. Historical cost typically includes the purchase price, freight costs, sales taxes, installation costs, and any related costs incurred after the asset's acquisition (such as additions or improvements) if they provide future service potential. Historical cost is allocated to future periods through depreciation. (p. 556).
Where would you included the cost of removing an old building on Land that is used for building site?
The cost of removing an old building is a cost of getting the land ready and relates to the land instead of the new building.
rearrangement and reinstallation costs
The costs of moving assets from one location to another. Companies incur such costs to benefit future periods. If a company can determine or estimate the original installation cost and the accumulated depreciation to date, it handles the rearrangement and reinstallation cost as a replacement. If not, the company capitalizes the new costs. If these costs are immaterial or if they cannot be separated from other operating expenses, the company should immediately expense them. (p. 577).
Straight-line Method Depreciation
The depreciation method that results in the same equal amount of depreciation expense for each full year over the life of the asset. It's (cost -sv)/useful life.
In an exchange of nonmonetary assets that has commercial substance, when no cash is involved, the new asset is valued at:
The fair value of the new asset. In an exchange of nonmonetary assets that has commercial substance, the earnings process of the old asset is completed and any gain or loss is recognized. When no cash was exchanged, the new asset would be valued at the fair market value of either the old asset or the new asset, as they will be equal.
capitalization period
The period of time during which a company must capitalize interest. The period lasts for as long as three conditions are present: expenditures for the asset have been made, activities needed to prepare the asset for its intended use are in progress, and interest cost is being incurred. (p. 560).
improvements (betterments)
The substitution of a better asset for the one currently used (say, a concrete floor in a factory for a wooden floor). If the expenditure for an improvement increases future service potential of an asset, the company capitalizes the cost of the improvement. (p. 576).
replacements
The substitution of a similar asset for an existing asset (e.g., a new wooden floor for an old wooden floor). If the expenditure for the replacement increases the service potential, a company should capitalize the cost of the replacement. (p. 576).
involuntary conversion
The termination of an asset's service as a result of some type of unwanted or unexpected event, such as fire, flood, theft, or condemnation. Companies report the difference between the amount recovered from the involuntary conversion, if any, and the asset's book value as a gain or loss. In rare cases, these gains or losses are reported as extraordinary items in the income statement. (p. 579).
How do you calculate the gain/loss on the 'SALE' of an Asset?
To calculate the gain or loss on the sale of an asset, you compare the amount of cash received for the asset to the asset's book (carrying) value at the time of the sale. If the cash received is greater than the asset's book value, the difference is recorded as a gain. If the cash received is less than the asset's book value, the difference is recorded as a loss. In order to have the book value at the time of the sale, you must record the depreciation expense up to the date of the sale. If the asset is exchanged instead of sold, the accounting treatment will often be different.
The cost of a replacement that extends the useful life of an asset should be debited to what account?
When an asset's useful life is extended by a replacement, the cost of such replacement should be debited to the related Accumulated Depreciation account
Name the different costs of subsequent to acquistion.
additions, improvements and replacements, re-installation and rearrangement, and repairs.
The approach for interest costs incurred during construction recommended under GAAP is to:
capitalize the lesser of actual interest cost for the period or the amount of interest cost incurred during the period that the company could have avoided if expenditures for the asset had not been made.Capitalizing the lesser of actual interest cost for the period or the amount of interest cost incurred during the period that the company could have avoided if expenditures for the asset had not been made is the approach recommended under GAAP.
The gain recognized in an exchange that lacks commercial substance and in which cash is received is computed by multiplying the total gain by the formula of:
cash received divided by the total of cash received plus fair value of the asset received.The gain recognized in an exchange is computed by multiplying the total gain by the cash received divided by the total of cash received plus the fair value of the asset received.
How do you determine the minimum amount of interest to be capitalized?
determined by multiplying a weighted average interest rate by the amount of average accumulated expenditures on qualifying assets during the period.
When interest is incurred in the purchase of land which will be used as a building site, to whom does the interest belong to?
the interest belongs to the cost of the building.