{g,0}8.0{s} Part 8 Noncurrent Assets and Depreciation {s}
{b}Learning Objectives
In this part you will learn:
1. How plant assets are recorded.
2. The meaning of depreciation.
3. The straight-line and accelerated methods of depreciation.
4. How depreciation is recorded.
5. The meaning of depletion and how it is recorded.
6. How intangible assets are recorded.
7. Differences between income tax principles and accounting principles.
@
8.1
Earlier, you learned that {u}current{n} assets were cash or items likely
to be converted to cash within one {1,5,2} [what time period?]. Evidently
{b}noncurrent assets{n} are assets that are expected to be of use to the entity
for longer than one {2,5,2}.
*1
YEAR - OK - Correct.
- HINT - The period of time is one YEAR.
*2
YEAR - OK - Right.
- HINT - The period of time is one YEAR.
@
8.2
Tangible assets are assets that can be seen or touched. Intangible
assets are assets that have no physical substance (other than pieces of paper)
but give the entity valuable rights. Which of the following do you think are
tangible assets? [Answer (Y) Yes, or (N) No, for each item.]
{b} Current assets Noncurrent assets
1. Accounts receivable {1,3} 5. Land {5,3}
2. Notes receivable {2,3} 6. Goodwill {6,3}
3. Inventory {3,3} 7. Buildings {7,3}
4. Prepaid rent {4,3} 8. Investment in {s}
another entity {8,3}
*1
NO - OK - Correct.
N - OK - Correct.
YES - QUIT - No.
Y - QUIT - No.
*2
NO - OK - Correct.
N - OK - Correct.
YES - QUIT - {a,21,1}No, although a note receivable is evidenced by a paper that can be seen, the {a,22,1}asset is the sum of money that is promised. This is an intangible asset.
Y - QUIT - {a,21,1}No, although a note receivable is evidenced by a paper that can be seen, the {a,22,1}asset is the sum of money that is promised. This is an intangible asset.
*3
- POST - {a,21,1}{c, ,79}{a,22,1}{c, ,79}
YES - OK - Correct.
Y - OK - Correct.
NO - QUIT - Inventory IS a tangible asset.
N - QUIT - Inventory IS a tangible asset.
*4
NO - OK - Correct.
N - OK - Correct.
YES - QUIT - No.
Y - QUIT - No.
*5
YES - OK - Correct.
Y - OK - Correct.
NO - QUIT - No, Land is a tangible asset.
N - QUIT - No, Land is a tangible asset.
*6
NO - OK - Correct.
N - OK - Correct.
YES - QUIT - No.
Y - QUIT - No.
*7
YES - OK - Correct.
Y - OK - Correct.
NO - QUIT - No, buildings are tangible.
N - QUIT - No, buildings are tangible.
*8
NO - OK - Correct.
N - OK - Correct.
YES - QUIT - No.
Y - QUIT - No.
@
8.3
On the balance sheet, {u}tangible noncurrent assets{n} are often labelled
{b}fixed assets{n}, or {b}property, plant, and equipment{n}. Equipment is a {1,10}
(A) current (B) noncurrent
and {2,10} asset.
(C) tangible (D) intangible
*1
- POST - {b}{a,6,29}{r}
NONCURRENT - OK - Correct.
B - OK - Correct.
CURRENT - QUIT - No, it is expected to be around longer than ONE YEAR.
A - QUIT - No, it is expected to be around longer than ONE YEAR.
*2
- POST - {b}{a,10,13}tangible
TANGIBLE - OK - Correct.
C - OK - Correct.
INTANGIBLE - QUIT - No, equipment can be touched.
D - QUIT - No, equipment can be touched.
@
8.4
For brevity, we shall use the word {b}plant{n} for all tangible current assets
except land. Thus buildings, equipment, and furniture are items of {1,5,2}.
These assets are expected to be useful for longer than one year.
*1
PLANT - OK - Right.
@
8.5 Acquisition of Noncurrent Assets
When a noncurrent asset is acquired, it is recorded in the accounts
at its {1,4,2} [what value?] in accordance with the fundamental accounting
concept known as the {2,4,2} concept.
