Accounting I 2023 Topic 07

1. Definition of non-current assets: definition and cost

A non-current asset is an asset acquired by a business at a cost, and which will be used by
the business over a period of time (in excess of one year) to assist the business to carry out
its operations.

Non-current assets are not held for re-sale in the normal course of trading.
Non-current assets may be:
■ Tangible. These are physical assets, such as land and buildings, plant, property and
equipment, and motor vehicles.
■ Intangible. These do not have a physical existence. Examples are the cost of
purchasing licenses, copyright, patents and goodwill.
■ Financial investments with monetary substance. (Securities, interest in entities.)

Tangible assets versus inventories

Tangible assets Inventories

• Recovers over the long run • Recovers on the short run
• Non-current assets • Current assets
• Not held for sale • Held for sale
• Depreciation • Cost of sales (when sold)

1.1 Initial recognition

Non-current assets are initially recorded in the accounts of a business at their cost.
The cost of an item of non-current asset consists of:
■ its cost of acquisition (purchase price) after any trade discount has been
deducted, plus any import taxes or non-refundable sales tax
■ cost of construction (mainly direct labour and material, systematic allocation of
fixed and variable overheads that incur in the construction of non-current assets
■ the directly attributable costs of ‘bringing the asset to the location and condition
necessary for it to be capable of operating in the manner intended by
management’. These directly attributable costs may include:
- employee costs arising directly from the installation or construction
of the assets
- the cost of site preparation delivery costs (‘carriage inwards’)
installation and assembly costs testing costs
- professional fees directly attributable to the purchase
- interest expense
- dismantling and removing costs.

Cost excluded from non-current assets: administration costs, discounts on purchase,

training costs, cost of idle time and inefficiency

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Accounting I 2023 Topic 07

1.2. Capital expenditure (CAPEX) versus operating expenditure (OPEX)

The difference between capital and operating expenditure:

■ Spendings to acquire new non-current assets are capital expenditures. Capital
expenditures either create new non-current assets or are subsequent
spendings on existing non-current assets. Capital expenditures always
contribute to future economic benefits.

Subsequent spendings:
■ Expenditure on a non-current asset after acquisition can be added to the
cost (CAPEX) of the asset provided that it improves the condition of the asset
above its original level. An example is expenditure on constructing an
extension to a building: the cost of the extension is capital expenditure and is
included in the cost of the non-current asset.
■ Expenditures on non-current assets after their acquisition are usually
operating expenditures. These are expenses (= running costs) and so are
included in the income statement as expenses for the period in which they are
incurred. These are operating expenditure, not capital expenditure.

CAPEX OPEX
Add value to the asset Do not add value to the asset
- lengthens useful life - maintains initial intended use of the
- improves capacity asset
- improves cost effectiveness
Examples: Major overhaul, upgrades, Examples: General maintenance, cleaning,
extensions anti-corrosion treatment, engine oil refill,

Class Example 1

Classify the following costs as capital or operating expenditure:

Cost Capital Operating
expenditure expenditure
Purchase of a new stirring machine
Transportation cost of the machine (inbound transportation)
Future machine insurance
Installation cost
Import tariff
Maintenance expense

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Accounting I 2023 Topic 07

Class Example 2

The below exercise relate to the construction of a non-current asset.

Required:
(a) identify the expenses that should be recognised in the cost of the non-current asset.
Cost element $000 CAPEX OPEX
Imported construction materials 960
Cost of administration staff 120
Materials delivery cost 31
Import duties on material 95
Idle time on construction site 63
Discounts on material puchases (96)
Site preparation 84
Interest expense 12
Construction labour force 370

After the completion of the construction subsequent expenses incurred in relation to the non-
current asset.
Required:
(b) Classify the expenses as CAPEX or OPEX
Cost element $000 CAPEX OPEX
Spare parts for overhaul work 320
Surface treatment with rust remover 1.5
Professional fees to upgrade the asset 4.6
Cost of engine greaser remover 2.4
Cost of cleaning staff 12
Training expense 6.3
Additional extension to the asset 1,470
Overhaul service cost 3.5

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Accounting I 2023 Topic 07

2. Depreciation and amortization of non-current assets

Although capital expenditure creates non-current assets and is not operating expenditure, there
are annual charges against profit for non-current assets, in the form of depreciation or
amortisation. Most non-current assets must be depreciated or amortised.

Depreciation and amortisation are expenses in the income statement. Depreciation relates to
tangible non-current assets and amortisation relates to intangible non- current assets.

