Detailed Instructor Answer Key — Capitalization vs. expense, depreciation methods, and asset disposals.
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Fixed Asset: Long-term tangible asset used in operations, with useful life > 1 year and not held for resale.
Capital Expenditure: Cost to acquire or significantly improve a long-lived asset; capitalized and depreciated.
Expense: Cost that benefits only the current period (or is below the capitalization threshold); expensed immediately.
Assuming a 2,500 capitalization threshold:
Students should rely on both the dollar threshold and whether the cost extends life or improves capacity vs routine maintenance.
Scenario: Cost 10,000, Salvage 1,000, Useful life 5 years.
| Year | Depreciation | Accumulated Depreciation | Net Book Value |
|---|---|---|---|
| 1 | 1,800 | 1,800 | 8,200 |
| 2 | 1,800 | 3,600 | 6,400 |
| 3 | 1,800 | 5,400 | 4,600 |
| 4 | 1,800 | 7,200 | 2,800 |
| 5 | 1,800 | 9,000 | 1,000 |
Scenario: Cost 10,000, Life 5 years.
Selected years:
Students should apply the rate to the beginning book value each year and understand that depreciation is accelerated early in the asset’s life.
Scenario: Cost 20,000, Salvage 2,000, Total estimated hours 90,000.
Year 1: 18,000 hours → Depreciation = 18,000 × 0.20 = 3,600
Year 2: 22,000 hours → Depreciation = 22,000 × 0.20 = 4,400
Using straight-line depreciation of 1,800 for the year:
Depreciation Expense ..................... Dr 1,800
Accumulated Depreciation — Equipment ...... 1,800
This increases expense, increases accumulated depreciation (contra-asset), and reduces net book value without affecting cash.
Scenario:
Cash ..................................... Dr 3,000
Accumulated Depreciation — Equipment ..... Dr 8,000
Fixed Assets — Equipment .................. 10,000
Gain on Sale of Asset ..................... 1,000
Same asset, sold for 1,500:
Cash ..................................... Dr 1,500
Accumulated Depreciation — Equipment ..... Dr 8,000
Loss on Sale of Asset .................... Dr 500
Fixed Assets — Equipment .................. 10,000
If asset is scrapped with no cash received:
Accumulated Depreciation — Equipment ..... Dr 8,000
Loss on Disposal of Asset ................ Dr 2,000
Fixed Assets — Equipment .................. 10,000
Scenario:
Ending fixed assets (cost): 50,000 + 15,000 − 5,000 = 60,000
Accumulated depreciation:
Ending net book value: 60,000 − 22,000 = 38,000
Students should present a clear rollforward and ensure that balances tie between the ledger and the fixed asset register.
Distinguishing between expenses and capitalized assets is important because it changes when costs hit the income statement. Expensing a large purchase immediately lowers current net income, while capitalizing spreads the cost over several years through depreciation.
The decision affects reported profit, tax timing, and the appearance of the balance sheet. Clear, consistent capitalization policies help prevent manipulation of earnings and make financial statements more comparable and reliable for managers, investors, and lenders.
By the end of Week 10, students should be able to classify costs as capital or expense, compute depreciation under several methods, record depreciation and disposals, and reconcile fixed asset balances. This answer key supports grading, feedback, and deeper class discussion about long-term assets and their impact on financial statements.
Use this as a guide when evaluating student depreciation schedules, journal entries, and conceptual explanations.