*1
COST - OK - Correct.
- HINT - It is recorded at its cost.
*2
COST - OK - Yes.
- HINT - It is recorded at its cost according to the cost concept.
@
8.6
The cost of an asset includes all costs of acquiring and installing it
so as to make the asset ready for its intended use. {s}
{d}
Smith Corporation paid $10,000 for a piece of land. It also paid $500 as a
brokerage fee, $600 for legal fees, and $1,000 to tear down the existing
structures in order to make the land ready for its intended use. The land
should be recorded in the accounts at an amount of ${1,-6}.
*1
12,100 - OK - Correct.
12100 - OK - Correct.
- HINT - No, the total cost adds up to $12,100.
@
8.7
In the case of machinery, transportation and installation costs are
usually included. {s}
{d}
Plymouth Bank purchased a minicomputer for $20,000. The entity also paid
$200 in freight charges and $400 in installation charges. This equipment
should be recorded in the accounts at its cost, ${1,-6}.
*1
20,600 - OK - Right.
20600 - OK - Right.
20,000 - NO - No, freight and installation are included costs.
20000 - NO - No, freight and installation are included costs.
- HINT - Including freight and installation, the cost is $20,600.
@
8.8
If an entity constructs a machine or a building with its own personnel,
all costs incurred in construction are included in the asset amount. {s}
{d}
Green Company built a new building for its own use. It spent $10,000 in mate-
rials, $30,000 in salaries to persons engaged in the building's construction,
and $20,000 in overhead costs related to the building. This building should
be recorded in the accounts at its cost, ${1,-6}.
*1
60,000 - OK - Correct.
60000 - OK - Correct.
- HINT - The total cost is $10,000 + $30,000 + $20,000.
@
8.9 Capital Leases
Most assets are {u}owned{n} by the entity. When an entity leases a
building, a machine, or other tangible item, the item is owned by someone
else (the {b}lessor{n}); the entity {1,8} own it. Therefore most leased
(A) does (B) does not
items {2,7} assets of the entity that leases them (the {b}lessee{n}).
(C) are (D) are not
*1
- POST - {b}{a,8,26}{r}
DOES NOT - OK - Right.
B - OK - Right.
DOES - QUIT - No, leasing is not owning.
A - QUIT - No, leasing is not owning.
*2
- POST - {b}{a,12,26}{r}
ARE NOT - OK - Correct.
D - OK - Correct.
ARE - QUIT - No, assets of an entity are usually things that it OWNS.
C - QUIT - No, assets of an entity are usually things that it OWNS.
@
8.10
If an entity leases an item for a long period of time, it has as
much control over the use of that item as if it owned it. A lease for a long
time -- almost the whole life of the asset -- is called a {b}capital lease{n}.
Because the entity controls the item for almost its whole life, a C{1,7,2}
L{2,5,2} is recorded as an asset.
*1
APITAL - OK - Right.
CAPITAL - OK - Right.
*2
EASE - OK - Yes.
LEASE - OK - Yes.
@
8.11
The amount recorded for a capital lease is the amount the entity would
have paid if it had purchased the item rather than leased it. If the entity
leased a machine for 10 years, agreeing to pay $1,000 per year, and if the
purchase price of this machine was $6,000, this capital lease would be
recorded as an asset at an amount of ${1,-6}.
(A) 6,000 (B) 10,000
*1
- POST - {b}{a,12,13}6,000
6,000 - OK - Right.
6000 - OK - Right.
A - OK - Right.
10,000 - QUIT - No, the PURCHASE PRICE ($6,000) is the recorded asset amount.
10000 - QUIT - No, the PURCHASE PRICE ($6,000) is the recorded asset amount.
B - QUIT - No, the PURCHASE PRICE ($6,000) is the recorded asset amount.
@
8.12
Even though the entity does not own the item, a capital lease is
treated like other plant assets. A capital lease is an exception to the
general rule that assets are property or property rights that are
{1,5,2} by the entity.
*1
OWNED - OK - Correct.
@
8.13 Depreciation
Except in rare cases, land retains its usefulness indefinitely. Land
therefore continues to be reported on the balance sheet at its acquisition
cost, in accordance with the {1,13,2} concept.