Definition: it is a method of spreading the cost of a non-current asset over its expected useful
life (economic life), so that an appropriate portion of the cost is charged in each accounting
period.

Depreciable amount: is the cost of an asset (or its revalued amount, in cases where a non-
current asset is revalued during its life) less its residual value.

Residual value: is the expected disposal value of the asset (after deducting disposal costs) at
the end of its expected useful life. As residual value is exposed to significant uncertainties it
is zero in most of the cases.

Useful life: is the period over which the asset is expected to be used by the business entity.

Most non-current assets must be depreciated or amortised, although there are some exceptions
to this rule. For example, land is not depreciated.

Net book value (carrying amount) is the cost of the non-current asset less its accumulated
depreciation.

Over time, a non-current asset loses its value as depreciation is charged each year. The total
amount of depreciation charged on a non-current asset since it was acquired (or re-valued) is
the accumulated depreciation for the asset.

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Accounting I 2023 Topic 07

Class Example 3

A company purchases a manufacturing machine in Year 1 for $90,000. In Year 1, the

depreciation charge is $15,000.
Required: Record the transaction on the accounts below.

Manufacturing machine (Asset account)

Accumulated depreciation (Contra-asset account)

Depreciation expense (Expense account)

At year the end Year 1 the Net book value of the asset in the SOFP =

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Accounting I 2023 Topic 07

Class Example 4

Continuing the example, suppose that the depreciation charge in Year 2 is also $15,000.
Required: Record the transaction on the accounts below.

Manufacturing machine (Asset account)

Accumulated depreciation (Contra-asset account)

Depreciation expense (Expense account)

At the end of year 2 the Net book value of the asset in the SOFP =

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Accounting I 2023 Topic 07

2.1. Methods of depreciation

(1) Straight-line method

This is the most common method in practice, and the easiest to calculate.

Annual depreciation = (Cost of asset - expected residual value) / Expected useful

life (years)
Class Example 5

A machine cost $25,000 at the beginning of year 1. It has an expected economic life of four
years and a sale value of $1,000 at the end of that time.

Required: Complete the below depreciation schedule.

Year Depreciable amount Annual depreciation Accumulated dep’n NBV at YE

Class Example 6

A machine cost $80,000. It was purchased on 1 August Year 1 and has an expected life of five
years. Its expected residual value is $20,000. The entity’s financial year ends on 31 December.

Required: Complete the below depreciation schedule.

Year Depreciable amount Annual depreciation Accumulated dep’n NBV at YE

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Accounting I 2023 Topic 07

(2) Reducing balance method

When the reducing balance method is used to charge depreciation, the annual depreciation
charge is a fixed percentage each year of the remaining net book value of the asset at the
beginning of the year. The annual depreciation charge is therefore highest in Year 1 and lowest
in the final year of the asset’s economic life.

Class Example 7

A machine cost $100,000 at the beginning of Year 1. It has an expected life of five years, and
it will be depreciated by the reducing balance method at the rate of 30% each year. Annual
depreciation and the net book value of the asset each year will be as follows.

Required: Complete the below depreciation schedule.

Year Depreciable amount Annual depreciation Accumulated dep’n NBV at YE

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3. Disposal of non-current assets

Non-current assets are eventually disposed of:

• by sale, or
• if they have no sale value, through disposal as scrap.

The effect of a disposal on the statement of financial position (or accounting equation) is that:
• the asset (at cost or valuation) is no longer in the statement of financial position, and
• the accumulated depreciation on the asset is also no longer in the statement of
financial position.

The net book value of the asset is therefore removed from the accounting equation.

Gain / loss on disposal

There is a gain on disposal if the net sales proceeds exceed the net book value at the time of
sale (if X is greater than Y).
There is a loss on disposal if the net sales proceeds are less than the net book value at the time
of sale (if X is less than Y).

Class Example 8

A non-current asset cost $96,000 and was purchased on 1 June Year 1. Its expected useful life
was five years and its expected residual value was $16,000. The asset is depreciated by the
straight-line method.

The asset was sold on 1 September Year 3 for $48,000. The financial year runs from 1 January
to 31 December.

Required: What was the gain/loss on disposal?

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Accounting I 2023 Topic 07

Class Example 9

A non-current asset was purchased on 1 June Year 1 for $216,000. Its expected life was 8 years
and its expected residual value was $24,000. The asset is depreciated by the straight-line
method. The financial year is from 1 January to 31 December.

