LSL Webinar “Back to Basics | Capital Assets Crash Course” presented Noah Daniels, CPA, CPFO, and James Butera, MBA, CPA, broke down the lifecycle of capital assets for local government finance departments.
In case you missed it – here, we’ll walk you through everything you need to know: from the importance of capital asset management to adding, depreciating, and disposing of assets, as well as financial reporting and setting capitalization policies. You’ll also learn best practices for each stage of the process, helping you avoid common pitfalls and ensure smooth, accurate asset tracking across your organization.
Whether you’re a beginner or just need a quick reminder, feel free to bookmark this post, save the link, or print out the steps for easy access later.
Capital assets are the big investments local governments make—things like buildings, equipment, and infrastructure. Managing them properly helps keep your financial records accurate, supports strategic decisions, and ensures you’re compliant with regulations.
Why Capital Asset Management is Important
Effective capital asset accounting is a critical component of a government’s overall financial picture, because for many governments, infrastructure, buildings, and equipment are the majority of their total assets. Managing capital assets does goes beyond the accounting — they’re critical for maintaining the government’s ability to deliver services and monitoring capital maintenance and ongoing projects can significantly improve decision-making for budgeting and future planning. However, without a solid accounting practices over the entire lifecycle of capital assets governments will struggle to effectively manage their assets and ensure those administrative functions can run smoothly and be effective.
Adding Capital Assets: Getting It Right
When acquiring or constructing a new capital asset, ensuring it is capitalized correctly is essential, as mistakes in this process can lead to inaccurate financial records. To prevent errors, it’s important to track both direct and ancillary costs. This includes not only the purchase price or construction costs but also additional expenses such as registration and licensing fees, installation and setup costs, transportation, project management fees, and any other costs needed to place the asset into service. While tracking these ancillary costs can be tricky, it doesn’t have to be overwhelming.
Here are a few tips to make the process smoother:
- Improve control over your chart of accounts: Ensure that capital expenditure accounts are consistently used, rather than spreading portions of the capital asset acquisition across different accounts. A helpful tool is to use a job ledger or project ledger, separate from your general ledger, to track costs more effectively and enhance reporting functionality.
- Track costs throughout the year: Avoid waiting until year-end to record costs associated with capital assets. Keeping up with cost tracking on an ongoing basis reduces the risk of last-minute errors and ensures that records remain accurate and up-to-date.
- Break large projects into phases: For major projects like building construction, consider separating the project into phases or asset categories (e.g., land, buildings, equipment) to make cost tracking more manageable. This method simplifies project management and helps prevent the capitalization of costs that don’t directly contribute to the asset’s value.
- Donated infrastructure: Although there’s probably no expenditures to track, a common occurrence is that infrastructure, like roads from a development project, are donated to the government. For these, you’ll want to track the acquisition costs, or simply the cost that would normally be paid for the assets, on the date it was donated. Be sure to keep documentation like developer costs, performance bonding documents, or engineering estimates to back up the valuation.
At the same time, identifying what should not be capitalized and should be expensed is important too, as overcapitalizing can inflate the value of the capital asset and lead to distorted financial statements. Oh, and audit issues.
Here’s a breakdown of common costs that should not be capitalized.
- Feasibility Studies: Feasibility studies are conducted to assess whether a project or acquisition is viable. Since these costs are exploratory and incurred before an asset is probable that it will be acquired, they should not be included in the value of the asset. Therefore, any costs incurred before an asset is probable to be acquired should be expensed, not capitalized.
- Routine Maintenance and Repairs: Routine maintenance and repairs that keep an asset in working condition should be expensed. These costs are necessary for the ongoing use of the asset but do not increase its overall value or extend its useful life. Examples include changing tires on a vehicle, replacing air filters in HVAC systems, or repainting a building. A good rule of thumb is, if it was an expected maintenance or repair when you acquired the asset, then it should be expensed.
Depreciating Capital Assets: Spreading the Cost
Depreciation is the process of allocating the cost of a capital asset over its useful life. Accurate depreciation ensures that the asset’s value is properly reflected over time, maintaining the accuracy of your financial statements. To manage depreciation effectively, consider the following tips and tricks:
- Regularly Review Useful Life Estimates: Reassess the estimated useful life of assets with actual experience by conducting asset reviews during physical inventories. Doing so will help identify assets that have different useful lives than estimated. For example, if you have fully depreciated vehicles still in operation, their useful life may have been underestimated. In contrast, equipment requiring repairs or maintenance beyond what is normal may indicate that the useful life was set too long.
- Track Depreciation and Review Depreciation Schedules: Most financial systems will automate and track depreciation, ensuring that depreciation expenses are recorded consistently and accurately. Those systems might also allow reporting to alert you when assets are coming close to the end of their useful life. However, if you’re using manual workbooks, its critical to regularly review your asset register to identify fully depreciated assets or to ensure that assets aren’t accidentally depreciated more than the value of the capital asset.
Disposing of Capital Assets: Wrapping It Up
Disposing of capital assets is a critical part of the asset lifecycle and requires careful attention to ensure financial records remain accurate. Whether an asset has reached the end of its useful life, become obsolete, or is no longer needed, following a disposal process helps maintain clear, transparent records of capital assets.
Below are best practices for identifying and processing asset disposals:
- Identify Assets for Disposal: Conduct regular physical inventories and monitor depreciation schedules to identify obsolete or fully depreciated assets. Engaging with the departments responsible for these assets can also help identify potentially outdated or assets that are being repaired or maintenance more than expected and might need to be disposed.
- Missed Disposals: During physical inventories, it’s not uncommon to discover assets that were disposed of without being recorded. In these cases, update the capital asset register and record any calculated gains or losses.
- Partial Disposals of Infrastructure: Infrastructure replacements often involve partial disposals of capital assets. These disposals, which may occur years or even decades apart, should follow a consistent methodology. For example, when specific data isn’t available, allocate the cost of the disposed portion using square footage or capacity.
Resources for You
- GFOA: Capitalization Thresholds for Capital Assets https://www.gfoa.org/materials/capitalization-thresholds-capital-assets
- GFOA: Accounting for Capital Assets: A Guide for State and Local Governments (available for purchase)
- GFOA: Estimated Useful Lives of Capital Assets
https://www.gfoa.org/materials/estimated-useful-lives-capital-assets - GFOA: Inventories of Tangible Capital Assets
https://www.gfoa.org/materials/inventories-tangible-capital-assets
Conclusion
Managing capital assets effectively is essential for maintaining accurate financial records, supporting sound decision-making, and ensuring audit readiness. Following these best practices will help you stay ahead, avoid surprises during audits, and ensure your local government’s financial stability.
For examples of journal entries and guidance to feel prepared for your auditor – check out the blog ‘Capital Assets in Action: A Crash Course with Examples for Audit Prep’.