(A) cost (B) going concern {s}
{d}
If Hanover Hospital purchased a piece of land in 1960 at a cost of $100,000,
it would have been reported at ${2,-7 } on the December 31, 1960, balance
sheet. If Hanover Hospital still owned the land in 1982, it would be reported
at ${3,-7} on the December 31, 1982, balance sheet.
*1
- POST - {b}{a,8,13}cost
COST - OK - That's right.
A - OK - That's right.
GOING CONCERN - QUIT - No, that is the assumption that a business will operate indefinitely.
B - QUIT - No, that is the assumption that a business will operate indefinitely.
*2
100,000 - OK - Correct.
100000 - OK - Correct.
- HINT - No, the $100,000 is the ACQUISITION cost.
*3
100,000 - OK - Correct.
100000 - OK - Correct.
- HINT - No, the $100,000 is the ACQUISITION cost.
@
8.14
Unlike land, plant assets eventually become useless. They have
a(n) {1,9} life.
(A) limited (B) unlimited
*1
- POST - {b}{a,6,13}limited
LIMITED - OK - Correct.
A - OK - Correct.
UNLIMITED - QUIT - No, things wear out.
B - QUIT - No, things wear out.
@
8.15
Plant assets will become completely useless at some future time.
At that time, the item is no longer an asset. Usually this process occurs
gradually; that is, a portion of the asset is used up in each year of its
life, until finally it is {1,10} used up.
(A) partially (B) completely
*1
- POST - {b}{a,10,31}{r}
COMPLETELY - OK - Right.
B - OK - Right.
PARTIALLY - QUIT - No, it is eventually used up.
A - QUIT - No, it is eventually used up.
@
8.16
The period of time over which a plant asset is estimated to be of
{b}service{n} to the company is called its S{1,7,2} life.
*1
ERVICE - OK - Correct.
SERVICE - OK - Correct.
@
8.17
At the time a machine or other item of plant is acquired,
we {1,11 } how long it actually will be of service. Therefore
(A) know (B) do not know
we {2,23} its service life.
(C) can know with certainty (D) must estimate
*1
- POST - {b}{a,6,27}{r}
DO NOT KNOW - OK - Yes.
B - OK - Yes.
KNOW - QUIT - No, we can only hope!
A - QUIT - No, we can only hope!
*2
- POST - {b}{a,10,46}{r}
MUST ESTIMATE - OK - Right.
D - OK - Right.
CAN KNOW WITH CERTAINTY - QUIT - No, certainly not!
C - QUIT - No, certainly not!
@
8.18
Since some portion of a plant asset is used up during each year
of its service life, a portion of the cost of the asset is treated as
a(n) {1,7} of each year.
(A) revenue (B) expense
*1
- POST - {b}{a,8,29}{r}
EXPENSE - OK - Right.
B - OK - Right.
REVENUE - QUIT - No, this would mean it becomes MORE valuable.
A - QUIT - No, this would mean it becomes MORE valuable.
@
8.19
For example, suppose a computer is purchased at a cost of $50,000
and has an estimated service life of five years. It would be {u}reasonable{n}
to charge {1,4} [what fraction?] or ${2,-6} as expense in {u}each{n}
(A) 1/5 (B) 1/10
of the five years.
*1
- POST - {b}{a,8,13}1/5
1/5 - OK - Right.
A - OK - Right.
1/10 - QUIT - No.
B - QUIT - No.
*2
10,000 - OK - Correct.
10000 - OK - Correct.
- HINT - 1/5 of $50,000 is $10,000.
@
8.20
The process of recognizing a portion of the cost of a plant asset
as an expense during each year of its estimated service life is called
{b}depreciation{n}. The $10,000 recorded as an expense during each one of the
five years of the service life of the computer that cost $50,000 is called
the {1,12,3} expense for that year.
*1
DEPRECIATION - OK - Sure.
- HINT - This would be called depreciation expense.
@
8.21
A plant asset can become useless for either of two reasons: (1) it
may {u}wear out{n} physically, or (2) it may become obsolete. The latter reason
is called {b}obsolescence{n}. Loss of usefulness because of the development of
improved equipment, changes in style, or other causes not related to the
physical condition of the asset are examples of {1,12,3}.
