How to Book a Fixed Asset Journal Entry
Aug 10, 2022 | By Michael Whitmire
We're going back to the basics in accounting, and the objective of this post is to walk you through the correct way to book a fixed asset journal entry and how to do fixed asset accounting, all the way from a new asset purchase to sale and write off. Whether you’re a bookkeeper or accounting clerk or an experienced staff accountant or CPA, it’s worth remembering the fundamentals to be sure everything is done right. But first, what is a fixed asset?
WHAT IS A FIXED ASSET?
A fixed asset is something that will be used in the business and that has a useful life of more than a year. In other words, a fixed asset is something you own that helps you operate your business and generate revenue over a longer period of time, as opposed to short-term assets like inventory and supplies, which are sold or consumed quickly.
EXAMPLES OF FIXED ASSETS
Examples of fixed assets include factory equipment, machinery, computers, vehicles, and office furniture. Buildings and any improvements to the inside or outside are also fixed assets. For example, a tenant may need to remodel the interior and pave the parking lot of a leased building. These are all examples of tangible assets — things you can touch.
WHAT IS THE FIXED ASSET ACCOUNTING PROCESS?
Unlike short-term assets, fixed assets provide economic benefit to the company for more than a year. Since the value of these assets to the company extends into more than one accounting period, GAAP rules dictate that capitalization is needed, rather than simply expensing the cost of the asset all at once. Fixed asset depreciation is the process of
HOW TO BOOK FIXED ASSET ENTRIES
As an example, we settled on a 200-year-old restored barn wood boardroom table from Michigan, which is also our token fixed asset example. Let’s walk through the bookkeeping and how this appears in the financial statements.
1. The Rules (aka GAAP)
According to GAAP, this table will only be good for seven years. This is because the table is considered a fixed asset, and GAAP classifies all fixed assets into predetermined categories or “buckets” in order to estimate their “useful life.” The table, in this example, falls under the “Furniture and Fixtures” category, which is set at seven years.
That 200-year-old wood will probably take us past seven years, but at the same time, the chairs around the table may only last two. If you look around at all the furniture and fixtures in your office, altogether they will likely last an average of something like seven years.
To get this table, our general contractor Ed contracted another table designer to build it. Say the price of the table itself comes out to $3,200. However, Ed charges us a contractor fee of 15%, which adds another $480. Shipping the table costs another $100, so that means the final bill comes out to $3,780.
2. How to Categorize Supporting Costs: Capitalized or Expensed?
Now, the table is clearly a fixed asset. We paid a price for it, and according to GAAP, it will continue to provide us with value for around seven years (hopefully a lot more).
What about the contractor fee? It’s not a fixed asset. It looks more like an expense because it was just a fee that doesn’t add any value, not something of value that we can go back out and sell. The shipping cost is similar. Do we capitalize the cost of the table and expense the rest?
Turns out, we capitalize everything – the purchase price of the table, the contractor fee, and the shipping cost. The cost of an asset includes all the costs needed to get the asset ready for use.
3. How Do We Book this Journal Entry?
Starting from when Ed sends us the invoice, this is how we will book the journal entries at each stage in the process:
Invoice: When we receive the invoice, we need to record the purchase of a fixed asset on the balance sheet. So we debit the asset account Fixed Assets since we have added value to our Fixed Assets. We also credit Accounts Payable, since we owe money but we haven’t paid it yet. Note that we’re using a single “Fixed Assets” account, but it’s likely that you’ll have several accounts for different fixed assets or groups or fixed assets, with unique account names and account numbers, to allow for depreciation and adjustments of individual assets.
Payment: A few weeks later, when we pay, we then debit that amount in Accounts Payable and credit it to the Cash account to even everything out.
Depreciation: Here’s where it starts getting nerdy. Since we are recognizing value over time from the table until it “expires” (after 7 years), we have to account for that value over time. According to GAAP, we do this monthly as a depreciation expense. Some accounting platforms, like Oracle, have tools to help track fixed asset depreciation, but in many cases you’ll need to do this manually with journal entries. Each month, we’ll take value out of the asset and add it to a new account, Accumulated Depreciation. Over the useful life of the asset, the depreciable value gets expensed over on the income statement to a Depreciation Expense account. Keep in mind that this is a paper expense that has already been paid for, so it has no impact on cash flow as it is expensed each month, it’s simply a process to record depreciation and track the book value of an asset.
Using the straight-line depreciation method, you spread out the cost over the useful life of the asset. In our case, that’s 7 years, so our monthly depreciation expense is $45 per month ($3,780 divided by 84 months).
At any point in time, we can determine the remaining value of the table — its net book value — by netting Fixed Assets and Accumulated Depreciation. After one month, the net book value of the table equals $3,780 - $45 = $3,735.
When the amount in the accumulated depreciation account reaches $3,780, the full value of our table has been recognized as depreciation expense on the income statement.
According to GAAP, we also need to consider what happens when those seven years are up to determine its salvage value. Say we estimate that in seven years, we could sell the table for $400. Then its depreciable base is $3,380 ($3,780 - $400), and our monthly depreciation expense is $40.24 ($3,380 divided by 84). After seven years, the table’s book value would equal its salvage value of $400. However, in practice, most accountants assume the salvage value is negligible and simply ignore it.
4. What if We Sell the Asset?
Say you get tired of the table after two years, and decide to get rid of it before it’s seven-year life is over. However, maybe a few wealthy homeowners decided that barn wood is the latest and greatest for home décor, and with 200-year Michigan barns in pretty high demand, the fair market value has shot up.
Now, if we were living in the U.K. or another country that follows IFRS instead of GAAP, we could elect to perform a revaluation of that asset up to its fair market value as soon as we found out about that steep increase in value. Sadly, though, GAAP does not allow revaluation.
You sell your boardroom table for $20,000. Here’s the journal entry to record the sale of the asset. When we sell the table, we write off the remaining balances in both Fixed Assets and Accumulated Depreciation in the general ledger. The difference between the book value of the asset and our sales proceeds is recognized as a gain.
|Gain on Asset Disposal||$17,300|
OTHER FIXED ASSET JOURNAL ENTRIES
Accounting for fixed assets can be a bit complicated and there are a number of other fixed asset transactions that may call for journal entries. For instance, let’s say that your barn wood boardroom table (try saying that three times fast!) doesn’t live out its days until fully depreciated or sell at a gain to a stylish homeowner. You may decide that your table isn’t big enough for your growing company and sell it along the way, debiting Cash (or Accounts Receivable) and crediting Fixed Assets.
The table may also decrease in value along the way and end up worth less than the carrying value instead of more, this is called impairment. For example, if the table is damaged in some way, you may need to decrease the book value of the asset and record an impairment loss on your income statement.
And that's how you book a fixed assets journal entry. We have more how-to's when it comes to booking journal entries, which can be found right here. And, of course, don't hesitate to reach out to us via social if you need any more help. After all, we're here to make you a better accountant.