Characteristics of a Capital Asset
A capital asset has the following characteristics:
- It has an expected useful life of more than one year
- Its acquisition cost exceeds a company-designated minimum amount, known as the capitalization limit
- It is not expected to be sold as a normal part of business operations, as would be the case for inventory
- It tends not to be easily convertible into cash
Capital Asset Example
Capital assets usually include buildings, land, and major equipment. For example, Company XYZ might own a factory building on three acres of land, and the factory might be full of expensive equipment. The building, the land, and the equipment are all usually considered capital assets. Construction in progress, trademarks, patents, copyrights, vehicles, intellectual property, and art can also count. Capital assets are recorded on the balance sheet at their historical cost, less any accumulated depreciation (or amortization in the case of intangible assets). So if Company XYZ paid $100,000 for a piece of equipment in the factory, it would record it as a $100,000 asset on its balance sheet. But as the asset ages and becomes worth less, Company XYZ would increase the amount of accumulated depreciation associated with the equipment, so that the equipment's net book value reflects its reduced value.
Capital Assets and Capital Expenses?
When a business purchases capital assets, the Internal Revenue Service (IRS) considers the purchase a capital expense. In most cases, businesses can deduct expenses incurred during a tax year from their revenue collected during the same tax year, and they report the difference as their business income. However, most capital expenses cannot be claimed in the year of purchase, but instead must be capitalized or written off incrementally over a number of years.