*1
OBSOLESCENCE - OK - Sure.
- HINT - These are examples of obsolescence.
@
8.22
{u}Depreciation{n} of an asset considers both physical wear and obso-
lescence. It is the {u}shorter{n} of the two periods. Thus an asset with an
estimated physical life of ten years that is estimated to become obsolete
in five years has an estimated service life of {1,4} years.
(A) five (B) ten
*1
- POST - {b}{a,10,13}five
FIVE - OK - Right, five is the shorter of the two periods.
5 - OK - Right, five is the shorter of the two periods.
A - OK - Right, five is the shorter of the two periods.
TEN - QUIT - No, five is the shorter of the two periods.
B - QUIT - No, five is the shorter of the two periods.
@
8.23
Since depreciation considers obsolescence, it is {1,11}
(A) correct (B) not correct
to speak of depreciation and obsolescence as if they were two different
things.
*1
- POST - {b}{a,4,29}{r}
NOT CORRECT - OK - Yes.
B - OK - Yes.
CORRECT - QUIT - No, depreciation includes obsolescence.
A - QUIT - No, depreciation includes obsolescence.
@
8.24
To summarize:
(1) Depreciation is the process of converting the cost of an asset into
expense over the service life of the asset.
(2) This process recognizes that an asset gradually loses its usefulness.
(3) An asset can lose its usefulness for either of two causes:
(a) it wears out.
(b) it becomes obsolete.
(4) The asset's service life is the {u}shorter{n} of these two causes.
@
8.25
In the preceeding summary, no mention was made of market value.
Depreciation {1,6} related to changes in the market value of an asset.
(A) is (B) is not
This is consistent with the cost concept.
*1
- POST - {b}{a,6,24}{r}
IS NOT - OK - Yes.
B - OK - Yes.
IS - QUIT - No, it is related to cost of the item.
A - QUIT - No, it is related to cost of the item.
@
8.26
In some cases, an entity expects to be able to {u}sell{n} the plant asset
at the end of its service life. The amount that it expects to sell it for
is called its {b}residual value{n}. For example, if an entity buys a truck for
$20,000 and expects to sell it for $4,000 five years later, the estimated
residual value is ${1,-5}.
*1
4,000 - OK - Correct.
4000 - OK - Correct.
- HINT - It is expected to sell for $4,000.
@
8.27
If an entity expects that a plant asset will be worthless at the end
of its service life, the asset has {1,14} of zero.
(A) residual value (B) depreciation
*1
- POST - {b}{a,6,13}residual value
RESIDUAL VALUE - OK - Right!
A - OK - Right!
DEPRECIATION - QUIT - No, that is the expense taken each year of service life.
B - QUIT - No, that is the expense taken each year of service life.
@
8.28
Suppose a restaurant oven, which cost $22,000, is expected to have a
residual value of $2,000 at the end of its 10-year life. In this case, the
total amount of depreciation that should be recorded during the service life
of the asset is only ${1,-6}. {s}
{d}
The depreciation expense for each of the ten years would be ${2,-5}.
*1
20,000 - OK - Correct.
20000 - OK - Correct.
- HINT - Total depreciation during ten years is $20,000.
*2
2,000 - OK - Yes.
2000 - OK - Yes.
- HINT - Yearly depreciation is 1/10 of $20,000, or $2,000.
@
8.29
When the residual value is subtracted from the cost of a fixed
asset, the result is termed the {b}depreciable cost{n}. Thus, if an automobile
purchased for $10,000 is expected to have a six-year life, and to have a
residual value of $1,000 at the end of that life, $10,000 is the {1,4,2}
and $9,000 is the {2,16,3} [two words].
*1
COST - OK - Correct (or gross cost).
*2
DEPRECIABLE COST - OK - Correct.
@
8.30 Straight-Line Depreciation {s}
The annual depreciation of a plant asset with a cost of $10,000, no
residual value, and a five-year life, may be graphed as follows:
{b} Asset valuation in dollars Depreciation expense