The asset was sold on 1 September Year 4 for $163,000.

Required: What was the gain/loss on disposal?

3.1. Accounting for the disposal of non-current assets

The double entry transactions required are as follows – for an asset recorded at cost rather
than at a re-valued amount.
(a) Transfer the cost of the non-current asset from the asset account to the disposal
account:
Debit: Other gain or loss
Credit: Non-current asset account (cost of the asset)

(b) Transfer the accumulated depreciation on the asset from the accumulated
depreciation account to the disposal account:
Debit: Accumulated depreciation account
Credit: Other gain or loss

At this point you now have the net book value of the asset in the disposal
account.

(c) Record the sale proceeds in the disposal account:

Debit: Bank or Receivables account
Credit: Other gain or loss

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Accounting I 2023 Topic 07

Class Example 10

A non-current asset cost $82,000 when purchased. It was sold for $53,000 when the
accumulated depreciation was $42,000.

Required: Show the book-keeping entries to record the disposal.

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Accounting I 2023 Topic 07

Class Example 11

Lesley Ltd bought a van costing $15,000 several years ago. On 1 March 2010 the van was
exchanged for the latest model.
At the date of exchange the old van’s carrying value was $3,400 and the dealership gave a part-
exchange allowance of $1,500.
The new van has a list price of $18,000.
Required:
Show the journal entries to record the disposal and complete the disposals ledger
account.
Calculate the profit / loss arising on the disposal.

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Accounting I 2023 Topic 07

Practical questions
Question 1

For the business of FastTrack, wholesale chemist, classify the following between capital
and operating expenditure.
Capital Operating
expenditure expenditure

Purchase of a new van

Cost of rebuilding a warehouse wall which had fallen down
Building extension to the warehouse
Painting extension to the warehouse when it is first built
Repainting extension to warehouse three years later than that done
Carriage cost on bricks for new warehouse extension
Carriage cost on purchases
Carriage cost on sales
Legal cost of collecting debt
Legal charges on acquiring new premises for office
Fire insurance premium
Cost of erecting new machine

Question 2

Napa Ltd took delivery of a computer and printer on 1 July 2016, the beginning of its financial
year. The purchase price of the equipment was $4,999 but Napa Ltd was able to negotiate a
price of $4,000 with the supplier. However, the supplier charged an additional $340 to install
and test the equipment. The vendor applies a 30-day payment term, however, now it offered
5 % discount if Napa Ltd paid for the equipment and the additional installation cost within
seven days. Napa Ltd was able to take advantage of the additional settlement discount. The
installation of special electrical wiring for the computer cost $110 and was paid by petty cash.
After initial testing certain modifications costing $199 petty cash proved necessary. Staff were
sent on special training courses to operate the PC. For this training the training company
invoiced $990 on 45-days credit. Napa Ltd insured the machine against fire and theft and
transferred from its bank account the annual fee of $49 to the insurance company. A
maintenance agreement was entered into with FixIt. Under this agreement FixIt promised to
provide 24-hour breakdown cover for one year of operation. The cost of the maintenance
agreement was $350. On 1 September 2020 the machine was ready for use. The asset is
depreciated over 5 years with a residual value of $500.

Required: Calculate the acquisition cost of the computer to Napa Ltd.

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Accounting I 2023 Topic 07

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Accounting I 2023 Topic 07

Question 3

Kungo Ltd purchased a motor vehicle on 1 April 2005 costing $22,000 and depreciates the
asset 20% reducing balance basis. Kungo Ltd sold the motor vehicle for $8,000 on 1 July
2009.
Kung has a year-end of 31 December each year.
Required:
Show the journal entries to record the disposal and complete the disposals ledger
account.
Calculate the profit / loss arising on the disposal.

Question 4

Your firm bought a machine for $12,000 on 1 August 20x1, which had an expected residual
value of $2,000. The asset was to be depreciated on straight-line basis over five years. On 1
November 20x3, the machine was sold for $8,000.

The amount to be entered in the 20x3 statement of profit and loss statement:

A. $500 gain
B. $500 loss
C. $3,400 loss
D. $3,400 gain

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Accounting I 2023 Topic 07

References
BPP Learning Media: Financial Accounting Study Text. 2016

Frank Wood: Business Accounting. 13th Edition. Pearson Education 2008

Emile Wolf International: Financial Accounting F3 INT Study Text. 2010

LSBF: ACCA Paper F3 Financial Accounting Class Notes. 2011

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